4 minute read 7 Jun 2018
overhead shot marathon

Why private equity firms need to keep the end in sight

By

Charles Honnywill

EY UK&I Divestiture Advisory Services Leader

Transaction Partner. Experienced in complexity and international issues. Passionate about giving back to the community. Ex-rugby coach; now focused on charitable work.

4 minute read 7 Jun 2018

PE firms must customize the vendor package - hoping for broad market appeal won't work.

Produced by (E) BrandConnect

Volatility and high valuations in today’s markets mean realizing an acceptable return on an investment from market expansion alone is far from ensured.

These difficult conditions are impacting the rate of private equity exits as investors cast a cautious eye across the market. While exits ticked slightly higher in 2017 — the result of a strong market for IPOs and continued interest in M&A by corporate acquirers — the exit super cycle that peaked in 2014 continues to wind down.

From Day 1, private equity firms are under intense pressure to generate returns, straight through to an IPO, trade sale or other liquidity event. They are challenged to increase the credibility of the asset in the market, avoid surprises, navigate multiple exit scenarios, drive top-line growth and keep a close eye on costs. In short, planning for an exit starts with the purchase.

“We start the business on its exit path early,” says Charles Honnywill, EY UK & Ireland Divestiture Advisory Services Leader. “That gives us a strong sense of the shape of the business and time to explore potential buyers.”

Viewing disruptive forces as a chance to market to a wider array of buyers is a significant opportunity.

Emerging opportunities

Ongoing market disruption can present many opportunities, as EY illustrates in its latest Global PE Watch. “Ten years ago, who would have considered that Amazon would someday have an interest in Whole Foods or that Walmart would acquire Bonobos? Strategic acquirers are casting wider nets as they look to remain relevant in a world of increasing disruption and uncertainty. Viewing disruptive forces as a chance to market to a wider array of buyers is a significant opportunity.”

Opportunities and threats from digital disruption increasingly need to be factored in because these will affect how the asset is positioned for sale. “Think back to the rapid emergence of Uber technology, which has clearly impacted the transportation sector,” asks Fredrik Bürger, private equity operating partner at EY UK & Ireland. This knowledge about emerging technology transforms how one views such competitive arenas. Indeed, companies now are regularly conceived, launched and able to disrupt entire industries in less time than the average private equity holding period.

Identifying the buyer

While a potential buyer pool will evolve over time, vendors cannot start working on it early enough. “Targeting as many as five buyers from the outset, creating bespoke equity stories for each and refining this through the holding period are essential steps. PE firms today must customize the vendor package — hoping for broad market appeal won’t work,” says Honnywill.

This means identifying information gaps and key buyer questions, targeting timelines that maximize returns and aligning key stakeholders. Whether the exit is conducted through a single buyer or auction process, working with potential buyers through the holding period is invaluable.

John van Rossen, EY EMEIA Private Equity Leader, refers to an example from an EY project in which a proactive origination strategy enabled a private equity firm to beat a corporate bidder at auction. That corporate rival immediately became a leading potential buyer of the asset upon exit.

“From very early on, the sales team was in touch with the corporate, determining what they needed from the acquisition,” he says. “There was an ongoing dialogue with the corporate about what it needed to look like on exit in terms of operations, client base and the product shelf.”

The maxim is start early: focus on exit at the beginning, devoting resources to keeping contact with potential buyers to create a business that fits their requirements. To offer the best price, any potential buyer will need to be convinced that the asset is a strong fit, able to generate ongoing value for its new owners over the long term.

EY research found that the equity return from private equity exits is more than three times that of public company benchmarks; the additional return above and beyond public comparables is largely a function of strategic and operational improvements in the company.

But the value of the latter can only be realized if purchasers are convinced that the improvements are a good fit for their needs and, hence, worth paying for. The best way to ensure that is consulting with them over a protracted period.

Knowing the road

With a global scope and deep sector-based experience, EY integrates market data and its own proprietary sources to advise management teams on when to start the exit process and with whom. “It’s all about positioning the asset and preparing well in advance,” says Jackie Kelley, EY Americas IPO Markets Leader.

Exit strategies also need to be flexible and nimble to accommodate opportunistic buyers, she stresses. “With strong equity market valuations and M&A values just above 10 times, if you lose one or two turns because the market comes off, it’s very hard to get that back, so you need to be ready to move quickly when the window is open.” Given recent public market instability, this is even more important.

EY offers exit readiness support that includes a focused review of a business and its readiness for sale, IPO or other transaction, as well as an objective view of the business from the likely buyer’s perspective. It comprises practical, prioritized advice about the timing and positioning of an exit, which has a material effect not only on an asset’s realization value in the short term, but also it’s potential for long-term sustainable growth.

Produced by (E) BrandConnect, a commercial division of The Economist Group, which operates separately from the editorial staffs of The Economist and The Economist Intelligence Unit. Neither (E) BrandConnect nor its affiliates accept any responsibility or liability for reliance by any party on this content.

Summary

The maxim for PE is start early: focus on exit at the beginning, devoting resources to keeping contact with potential buyers to create a business that fits their requirements.

About this article

By

Charles Honnywill

EY UK&I Divestiture Advisory Services Leader

Transaction Partner. Experienced in complexity and international issues. Passionate about giving back to the community. Ex-rugby coach; now focused on charitable work.