• Rajesh Sennik, Partner |
4 min read

Private equity (PE) activity and deal valuations are at historically high levels. It’s estimated there were around 6,000 PE deals in 2021, with a cumulative value of over £800 billion. The high level of competition in the market has boosted returns, too, drawing even more investment into the sector.

PE equity funds are undeniably a force for good. According to Invest Europe, the world’s largest association of private capital providers, PE-backed companies in Europe alone employ over 10m people, or 4.3 percent of the workforce. In 2019, these companies enjoyed a job creation rate of 5.5 percent, compared to just 0.9 percent across the European jobs market as a whole.

As PE deal volumes, values and returns have increased over the past year and more, so too have expectations. This has led to a sharper focus on the value creation process as a tool for PE firms to obtain the optimum value from their investments.

In our 2022 Market Insights Survey, we explore the changing nature of the levers that are driving value creation and value creation planning in PE transactions. It reveals some valuable insights, as well as some key lessons to take away.

When it comes to value creation, while the results have been very strong, our research indicates that investors are only achieving a fraction of the value creation possible from the deals they undertake. Based on the results from the survey, only 1 in 10 PE firms said they reached the “full potential” of an investment 90 percent or more of the time.

This is down to multiple factors, the key one being that many PE investors generally focus on ‘traditional’ value creation levers, such as buy and build, increasing efficiencies, geographic expansion, and people and talent. They have the possibility to explore a much more comprehensive set of value levers through the explosion of data available.

Recently, we have seen increased competition for assets and much better availability of unique data sources coupled with advanced analytic tools. Deal speed analytics is increasingly a reality.

This is ushering in a significant shift in emphasis in PE deals from ‘risk avoidance’ to ‘creating value’. Value creation thinking is now taking place earlier in the deal process with more sophisticated tooling and diligence to assist, while value creation specialists are increasingly influential and playing a more integral role in deal processes, especially in the US and UK PE markets.

The benefits of this approach are clear. In our 2022 Market Insights Survey, fully 80 percent of responses stated that value creation often or always helps them rank better in a competitive auction process.

In fact, one of the large global funds we work with takes the view that when they come second, it is because the winner has a better value creation plan.  Value creation is increasingly the difference between being successful or not in the transaction.  It also helps establish a route to higher realised returns – a good value creation helps achieve year 1 budget. The chances of a successful investment are then magnified and less dependent on favourable market conditions or luck.

So, what does such a value creation approach look like in practice?  And how can the true potential of an asset be captured?

Based on our analysis, survey and experience across c. 300 value creation projects globally, it’s possible to identify several key themes which PE firms should consider when they are evaluating the development of their value creation playbooks:

  • Firms should go deep, go early in identification of value levers.  The more time that passes, the more the opportunity set is likely to be bound or limited.

  • Firms should incorporate both revenue and cost levers in a balanced approach to their value creation planning.  Our data shows the multiples are significantly higher for such a balanced philosophy.

  • Explore the full range of value levers possible.  Seek to constantly codify and case study value levers as you identify them.

  • Develop the talent and tools to apply advanced analytics to enable more secure quantification of identified value levers.

  • To do so, they need to work closely with the management and advisors with the specialised knowledge needed to validate the ultimate underlying investment thesis.

Where do PE firms go from here?

As PE firms look to the future, the next frontier will undoubtedly be how they can further leverage their entire portfolios to enhance returns.  While PE investors are relatively prolific when it comes to engaging with deals colleagues within their own firm, it is much less common for management teams from different businesses across their portfolios to interact.  It is even less common for PE firms to leverage the power of their entire portfolio to rationalise their procurement structures. 

Moving forward, we anticipate more sophisticated data modelling will allow firms to further optimise their entire portfolio.