Private Equity Value Creation
You have a deadline. In 4 years you need to sell the company you are acquiring for at least twice what you paid. If you don’t, if it takes 5 years or you get less than 2X your money multiples and IRRs will fall. Your investors and partners will be annoyed and you won’t get paid. What are you going to do?
Radical Consulting – we help private equity firms maximize the value and returns of their portfolio companies.
Private Equity Consulting: Value Creation
A key service of our practice is combining our cost reduction and strategy skills to drive EBITDA growth to increase the value of portfolio companies. Every dollar of unnecessary cost or cost-less revenue increases your EBITDA and your potential return by 7-10X.
Historical Drivers of Private Equity "Alpha" Returns
The primary drivers of historic private equity gains have been the result of three things.
- Multiple Expansion – Buying at 5X and selling at 7X
- Market Timing – Buying into an industry at a trough and selling at a peak
- Leverage & Tax Shield – Tax incentives on debt
- EBITDA Improvement – Typically via sales and potentially margin growth
However, in the last 5-6 years, multiple expansion opportunities have dwindled. Prices of companies have continued to grow and competition among PE firms have created bidding environments that have led to aggressive pricing limiting the multiple arb potential.
Another value creator was market timing. In a market that seems to just keep going up attempts at market timing or investing in down-trodden industries are fraught with peril.
Leverage, is of course, here to stay – even if decreasing slightly – but corp tax rate reductions and increased costs of debt will decrease the “automatic” value.
Finally, there is value, i.e. EBITDA improvement historically the specialty of some firms which have seen phenomenal value gains over the years is for most funds is primarily the realm of price increases.
What is a fund to do?
Well, we’ve seen two things. One the rush to the middle market and lower middle market (and even ultra low, middle market) which we’ve talked about before where multiples are still generally lower (7-8X, 6-7X). There’s also been renewed interest in buy & build strategies – buying three companies at 6X, in-organically doubling revenue and trying to sell them for 8X.
The last, best and least understood option is operational value creation.
That’s jargon, what we mean is working with the portfolio company, and it’s executives to increase sales, reduce costs to grow margins and profitability. To truly partner with them to build a better, more valuable business. The value is easily quantified. Every $1 saved that drops to the bottom line, or additional $1 you sell is an additional $7-10 in value. Small continual changes to the operating levers that lead to 2-5% in annual improvements can yield 15-25% in returns.
That also just so happens to be exactly what we help our clients do, call us and let’s see how we can help.
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support beyond the "100 Day Plan"
Acquiring a company is inherently risky. We can help mitigate that risk by uncovering problems during your due diligence. By analyzing and modeling cost reductions, revenue and profitability improvement initiatives you will reduce your risk and maximize value from the very beginning. We’re also not afraid to advise you to walk away.
This is the core of operational value creation. Following acquisition we go beyond 100-day plans, driving real change in the company to increase cash flow, reduce costs, in the short term to support aggressive revenue and EBITDA growth in the long term via our hyper-focused 6-12 week engagements. We’ve also run long-term projects to re-engineer operating models, directly lead the turnaround of the organization, perform merger integrations and carve-outs.
This phase is all about making the portfolio company as attractive and valuable as possible to help ensure a quick and profitable sale. We know what you need to do to maximize the sale price and multiple of your portfolio companies.