Staying Competitive: Key Focus Areas

Written by Abilash Jaikumar, Managing Director & Co-Founder of TresVista Financial Services

The desire for investments in high yielding private markets will continue  to  grow  with  a  volatile  global  macroeconomic environment, uncertainty around policy decisions of president–elect Donald Trump, accommodative monetary policies, and stagnant corporate revenue growth. This, along with richly valued public equity markets and fully valued fixed income markets, will further drive investors to stay focused on private equity as an asset class. However, in an increasingly crowded marketplace, GPs will be challenged in generating alpha as well as in differentiating their strategies to LPs.

The future will require middle-market private equity firms to become institutionalized and implement best practices found in larger funds. To accomplish this, GPs will have to be ever more efficient in how fee revenue is spent to source, execute, and manage investments. This is achievable by an increase in IT systems and outsourcing of tasks and positions of nonequity employees.

Some of the key areas GPs should focus on to stay competitive in an evolving private equity landscape are highlighted below:

1. Sourcing: Focus on the Least Efficient Part of the Market

Larger buyouts have been completed at high valuations supported by leverage, given the availability of cheap credit in recent years. The secondaries market has become more efficient as GPs are looking for truncated J Curves. Opportunities for alpha generation still remain in the middle market, which offers relative valuation arbitrage at deal closing and the potential for multiple expansion at exit. However, being discerning in this end of the market is a labor-intensive process. It requires screening a high volume of inbound deal flow while simultaneously developing a pipeline of proprietary deal flow. This can be addressed with a combination of investment in a CRM system, content marketing, and increased manpower.

2. Portfolio Management: Contribute Operational Expertise

"Buying right” is a difficult strategy to implement across an entire portfolio. Instead, sustained value creation is driven through portfolio management. Partnering with management remains a theme across many middle-market GPs, but realistically most middle-market companies can neither support the cost nor require the time of a full-time, high-powered CEO/CFO. Consequently, the introduction of operating partners is a more common occurrence since a GP can amortize the cost of experienced operating partners across its portfolio. The operating partners should be integrated as early as the deal evaluation phase to develop and execute a 100-day plan focused on existing operational deficiencies identified during due diligence.

3. Portfolio Monitoring: Data Analytics is the Key

Private equity, as an asset class, lags in the use of data analytics behind other alternative asset classes, such as hedge funds and real estate. Most GPs still rely on Excel based spreadsheets to execute limited data analytics activities. Managing day-to-day operational costs and identifying trends in operations of portfolio companies early will become important aspects of value creation. Investing in data analytics tools and creating dashboards that allow real time review of portfolio companies will become vital for private equity firms to stay ahead of competition.