CFO Magazine: How Private Equity is Driving Value

By Vincent Ryan

A new study from Ernst & Young shows that in recent years private-equity-owned firms have outperformed their publicly held peers with the returns they generated for investors — and that organic revenue growth was a big reason.

From 2006 to 2012, E&Y found in its recent study of North American PE deals, PE-backed firms spawned a return of more than five-fold that of investor returns on publicly held companies.

About half of that return (realized when the PE firm sold its ownership interest) came from strategic and operational improvements. For the most part, E&Y found, it was growth in EBITDA (earnings before interest, taxes, depreciation and amortization) that created this value for PE firms’ acquisitions — in particular, growth of the organic variety.

At companies that exited their PE owners in 2010-2012, for example, organic-revenue increases accounted for 45 percent of EBITDA growth, up from 39 percent pre-recession (2006-2007). (Click here for an interactive chart.)

E&Y says the results stem from PE firms changing the business models of the companies they own. In earlier decades, financial sponsors focused on making money on the increase in the acquisition’s market value — that is, timing a buyout to enable an exit during an upturn in the capital markets.

“In the 1990s and the 2000s, if PE firms bought at the right time and then held the investment, they made money based on the multiples expansion in the public markets,” says Jeffrey Bunder, global private equity leader at Ernst & Young. Now, however, PE firms are concentrating on driving earnings growth, he says.

In almost all of the PE deals E&Y studied, for instance, once the PE firm acquired the company, the financial sponsors had a 100-day plan to either enhance revenue (52 percent) or generate cash (32 percent). “It’s more of an operating model: getting the right management team in place, driving business expansion into different geographies, adding products and expanding through acquisition,” Bunder says.

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