How Private Equity Firms Create Value

By James Gelfer
August 28, 2013

Private equity (PE) firms have been characterized as many things, and while each firm will have its own distinctive investment approach and philosophy, they all share a common goal: creating value for their investors. A common misconception is that private equity firms create this value by asset-stripping and wantonly loading their portfolio companies with debt. In reality, these strategies often diminish the value of the company and equity of the owners (aka the private equity firm).

When a PE firm invests in a company, they do so because they believe they can enhance the value of the asset. The traditional model—and the one that garners the most attention—is acquiring a company experiencing financial distress due to poor management, lack of investment or other factors. In these cases, a private equity firm can restructure the company’s debt, install a new management team, and/or make other operational improvements to enhance operations.

Private equity firms also invest in companies that exhibit strong growth prospects. Often times, these are middle-market companies that have expanded as far as their current resources and management team can take them. For these companies, teaming with a PE firm provides access not only to capital but also a wealth of invaluable resources, such as operational executives, industry experts, new suppliers, economies of scale and access to new markets. A private equity sponsor can leverage its extensive network to improve management, logistics, infrastructure and other essential components of a business that can take years to develop separately.

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