Ron Sansom is a Managing Partner and the Global Executive Operating Partner at The Riverside Company, an international private equity firm. Ron leads Riverside’s global team of more than 20 operating partners. In our ongoing series of Q&As and analysis concerning private equity portfolio management, he generously shared his thoughts on the current state of PE strategies, as well as their evolution over the past few years:
As the PE industry appeared to adopt more of a buy-and-build strategy over 2014, did you see the shift more of a response to market conditions or the natural culmination of value creation aspects of general PE strategies evolving to focus on operational performance?
Both of those things are likely drivers of this shift, but it has been taking place for a number of years. Every PE firm around today knows that you cannot generate successful results through financial engineering or any other tricks that might have worked in the go-go days of the industry. All of our great deals have come from creating true and lasting value, and the best way to do that is to have a laser focus on operational performance. To get a bigger and better price after a hold, one must create a truly bigger and better company.
With the proliferation of add-ons over the last few years, what would you say makes them most attractive?
Add-ons are attractive for many reasons. In the high purchase price multiple environment of recent years, add-ons have been a great way to mitigate high multiples, as add-ons can often be acquired for lower multiples. They are also a great way to add immediate value whether it’s through expanding geographically, adding customers, or delivering new products, services or know-how. We’ve long been enamored with add-ons at Riverside, and most of our successful exits have included one or more add-on acquisitions.
Have you seen any significant shifts in portfolio management practices by PE teams over the past few years? If yes, what do those changes mainly consist of? If no, why do you think that is?
I can only speak for Riverside’s teams, and the lone shift I would point to is that we’re even more proactive than we were before from an operating perspective. Our operating teams, which once only addressed portfolio company challenges, is now part of the deal sourcing process and helping evaluate opportunities. From the first day we invest in a company, we have a laser focus on every way we can possibly add value during the hold period. This sense of urgency has served us well.
To what extent do you incorporate ESG concerns in your portfolio management?
It’s easy to pay lip service to ESG issues, but we’ve honestly learned over the years – sometimes the hard way! – that values matter and values affect the bottom line. We grade every prospective portfolio company on ESG metrics, and these grades have a significant impact on our decision to invest. Well-run companies generally score high on ESG, so paying attention to those factors is simply a form of good due diligence.
What other shifts in PE value creation have you observed as of late, and how have you changed your own practices (if you have found the need to do so)?
We’re perhaps even more focused on some things we were already doing: building through add-ons, for example, or our more comprehensive operating approach. For us it was a series of small shifts rather than a significant change.
Do you expect the increased focus on operational performance improvement as a main component of value creation to continue into 2015 and beyond?
I think PE firms will all need to deliver much more than capital if they are to generate solid returns. To truly add value, we must deliver a suite of resources, starting with great operating capability.
Where do you see the most opportunity for buy-and-build with regard to industry? Related to that, what are the growth drivers that make that industry particularly attractive to PE firms?
Riverside is a generalist firm but we have eight industry specializations, and many of our investments have things in common even if they do wildly different things. We are very much growth-oriented investors, so we focus heavily on both the opportunity to grow organically and through accretive add-on acquisitions. Very broadly speaking, companies that come with a strong management team and possess a secure recurring revenue stream do well under our selection process, while material customer concentrations and poor systems and infrastructure materially temper our enthusiasm.
When positioning for an exit, especially in today’s environment, what are the most important factors you’ve seen PE firms increasingly focus on? Which multiple arbitrage strategies do you see employed most often?
PE firms have always been focused on the portfolio company’s management team and we don’t see that ever changing. With the high purchase multiple environment as of late, we have seen firms become even more focused on organic growth and/or a very clear strategy to grow strategically via add-on acquisitions. Regarding multiple arbitrage, it is becoming increasingly risky to assume that building a bigger and better company will lead to multiple arbitrage at exit given today’s high entry multiples. However, as discussed above, using smaller and highly strategic add-on acquisitions can reduce blended acquisition multiples and, if the strategy is executed well, can lead to arbitrage at exit.
Featured image courtesy of Wikimedia Commons user Tuxyso.