The wheels of private equity are starting to turn

Far brighter people than me are writing reams and reams of comment about the private equity world. IPOs have come, and gone. Deals have almost, but not quite, happened. Indications are positive, and then opaque. Values are up, down and all around.

However, some pertinent facts still remain. Private equity has to be an ownership structure that works. An unloved business unit that gets lost in a large corporate can flourish when it is given the care, attention and management team it deserves, and a three to five-year time horizon has become a fairly long-term outlook in the world of investment.

That’s not to say all private equity is good. Those who were looking at businesses on the basis of gearing, leverage and refinancing have found the current market doesn’t suit them. But those who want to buy businesses and improve them are delighted, because the model to which they have always worked has suddenly become fashionable again.

Now, I’m not going to give a list of those companies that fit one group and those fitting another. To be honest, there is a decent chance I won’t need to, and a few years trading will do that for me. However, there are some important things to bear in mind when you are looking at potential opportunities in this space.

One of the key indicators is the level of equity put into the deal. Another is the level of change in the management team. If they are on their third CEO, you would need to assess the strategic direction of the business very carefully.

The most essential indicator is the timing for the deal. There are FDs helping to run businesses that seem incapable of turning a profit on exit. And there can’t be many more depressing situations than knowing you are running a business as well as you can, seeing all the indicators trending up, knowing that there is no more cost to trim, and still seeing the value of the business falling well short of the price paid. It’s negative equity on a whole new scale.

And that’s why I’m writing this article, because I know those opportunities will look very appealing. But then so does a Ferrari. It’s just if the tyres are paper thin and the road ahead is rocky, you might be better off with a Volvo…

Mark Freebairn is a partner at Odgers Berndtson