Finance August 28, 2020 Last updated August 28th, 2020 2,000 Reads share

4 Key Areas Private Equity Firms Consider When Investing in a Company

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Private equity firms invest anywhere between $50 million and $1 billion in companies in nearly 50 percent of the deals. Naturally, this requires extensive research and extreme diligence, before the firms put their money in. PE firms put a lot of emphasis on research. Not only this helps the firms meet the goal of their investment effectively, but also:

1. Increases the value of their investments
2. Accelerates the growth of companies
3. Gives high returns on investment

Investments, therefore, are essential for both sides.

A private equity firm considers several factors while investing in a company. Among these factors, a handful is vital. After prolonged research, companies zero in on growth-oriented companies that have a few common traits, which makes PE firms buy them.

Whether you’re a private equity firm or a start-up/company seeking funding, the following pointers will benefit you.

Good Management Teams

Strong management team is the foundation of growth-oriented companies. So the best private equity firms look for companies that have a strong management team. It’s a decisive factor for private equity firms. Once the firm invests in a company, it will not be available for managing daily operations. Therefore, PE firms look for companies that have strong management teams. A firm may also look to change a company’s management team, but if that’s not that case, a good management team will be a priority.

A strong management team has the following qualities:

  • Knows how to transform business models that reflect the needs of consumers and businesses.
  • Capable of changing the company’s structure to create efficiency and downsize whenever necessary.
  • Prove continuous growth through strategic partnerships, alliances, venture (and even customer retention)

In a nutshell, private equity firms need their team to be agile and swift to incorporate changes as and when required for the growth of the company.

Realistic, Yet Ambitious Plans

The need for investment arises from the ambition for growth. Firms wouldn’t invest in a company that doesn’t plan to grow in whatever way they can. This requires a sound business plan which incorporates realities of the market and utilizes resources. A proper business plan:

  • Envisions sales growth
  • Projects profit
  • Provides facts and evidence for statements
  • Is coherent

Additionally, a successful business plan:

– Is unique and differentiates itself from competitors
– Has a strong mission, vision, and value statements
– Has an equal emphasis on short and long term goals
– Has equal consideration for competition and opportunities
– Has contingency plans for uncertain times

Potential for Growth

From the ambitions of a company, it might look that a company is strongly growth-oriented. However, private equity firms don’t fall for that. Instead, they measure the growth potential. PE firms are risk-averse and put their teams to estimate the scope for growth, by:

– State of the market a company is operating in
– Size of the market
– The willingness of management to change
– Past successes
– Consistently growing customer base

Venture capitalists are known to invest in start-ups and risky businesses, but a few firms can put themselves at risk as well. Though the above measures can’t guarantee 100 percent security or certainty in growth, the above measure gives a high probability for growth.

Research and Development

This may not seem as straightforward as it should be, but the way a company conveys its research and development says a lot about a company. This fact is fully utilized by PE firms to gauge a company.

Two major things that companies look for when it comes to research and development are:

1. The research and development of the target company in comparison to competitors and whether it shows potential for growth or not.
2. The right amount of money that the target company would need for research and development to further the growth of the company.

Final Words

This is by no means the only criteria for PE firms to assess the suitability of an investment in a company. Standards can differ across industries, from firm to firm and trends in the industry. However, the above criteria will be indirectly utilized.

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Ariaa Reeds

Ariaa Reeds

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