An analysis of value creation in Private Equity portfolios

Abstract

Academic literature on the analysis of value creation in private equity industry is still in its infancy. The approach to value attribution is still a contended subject by both academic and professional writers. The purpose of this research was to determine how South African Private Equity industry generates value in portfolio companies. This was achieved by gathering 24 transactions from institutional investors and private equity firms and disaggregating their returns into value drivers. Identified value drivers were financial leverage, revenue growth, EBITDA multiples and EBITDA margin. Contrary to the common belief that the private equity model is more dependent on cutting costs and less on growing businesses, the findings of the study revealed that revenue growth was the biggest relative driver of value while operational efficiency, the least. Results regarding the importance of financial leverage in value creation in the last 10 years could not confirm the popular argument which states that as the private equity model matures the industry is moving towards other value levers. While descriptive statistics confirmed that the level of gearing and size of companies influence the relative importance of EBITDA margin and revenue growth, results from statistical tests were in several cases inconclusive.