Private equity firms that have mastered data-powered investing are at a tremendous advantage when it comes to evaluating companies, driving their portfolio companies towards growth, and managing successful exits. On the other hand, those private equity managers who are not working with advanced analytics techniques and are still dependent on Excel spreadsheets don't have the operational or strategic insights that are required throughout the investment lifecycle.
The terms data analytics, machine learning, and artificial intelligence (AI) are frequently heard in the context of private equity investment today. How can these technologies affect the outcomes of private equity investments and why should PE firms use portfolio analytics? Here are the top 5 reasons.
1. Better investment decisions
Portfolio analytics enable private equity firms to consider a large volume of data and compare different companies that are vying for investment. Selection can be done in a structured and analytical manner. The projections submitted by company founders can be viewed in the context of data about markets, geography, and economics. Predictive analytics can be used to build on the past performance of the companies and estimate their growth potential.
Data analytics is helpful to validate assumptions about consumers and competition. The PE firm can also build models based on their own investment history to identify the factors that lead to more successful exits, and select companies with a higher probability of success.
In these ways, portfolio analytics is critically important to enable private equity managers to quickly analyze a larger number of proposals, take faster decisions, and increase the probability of maximizing their returns.
The presence of a data culture can also be a good indication of whether the company's leadership is professional and transparent. If the private equity managers see a resistance to data-driven decisions and visibility, they may anticipate that future collaboration and value-building could be a challenge.
2. Drive strategy based on insights
The experience and perspective that private equity managers bring to each of their portfolio companies are of great value to the company founders, who are often so busy dealing with operational detail that they cannot take a strategic view.
Today this experience is further enhanced by insights drawn from data. By using portfolio analytics tools and techniques, private equity managers have access to insights about consumers, trends, markets, regions, and more.
These insights help to formulate strategies about positioning and which market segments should be in focus. They also help to decide the direction of product development. There is always a risk that assumptions about consumers and markets may be overturned by competitors who create new and disruptive offerings. Data can help to analyze the impact of changes, the nature of risk, and define mitigation strategies.
Powerful portfolio analytics platforms present data in the form of interactive visualizations, enable deep dive into the data, and can even present insights automatically. That means that they can present the factors that are affecting results without requiring a complex process of querying on the part of users. Such portfolio analytics tools enable strategic decisions and pivots with speed and agility.
The insights are more valuable because it is now possible to learn from data that is internally generated as well as external data such as market surveys and research.
Once reliable data is available, private equity managers can guide each company to work with machine learning and build what-if scenarios and predictive models. These help to make decisions about pricing, product strategy, demand forecasting, resource optimization, and capacity creation, and build competitive differentiation.
3. Operational excellence with benchmarking
The private equity firm has data about all the portfolio companies. With the help of a portfolio analytics platform, PE managers can benchmark the performance of a particular company against industry standards as well as their own portfolio. In this way, portfolio analytics can help private equity managers to ensure that relevant operational KPIs are tracked and achieved.
Many innovative startups that private equity firms invest in have created business models based on digital technologies. These do generate a lot of data such as user analytics, subscribers, downloads, views, clicks, and so on. A portfolio analytics solution brings the operational team and investment managers on to a common platform to discuss with data and insights, decide which aspects of the data is relevant, consider the insights and their impact.
A data platform that caters to operational managers as well as private equity managers reduces the reporting burden on the company and enables smoother collaboration. The integrated team is now in a better position to achieve revenue, business, growth, and profitability targets.
Data often reveals patterns, trends, causes, correlation, and predicts future outcomes that are surprisingly different from gut feel or guesswork. This is how a data-driven culture increases the probability of success.
4. Visibility across the extended enterprise
The private equity firm must gather data from all portfolio companies and also provide visibility to limited partners. When each portfolio company uses a different system and format to report, consolidating the performance of the portfolio becomes a nightmare. The PE managers stipulate the format in which they want reporting, so now the operating managers have to prepare those formats manually. Data that is collated into spreadsheets and updated manually, with a lot of effort, becomes outdated almost as soon as it has been entered!
In order to overcome these problems, a data analytics platform that is designed for the extended enterprise - meaning that the private equity firm is at the center, with limited partners and portfolio companies sharing data with it, offers a solution. All stakeholders can refer to a single source of truth, and slice and dice data based on their specific objectives. Each manager has access to updated data, yet no one is burdened with the task of manual data entry, collection, and presentation.
PE managers can view and analyze their entire portfolio, and study how their investment is performing in each company. This uncovers insights about sectors, business models, consumers, and regions, that empower the private equity managers to drive growth across the portfolio.
5. More successful exits
The private equity firm has to plan its exit from the investment by selling its stake to another private investor or by taking the company to an IPO. Planning for this exit takes months of preparation during which time the private equity managers create a compelling story as to why this asset represents a great opportunity.
When this story is backed up by convincing data it becomes a far stronger proposition for potential investors. The leadership of the company and the investment team have to co-operate and collaborate in order to build this exit strategy. The data analytics platform can play a key role to create this consistent and compelling story, backed by numbers.
If the private equity firm has not deployed an advanced analytics platform, then putting together the data for negotiations during the exit process is extremely time-consuming and unlikely to be as effective.
Advanced analytics help to build the growth projections, demand forecast and outcomes from different strategic options to present to prospective investors. The queries of the potential investors can also be answered fast and easily as reliable data is available. In case of any change in market realities, projections and plans can be modified quickly. This is very important to build a credible plan for potential investors, as a story that is not in sync with reality will damage the credibility of the pitch.
Each potential investor has their own profile and approach. Private equity managers may want to customize the presentation based on the profile of the potential investor. The availability of data and powerful analytics make it easy for private equity managers to generate relevant data and present it so as to support the tailored pitch.
Data analytics makes a difference to the value that the private equity firm gets in return for their investment by helping to decide the correct timing of the exit. Valuations can vary greatly during market highs and lows. So private equity managers can take the help of data analytics to recognize market trends and indicators, and decide the window when valuations are likely to be the best.
Portfolio analytics is of critical importance during all the three phases of an investment - firstly when making a decision to invest in a particular company, secondly when building the value of this asset, and lastly, maximizing the returns during the exit.