Unlocking Value in Portfolio Companies in Uncertain Market Conditions

Navigating the complexities of today's markets has made it harder than ever for private equity (PE) funds to deliver on expected investment returns. Continued uncertainty about the macroeconomic outlook in an inflationary environment has put many company valuations under pressure. With dealmaking outpacing exits in recent years, and the higher costs of capital now impacting deal economics, we’re seeing an overall slowdown in exits. Paired with the pressure to invest committed capital from limited partners, this presents several challenges for PE funds.

More than ever, PE funds must develop a strategic and robust plan that delivers operational value creation during the asset’s holding period.

At L.E.K. Consulting, we work closely with mid- and large-sized PE funds and have recently observed a shift in strategy from focusing on multiple expansions to prioritising operational value creation.

This article outlines the cornerstones of L.E.K.’s Value Creation Playbook, which supports PE funds with a structured, proven approach to rapidly identify value creation potential across commercial, operational, cash conversion and transversal levers. Identified and quantified initiatives are then consolidated into actions for the asset’s management team to implement.

How does L.E.K.’s Value Creation Playbook add value?

L.E.K.’s Value Creation Playbook is based on our experience working with PE funds and understanding the time criticality of one key question: ‘How can we create value with this asset?’ As Figure 1 illustrates, the Value Creation Playbook has four dimensions:

Commercial excellence: Identifying adjacent market opportunities; optimising the asset’s product and service portfolio, taking into account customer requirements, and defining a targeted customer and distribution channel strategy; increasing overall salesforce effectiveness; and looking at the pricing optimisation potential.
Operational excellence: Optimising the overall production footprint, including scrap and waste, and outlining additional overall equipment effectiveness (OEE) improvement potential; increasing efficiency in sales and operations planning processes or inventory management; leveraging cost potential through an optimised procurement and/or transport & logistics function (including processes); and highlighting general and administrative cost reduction potential across human resources, legal, finance and IT.
Cash conversion: Liquidity is one of the most important measures, if not the most important one. Therefore, we analyse the potential in capex expenditures optimisation as well as cash and asset management.
Transversal: The Value Creation Playbook has the most impact when the right operating model and organisational structures support the execution, enabled by the right technology and integrated systems fostering data-driven decision-making. Outlining a clear and overarching ESG strategy is also essential to achieve higher EBITDA multiples when exiting an asset.

Figure 1: L.E.K.’s Value Creation Playbook (VCP)

The investment cycle provides PE funds with three interaction points to identify potential across the Value Creation Playbook to increase an asset’s value. As outlined in Figure 2, these are:

During deal closure to validate pre-deal assumptions
During the holding period
As part of exit preparations

Figure 2: L.E.K.’s value creation modules

1. Deal closure

L.E.K. can support PE funds during the deal closure phase with the rapid development of the Value Creation Playbook, outlining prioritised actions for the first 100 days. The playbook, now conducted from an inside-out perspective, allows PE funds to validate business plan assumptions made during pre-deal outside-in due diligence. It lets them build a more robust view on achievable EBITDA improvement potential and have a concrete plan of action.

2. Holding period

Our focus during the holding period is on strategic transformation and performance improvement programmes, as well as leveraging opportunities for M&A transactions. With performance improvement activities at the heart of any value creation initiative, PE funds and portfolio companies must identify potential across commercial, operational, cash conversion and transversal value creation levers.

3. Exit preparations

As part of exit preparations, the Value Creation Playbook can help to show potential buyers the additional EBITDA improvement levers that can be realised with the existing management team, highlighting how they’ve executed the playbook in the past.

Based on our experience, PE funds that manage to demonstrate the existence and successful execution of a value creation playbook achieved a significant uplift in company valuation and EBITDA exit multiples.

Impact of the Value Creation Playbook

As every industry deals with its own specifics, a value creation playbook’s overall EBITDA impact can vary. On average, PE funds focusing on the Industrials and Healthcare industries, advised by L.E.K., achieved 5-15% additional organic growth through the realisation of identified commercial (top-line) initiatives. They also realised an average improvement of 10-30% in their cost base (margin expansion) after implementing identified operational (bottom-line) initiatives. The cash conversion ratio of the respective portfolio companies improved by an average of 5-30%.

Benefits for involved stakeholders

Having a value creation playbook in place early on provides numerous benefits to all stakeholders, from PE funds to the management teams at portfolio companies and limited partners (see Figure 3). It boosts overall confidence in the ability to deliver on expected investment returns. A win-win-win situation.

Figure 3: Key benefits of a value creation plan

For PE funds, a well-executed value creation plan ensures strategic clarity with clear objectives and milestones, builds a track record of successful value creation initiatives, and strengthens investor confidence by consistently meeting IRR expectations. For the management team, it provides a clear assessment to optimise resource allocation and enables rapid decision-making through defined reporting structures and transparency. And for limited partners, it provides transparency on investment performance and value creation efforts, enhancing their confidence in the general partner’s ability to deliver expected returns.

Connect with L.E.K.’s Organisation & Performance practice

In an increasingly competitive landscape, PE funds that understand and leverage the potential of a value creation playbook will boost their asset's valuation multiples, gain a significant competitive advantage and stand out from the crowd.

L.E.K. is a leading global advisor for PE funds and their portfolio companies. We’ve worked for many leading platforms and their investors across different industries, with a strong focus on value creation and transaction support mandates. Our Organisation & Performance experts combine strategy, organisation and transformation know-how with unmatched M&A experience.

If you’re keen to evaluate rapid value creation levers for your assets, please reach out to L.E.K.’s Organisation & Performance experts, Jean-Philippe Grosmaitre (Partner, Paris Office), Sebastian Olbert (Partner, Munich Office) or Marc Seipp (Manager, Munich Office).