strategy+business is published by PwC Strategy& LLC.
or, sign in with:
strategy and business
 / Summer 2011 / Issue 63(originally published by Booz & Company)


The Next Winning Move in Private Equity

The bottom line is that without a strategy for expanding organic, top-line growth at their portfolio companies, private equity firms will become less competitive at raising investor funds and making deals. “You’d better have a strategy,” says Misrahi of Apax, “or else you’re a me-too product. And if you’re a me-too product, in the next five years, you’re nowhere.” CCMP’s Murray offers an even more fundamental perspective: “Most of the industry doesn’t recognize the problem. The private equity business has always been about providing a solution for a company’s orphans or an entrepreneur’s needs; we make professional businesses more entrepreneurial and entrepreneurial businesses more professional. We need to go back to being in the solutions business and not just another asset class for investors.”

By embracing private equity’s third innovation of enhancing organic growth — adding new growth capabilities, changing the dialogue with portfolio companies, and making organic growth net free — the most innovative PE firms will enrich their “solutions business,” and gain market share and improve their overall profitability in the process. As they succeed, they will ensure that their core business continues to be a vital force in the capital markets, and at the same time will help promote a more productive, growth-oriented perspective throughout the corporate sector.

Might the Contract Change?

In a world where private equity returns will depend to a greater extent on portfolio companies’ ability to grow organically, there may be an argument for lengthening the life of certain funds. The typical seven- to 10-year cycle of fund raising, acquisition, and exit may not make sense with investments that are generating good returns. After all, engineering organic growth can take more time to show results than financial and operational engineering; it may be that after five years in the portfolio, the portfolio company is at the very beginning of what may be a decades-long rise in revenue and profits.

When that is the case, “Why rush to get out?” asks Paul Levy, managing director of JLL Partners, speaking of both the private equity firms and their limited partners. The power of compounding, Levy points out, really kicks in during the “out” years. Twelve percent for five years — no argument; that’s nice. Twelve percent for 30 years — that starts to be real money, Levy says.

Of course, most of the limited partners with whom Levy has broached the topic want to know what would happen, under these circumstances, to the fees they pay. A private equity firm may initially create a lot of value by identifying promising investments, improving company operations, and setting the company (per the philosophy of this article) on more successful organic growth trajectories. Eventually, though, the private equity firm’s contributions should be mostly complete. At that point, from the limited partners’ perspective, shouldn’t the fee structure change?

“Maybe you do something whereby instead of 80–20, after a certain point in time, it becomes I own 20, you own 80, and you can do what you want with your 80,” Levy says, describing the conversations he has had on the topic with limited partners.

Theoretically, lengthening private equity holding periods might also address some of the more contentious issues surrounding secondary buyouts, in which one private equity firm sells a portfolio company to another private equity firm, in order to close the fund and return money to its limited partners at the agreed-upon time.

With the IPO market largely closed off in 2009 and 2010, “secondaries” — an escape hatch for private equity firms looking to exit their investments — became common. Problems arise, however, when a limited partner ends up owning the same company as before, but through a different private equity firm — and having paid transaction fees coming and going. “That really creates tensions,” notes Eddie Misrahi, the managing partner of Apax Partners.

Yet changing the contract may be an idea whose time has not yet come. Private equity executives say most of their limited partners aren’t looking to rearrange things so that a portion of the capital they commit is “permanent.” On the contrary, says one private equity executive, limited partners “are always pushing to get out of investments, to get their money back.

“We’ve seen a couple of big investors that have been going through a broader bid process saying, ‘Is there a way to build a different partnership?’” adds the executive. But those inquiries, he says, have been less about changing the terms of private equity deals than about investing in other asset classes now under some equity firms’ roofs, like mezzanine funding and debt financing.

— K.F., J.N.

Follow Us 
Facebook Twitter LinkedIn Google Plus YouTube RSS strategy+business Digital and Mobile products App Store



  1. Ken Favaro, Tim Romberger, and David Meer, “Five Rules for Retailing in a Recession,” Harvard Business Review, April 2009: An industry-specific analysis of the concept of headroom and the importance of organic growth.
  2. Steven Kaplan, “Private Equity: Past, Present and Future,” (PDF) University of Chicago Booth School of Business Publication, April 2009: A detailed and data-filled presentation on PE’s performance over the years, which also offers perspective on the industry’s success factors.
  3. Paul Leinwand and Cesare Mainardi, The Essential Advantage: How to Win with a Capabilities-Driven Strategy (Harvard Business Review Press, 2011): How matching strategic direction with an organization’s unique capabilities can lead to well-modulated growth.
  4. Justin Pettit, “Think Like Private Equity to Enhance Public Company Value,” (PDF) Financial Executive, November 2007: Six tactics that top executives can use.
  5. Peter Vayanos, Ahmed Youssef, Chady Zein, and Raymond Soueid,“Private Equity Comes of Age: Emerging Opportunities in the Middle East,” (PDF) Booz & Company white paper, October 2010: Why the key drivers for private equity in this region will include identifying sustainable investment ideas and creating value within portfolio companies.
  6. Rhea Wessel, “Bonderman Sees a Return of Big Private Equity Deals,” New York Times, March 3, 2011: TPG’s founder on the opportunities created by easier credit and IPOs in emerging markets.
  7. For a podcast by author J. Neely, in which he explores the private equity industry in light of Carlyle Group's recent IPO announcement, visit:
  8. For more on this topic, see the s+b website at:
Sign up to receive s+b newsletters and get a FREE Strategy eBook

You will initially receive up to two newsletters/week. You can unsubscribe from any newsletter by using the link found in each newsletter.