Mitt Romney's presidential campaign has turned a negative spotlight on private equity. But PE is a much needed solution to a void in the marketplace.
Imagine starting a business, growing it successfully over 5, 10, 15 years, and then reaching the stage where you need a partner to provide capital and help the company continue to grow. You might want to get some well-earned liquidity yet still retain some equity in the business to stay invested in the future. Debt financing may not be practical for you, as banks often require personal guarantees from entrepreneurs. This common scenario is where private equity can play a vital role.
Private equity brings a huge amount of capital to businesses that otherwise might not have the resources to grow, or to a marketplace that otherwise might not be able to fulfill the objectives of shareholders. Businesses, whether distressed or growing, often reach an inflection point where additional capital can serve a crucial need to either save the business or take it to the next level.
Obtaining private equity capital is a rigorous process, but it can be more lucrative for business owners by making capital providers compete for a company. Private equity thus becomes a vehicle to help owners realize the value of their investment, or to find more flexible capital to meet tailored objective.
Beyond capital, many private equity groups can also bring valuable strategic insights, operating resources and relationships for the benefit of companies they invest in. Building a case around strategic and operational value-add is common practice for many groups because their sole function is to help their portfolio businesses grow and improve in value. Fresh perspectives and access to a greater network of relationships are just some of the ways private equity groups can help a business grow.
Where the criticism (in some cases very justified) often enters is the way private equity realizes some of these benefits: PE groups generally focus on placing debt on a company to pay for acquisitions, relatively short holding periods, bottom line profit and how to maximize investor returns. One can argue that this approach can result in sacrificing long-term growth and jobs in favor of quick profits. However, companies may require such transformation to remain competitive. We believe PE tends to do more good than harm as a general asset class by fulfilling a significant need for businesses.
KARL STARK AND BILL STEWART are managing directors and co-founders of Avondale, a strategic advisory firm focused on growing companies. Avondale, based in Chicago, is a high-growth company itself and is a two-time Inc. 500 honoree. @karlstark