The Changing Environment of Private Equity
In a buy-and-build strategy, the private equity firm acts as an industry consolidator with the aim of transforming several smaller companies into one large efficient conglomerate before exiting. Compared to traditional leveraged buyouts the buy-and-build strategies requires a different approach from the private equity firm in order to create value. However what this approach should be is not clear. Within private equity research there is some theoretical work that describes the stages in a buy-and-build strategy, such as Smit (2001), and work paying attention to add-on acquisitions (Nikoskelainen & Wright, 2007). However there has not yet been much research conducted that specifically looks at empirical side of buy-and-build strategies. In my PhD project I propose to fill this gap. The project consists of four studies.
In the first study we aim to advance theory for buy-and-build strategies by determining the optimal conditions when a private equity firm should seek to derive value by making platform or add-on acquisitions and when this strategy is likely to fail. In the second part of this study we will test several of these conditions empirically.
The private equity sector has always been characterized by the important role of debt. In current literature the main benefits of debt are disciplining management (Jensen, 1997), creating tax benefits (Smith, 1990; Kaplan, 1989), and ability to acquire companies without committing a lot of their own capital. For that reason, researcher in private equity need to control for the leverage ratio used in the transaction. In our second study we will devise a new method to calculate the transaction leverage and analyse its importance.
Most private equity firms have a limited investments horizon, because their funds are set up as limited partnerships with fixed terms, usually 10 years. However to extract all value and implement all efficiency improvements in a buy-and-build strategy a longer-term commitment is necessary. It is therefore questionable if private equity firms are actually able to generate synergies within the fixed time frame. Moreover, although there has been a small shift towards buy-and-build strategies in recent years, it is unknown how these strategies perform relative to more traditional private equity transactions. In the third study we will measure firm performance of buy-and-build targets during the holding period and compare it with other private equity transactions such as LBOs.
Although buy-and-build strategies are theoretically a long-term investment strategy, private equity investors remain opportunists. Some argue that private equity investors mainly conduct multiple arbitrage or take advantage of favourable market conditions instead of actually creating value. Finally, because private equity firms are limited in their time, additional synergies could still be available in the newly created conglomerate after the private equity firm has exited. Therefore, in the fourth study we will track companies that were part of a buy-and-build strategy after the private equity firm has exited the companies and see how they perform.
- Buy-and-build Strategy; Build-up; Corporate Finance; Private Equity; Mergers and Acquisitions; Leverage
- Time frame
- 2015 -
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