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The Private Equity Case Study: The Ultimate Guide

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The private equity case study is an especially intimidating part of the private equity recruitment process .

You’ll get a “case study” in virtually any private equity interview process , whether you’re interviewing at the mega-funds (Blackstone, KKR, Apollo, etc.), middle-market funds , or smaller, startup funds.

The difference is that each one gives you a different type of case study, which means you need to prepare differently:

What Should You Expect in a Private Equity Case Study?

There are three different types of “case studies”:

• Type #1: A “ paper LBO ,” calculated with pen-and-paper or in your head, in which you build a simple leveraged buyout model and use round numbers to guesstimate the IRR.
• Type #2: A 1-3-hour timed LBO modeling test , either on-site or via Zoom and email. This is a pure speed test , so proficiency in the key Excel shortcuts and practice with many modeling tests are essential.
• Type #3: A “take-home” LBO model and presentation, in which you might have a few days up to a week to pick a company, research it, build a model, and make a recommendation for or against an acquisition of the company.

We will focus on the “take-home” private equity case study here because the other types already have their own articles/tutorials or will have them soon.

If you’re interviewing within the fast-paced, on-cycle recruiting process with large funds in the U.S. , you should expect timed LBO modeling tests (type #2).

If the firm interviews dozens of candidates in a single weekend, there’s no time to give everyone open-ended case studies and assess them.

You might also get time-pressured LBO modeling tests in early rounds in other financial centers, such as London .

The open-ended case studies – type #3 – are more common at smaller funds, in off-cycle recruiting, and outside the U.S.

Although you have more time to complete them, they’re significantly more difficult because they require critical thinking skills and outside research.

One common misconception is that you “need” to build a complex model for these case studies.

But that is not true at all because they’re judging you mostly on your investment thesis , your presentation, and your ability to answer questions afterward.

No one cares if your LBO model has 200 rows, 500 rows, or 5,000 rows – they care about how well you make the case for or against the company.

This open-ended private equity case study is often the final step between the interview and the job offer, so it is critically important.

The Private Equity Case Study, in Parts

This is another technical tutorial, so I’ve embedded the corresponding YouTube video below:

Table of Contents:

• 4:32: Part 1: Typical Case Study Prompt
• 6:07: Part 2: Suggested Time Split for a 1-Week Case Study
• 8:01: Part 3: Screening and Selecting a Company
• 14:16: Part 4: Gathering Data and Doing Industry Research
• 22:51: Part 5: Building a Simple But Effective Model
• 26:32: Part 6: Drafting an Investment Recommendation

Files & Resources:

• Case Study Prompt (PDF)
• Private Equity Case Study Slides (PDF)
• Cars.com – Highlighted 10-K (PDF)
• Cars.com – Investor Presentation (PDF)
• Cars.com – Excel Model (XL)
• Cars.com – Investment Recommendation Presentation (PDF)

We’re going to use Cars.com in this example, which is one of the many case studies in our Advanced Financial Modeling course:

Advanced Financial Modeling

Learn more complex "on the job" investment banking models and complete private equity, hedge fund, and credit case studies to win buy-side job offers.

The full course includes a detailed, step-by-step walkthrough rather than this summary, an additional advanced LBO model, and other complex case studies for investment banking, hedge funds, and credit.

Part 1: Typical Private Equity Case Study Prompt

In some cases, they’ll give you a company to analyze, but in others, you’ll have to screen for companies yourself and pick one.

It’s easier if they give you the company and the supporting documents like the Information Memorandum , but you’ll also have less time to complete the case study.

The prompt here is very open-ended: “We like these types of deals and companies, so pick one and present it to us.”

The instructions are helpful in one way: they tell us explicitly not to build a full 3-statement model and to focus on the market and strategy rather than an “extremely complex model.”

They also hint very strongly that the model must include sensitivities and/or scenarios:

Part 2: Suggested Time Split for a 1-Week Private Equity Case Study

You have 7 days to complete this case study, which may seem like a lot of time.

But the problem is that you probably don’t have 8-12 hours per day to work on this.

You’re likely working or studying full-time, which means you might have 2-3 hours per day at most.

So, I would suggest the following schedule:

• Day #1: Read the document, understand the PE firm’s strategy, and pick a company to analyze.
• Days #2 – 3: Gather data on the company’s industry, its financial statements, its revenue/expense drivers, etc.
• Days #4 – 6: Build a simple LBO model (<= 300 rows), ideally using an existing template to save time.
• Day #7: Outline and draft your presentation, let the numbers drive your decisions, and support them with the qualitative factors.

If the presentation is shorter (e.g., 5 slides rather than 15) or longer, you could tweak this schedule as needed.

But regardless of the presentation length, you should spend MORE time on the research, data gathering, and presentation than on the LBO model itself.

Part 3: Screening and Selecting a Company

The criteria are simple and straightforward here: “The firm aims to find undervalued companies with stagnant or declining core businesses that can be acquired at reasonable valuation multiples and then turn them around via restructuring, divestitures, and add-on acquisitions.”

The industry could be consumer, media/telecom, or software, with an ideal Purchase Enterprise Value of $500 million to $1 billion (sometimes up to $2 billion).

Reading between the lines, I would add a few criteria:

• Consistent FCF Generation and 10-20%+ FCF Yields: Strategies such as turnarounds and add-on acquisitions all require cash flow. If the company doesn’t generate much Free Cash Flow , it will have to issue Debt to fund these strategies, which is risky because it makes the deal very dependent on the exit multiple.
• Relatively Lower EBITDA Multiples: If the company has a “stagnant or declining” core business, you don’t want to pay 20x EBITDA for it. An ideal range might be 5-10x, but 10-15x could be OK if there are good growth opportunities. The IRR math also gets tougher at high EBITDA multiples because the maximum Debt in most deals is 5-6x.
• Clean Financial Statements and Enough Detail for Revenue and Expense Projections: You don’t want companies with 2-page-long Cash Flow Statements or Balance Sheets with 100 line items; you can’t spare the time required to simplify and consolidate these statements. And you need some detail on the revenue and expenses because forecasting revenue as a simple percentage growth rate is a bad idea in this context.

We used this process to screen for companies here:

• Step 1: Do a high-level screen of companies in these 3 sectors based on industry, Equity Value or Enterprise Value, and geography.
• Step 2: Quickly review the list of ~200 companies to narrow the sector.
• Step 3: After picking a specific sector, narrow the choices to the top few companies and pick one of them.

In software , many of the companies traded at very high multiples (30x+ EBITDA), and others had negative EBITDA , so we dropped this sector.

In consumer/retail , the companies had more reasonable multiples (5-10x), but most also had low margins and weak FCF generation.

And in media/telecom , quite a few companies had lower multiples, but the FCF math was challenging because many companies had high CapEx requirements (at least on the telecom side).

We eliminated companies with very high multiples, negative EBITDA, and exorbitant CapEx, which left this set:

Within this set, we then eliminated companies with negative FCF, minimal information on revenue/expenses, somewhat-higher multiples, and those whose businesses were declining too much (e.g., 20-30% annual declines).

We settled on Cars.com because it had a 9.4x EBITDA multiple at the time of this screen, a declining business with modest projected growth, 25-30% margins, and reasonable FCF generation with FCF yields between 10% and 15%.

If you don’t have Capital IQ for this exercise, you’ll have to rely on FinViz and use P / E multiples as a proxy for EBITDA multiples.

You can click through to each company to view the P / FCF multiples, which you can flip around to get the FCF yields.

In this case, don’t even bother looking for revenue and expense information until you have your top 2-3 candidates.

Part 4: Gathering Data and Doing Industry Research

Once you have the company, you can spend the next few days skimming through its most recent annual report and investor presentation, focusing on its financial statements and revenue/expense drivers.

With Cars.com, it’s clear that the company’s “Dealer Customers” and Average Revenue per Dealer will be key drivers:

The company also has significant website traffic and earns advertising revenue from that, but it’s small next to the amount it earns from charging car dealers to use its services:

It’s clear from this quick review that we’ll need some outside research to estimate these drivers, as the company’s filings and investor presentation have little.

Fortunately, it’s easy to Google the number of new and used car dealers in the U.S. and estimate the market size and share like that:

The company’s market share has been declining , and we expect that trend to continue, but it’s not clear how rapid the decline will be.

Consumers are increasingly buying directly from other consumers, and dealers have less reason to use the company’s marketplace services than in past years.

We create an area for these key drivers, with scenarios for the most uncertain one:

You might be wondering why there’s no assumed uptick in market share since this is supposed to be a “turnaround” case study.

The short answer is that we think the company is unlikely to “turn around” its core business in this time frame, so it will have to move into new areas via bolt-on acquisitions .

For example, maybe it could acquire smaller firms that sell software and services to dealers, or it could acquire physical or online car dealerships directly.

Another option is to acquire companies that can better monetize Cars.com’s large and growing web traffic – such as companies that sell auto finance leads.

As part of this process, we also need to research smaller companies to acquire, but there isn’t much to say about this part.

It comes down to running searches on Capital IQ for smaller companies in related industries and entering keywords like “auto” in the business description field.

In terms of the other financial statement drivers , many expenses here are simple percentages of revenue, but we could also link them to the employee count.

We also link the website traffic to the sales & marketing spending to capture the spending required for growth in that area.

Finally, we need to input the financial statements for the company, which is not that hard since they’re already fairly clean:

It might be worth consolidating a few items here, but the Income Statement and partial Cash Flow Statement are mostly fine, which means the Excel versions are close to the ones in the annual report.

Part 5: Building a Simple But Effective Model

The case study instructions state that a full 3-statement model is not necessary – but even if they had not, such a model would rarely be worthwhile.

Remember that LBO models, just like DCF models , are based on cash flow and EBITDA multiples ; the full statements add almost nothing since you can track the Cash and Debt balances separately.

In terms of model complexity, a single-sheet LBO with 200-300 rows in Excel is fine for this exercise.

You’re not going to get “extra credit” for a super-complex LBO model that takes days to understand.

The key schedules here are:

• Transaction Assumptions – Including the purchase price, exit assumptions, scenarios, and tranches of debt. Skip the working capital adjustment unless they specifically ask for it. For more on these nuances, see our coverage of Enterprise Value vs. purchase price and cash-free debt-free deals .
• Sources & Uses – Short and simple but required to calculate the Investor Equity.
• Revenue, Expense, and Cash Flow Drivers – These don’t need to be super-complex; the goal is to go beyond projecting revenue as a simple percentage growth rate.
• Income Statement and Partial Cash Flow Statement – The goal is to calculate Free Cash Flow because that drives Debt repayment and Cash generation in an LBO.
• Add-On Acquisitions – These are part of the “turnaround strategy” in this deal, so they’re quite important.
• Debt Schedule – This one is quite simple here because the deal is not dependent on financial engineering.
• Returns Calculations – The IPO vs. M&A exit options add a bit of complexity.
• Sensitivity Tables – It’s difficult to draft the investment recommendation without these.

Skip anything that makes your life harder, such as circular references in Excel (to avoid these, use the beginning Cash and Debt balances to calculate interest).

We pay special attention to the add-on acquisitions here, with support for their revenue and EBITDA contributions:

The Debt Schedule features a Revolver, Term Loans, and Subordinated Notes:

The Returns Calculations are also simple; we do assume a bit of Multiple Expansion because of the company’s higher growth rate by the end:

Could we simplify this model even further?

I don’t think the M&A vs. IPO exit options mentioned above are necessary, and we could also drop the “Growth” vs. “Value” options for the add-on acquisitions:

Especially if we recommend against the deal, it’s not that important to analyze which type of add-on acquisition works best.

It would be more difficult to drop the scenarios and Excel sensitivity tables , but we could restructure them a bit and fold the scenario into a sensitivity table.

All investing is probabilistic, and there’s a huge range of potential outcomes – so it’s difficult to make a serious investment recommendation without examining several outcomes.

Even if we think this deal is spectacular, we must consider cases in which it goes poorly and how we might reduce those risks.

Part 6: Drafting an Investment Recommendation

For a 15-slide recommendation, I would recommend this structure:

• Slides 1 – 2: Recommendation for or against the deal, your criteria, and why you selected this company.
• Slides 3 – 7: Qualitative factors that support or refute the deal (market, competition, growth opportunities, etc.). You can also explain your proposed turnaround strategy, such as the add-on acquisitions, here.
• Slides 8 – 13: The numbers, including a summary of the LBO model, multiples vs. comps (not a detailed valuation), etc. Focus on the assumptions and the output from the sensitivity tables.
• Slide 14: Risk factors for a positive recommendation, and the counter-factual (“what would change your mind?”) for a negative one. You can also explain the potential impact of each risk on the returns and how you could mitigate these risks.
• Slide 15: Restate your conclusions from Slide 1 and present your best arguments here. You could also change the slide formatting or visuals to make it seem new.

“OK,” you say, “but how do you actually make an investment decision?”

The easiest method is to set criteria for the IRR or multiple of invested capital in each case and say, “Yes” if the deal achieves those numbers and “No” if it does not.

For example, maybe the targets are a 30% IRR in the Upside case, a 20% IRR in the Base case, and a 1.0x multiple in the Downside case (i.e., avoid losing money).

We do achieve those numbers in this deal, but the decision could go either way because the deal is highly dependent on the add-on acquisitions.

Without these acquisitions, the deal does not work; the IRR falls by 10%+ across all the scenarios and turns negative in the Downside case.

We need at least 5 good acquisition candidates matching very specific financial profiles ($100 million Purchase Enterprise Value and a 15x EBITDA purchase multiple with 10% revenue growth or 5x EBITDA with 3% growth).

The presentation includes some examples of potential matches:

While these examples are better than nothing, the case is not that strong because:

• Most of these companies are too big or too small to fit into the strategy proposed here of ~$100 million in annual acquisitions.
• The acquisition strategy is unclear ; acquiring and integrating dealerships (even online ones) would be very, very different from acquiring software/data/media companies.
• And since the auto software market is very niche, there’s probably not a long list of potential acquisition candidates beyond the few we found.

We end up saying, “Yes” in this recommendation, but you could easily reach the opposite conclusion because you believe the supporting data is weak.

In short: For a 1-week open-ended case study, this approach is fine, but this specific deal would probably not stand up to a more detailed on-the-job analysis.

The Private Equity Case Study: Final Thoughts

Similar to time-pressured LBO modeling tests, you can get better at the open-ended private equity case study by “putting in the reps.”

But each rep is more time-consuming, and if you have a demanding full-time job, it may be unrealistic to complete multiple practice case studies before the real thing.

Also, even with significant practice, you can’t necessarily reduce the time required to research an industry and specific companies within it.

So, it’s best to pick companies and industries you already know and have several Excel and PowerPoint templates ready to go.

If you’re targeting smaller funds that use off-cycle recruiting, the first part should be easy because you should be applying to funds that match your industry/deal/client background.

And if not, you can always make a lateral move to a bulge bracket bank and interview at the larger funds if you prefer the private equity case study in “speed test” form.

If you liked this article, you might be interested in:

• The Growth Equity Case Study: Real-Life Example and Tutorial
• The Full Guide to Healthcare Private Equity, from Careers to Contradictions
• Healthcare Investment Banking: The Best Group to Check Into When Human Civilization is Collapsing?

About the Author

Brian DeChesare is the Founder of Mergers & Inquisitions and Breaking Into Wall Street . In his spare time, he enjoys lifting weights, running, traveling, obsessively watching TV shows, and defeating Sauron.

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Private Equity Case Study: Example, Prompts, & Presentation

Private equity case studies are an important part of the private equity recruiting process because they allow firms to evaluate a candidate’s analytical, investing, and presentation abilities. 

In this article, we’ll look at the various types of private equity case studies and offer advice on how to prepare for them. 

This guide will help you ace your next private equity case study, whether you’re a seasoned analyst or new to the field.

Types Of Private Equity Case Studies

Case studies are very common in private equity interviews, and they are a key part of the overall recruiting process.

While you’re extremely likely to encounter a case study of some kind during your recruiting process, there is considerable variety in the types of case studies you might face.

Below I cover the major types:

Take-home assignment

In-person lbo modeling assignment.

For this case study, you’ll get some company information (e.g. a 10-K or a CIM) and be asked to assess whether or not you’re likely to invest. 

Generally, you’ll get between 2-7 days to prepare a full presentation or investment memo with your recommendations that you’ll present to the interviewer.  To support your investment recommendation, you’ll be expected to complete a full LBO model .  The prompt may give certain details or assumptions to include in the model.

This type of test is most common during “off-cycle” hiring throughout the year, since firms have more time to allow you to complete the assignment. 

This is pretty similar to the take-home assignment. You’re given company materials, will build a financial model, and decide whether you would invest. 

The difference here is the time you’re given to complete the case. You’ll generally get between two to three hours, and you’ll typically complete the case study in the firm’s office, though some firms are becoming newly open to completing the assignment remotely. 

In this case, you’ll typically only complete an LBO model. There is usually no presentation or investment memo. Rather, you’ll do the model and then have a short discussion afterward. 

This is a shorter, more condensed version of an LBO model. You can complete a paper LBO with a piece of paper and a pen. Alternatively, you may be asked to discuss it verbally with the interviewer. 

Rather than using an Excel spreadsheet, you use an actual sheet of paper to show your calculations. You don’t go into all the detail but focus on the essence of the model instead. 

In this article, we’ll be focusing on the first two types of case studies because they are the most widely used. But if you’re interested, here is a deep dive on Paper LBOs . 

Private Equity Case Study Prompt

Regardless of the type of case study you’re asked to do, the prompt from the interviewer will ultimately ask you to answer: “would you invest in this company?”

To answer this question you’ll need to take on the provided materials about the company and complete a leveraged buyout model to determine whether there is a high enough return. Generally, this is 20% or higher. 

Usually, prompts also provide you with certain assumptions that you can use to build your LBO model. For example:

• Pro forma capital structure
• Financial assumptions
• Acquisition and exit multiples

Some private equity firms provide you with the Excel template needed for an LBO model, while others prefer you to make one from scratch. So be ready to do that. 

Private Equity Case Study Presentation

As you’ve seen above, if you get a take-home assignment as a case study, there’s a good chance you’re going to have to present your investment memo in the interview. 

There will usually be one or two people from the firm present for your presentation. 

Each PE firm has a different interview process, some may expect you to present first and then ask questions, or the other way around. Either way, be prepared for questions. The questions are where you can stand out!

While private equity recruitment is there to assess your skills, it’s not all about your findings or what your model says. The interviewers are also looking at your communication skills and whether you have strong attention to detail. 

Remember, in the private equity interview process, no detail is too small. So, the more you provide, the better. 

How To Do A Private Equity Case Study

Let’s look at the step-by-step process of completing a case study for the private equity recruitment process:

• Step 1: Read and digest the material you’ve been given. Read through the materials extensively and get an understanding of the company. 
• Step 2: Build a basic LBO model. I recommend using the ASBICIR method (Assumptions, Sources & Uses, Balance Sheet, Income Statement, Cash Flow Statement, Interest Expense, and Returns). You can follow these steps to build any model. 
• Step 3: Build advanced LBO model features, if the prompts call for it, you can jump to any advanced features. Of course, you want to get through the entire model, but your number 1 priority is to finish the core financial model. If you’re running out of time, I would skip or reduce time on advanced features.
• Step 4: Take a step back and form your “investment view”. I would try to answer these questions:
• What assumptions need to be present for this to be a good deal?
• Under what circumstances would you do the deal? 
• What is the biggest risk in the deal? (e.g. valuation, growth, and margins). 
• What is the biggest driver of returns in the deal? (e.g. valuation, growth, and debt paydown).

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How To Succeed In A Private Equity Case Study

Here are a few of my tips for getting through the private equity fund case study successfully. 

Get the basics down first

It’s very easy to want to jump into the more complex things first. If you go in and they start asking you to complete complex LBO modeling features like PIK preferred equity, getting to that might be on the top of your list. 

But I recommend taking a step back and starting with the fundamentals. Get that out the way before moving on to the complicated stuff. 

The fundamentals ground you, getting you through the things you know you can do easily. It also gives you time to really think about those complex ideas. 

Show nuanced investment judgment; don’t be too black-and-white

When giving your investment recommendation for a private equity fund you shouldn’t be giving a simple yes or no. 

It’s boring and gives you no space to elaborate. Instead, go in with what price would make you interested in investing and why. Don’t be shy to dig in here. 

Know where there is a value-creation opportunity in the deal, and mention the key assumptions you need to believe to create that value.

Additionally, if you are recommending that the investment move forward then bring up things you would want to know before closing a deal. You can highlight the key risks of the investment, or key things you’d want to ask management if you could meet with them. 

At the end of the day, financial modeling is a commodity skill.  Every investor can do it.  What will really set you apart is how you think about the deals, and the nuance you bring to analyzing them. 

You win by talking about the model

Along those lines, you don’t win by building the best model. Modeling is just a check-the-box thing in the interview process to show you can do it. The interviewers need to know you can do the basics with no glaring errors. 

What matters is showing that you can discuss the investment intelligently. It’s about bringing a sensible recommendation to the table with the information to back it up. 

How Do I Prepare For A Private Equity Case Study?

There is no one-size-fits-all when it comes to preparing for a private equity case study. Everyone is different. 

However, the best thing you can do is PRACTICE, PRACTICE, and more PRACTICE!

I know of a recent client that successfully obtained an offer from multiple mega funds . She practiced until she was able to build 10 LBO models from scratch without any errors or help … yes, that’s 10 models! 

Now, whether it takes 5 or 20 practice case studies doesn’t matter. The whole point is to get to a stage where you feel confident enough to do an LBO model quickly while under pressure. 

There is no way around the pressure in a private equity interview. The heat will be on. So, you need to prepare yourself for that. You need to feel confident in yourself and your capabilities. 

You’d be surprised how pressure can leave you stumped for an answer to a question that you definitely know.

It’s also a good idea to think about the types of questions the private equity interviewer might ask you about your investment proposal. Prepare your answers as far as possible. It’s important that you stick to your guns too when the situation calls for it, because interviewers may push back on your answers to see how you react.. 

You need to have your answer to “would you invest in this company?” ready, and also how you got to that answer (and what new information might change your mind).   

Another thing that gets a lot of people is limited time.  If you’re running out of time, double down on the fundamentals or the core part of the model.  Make sure you nail those.  Also, you can make “reasonable” assumptions if there’s information you wish you had, but don’t have access to. Just make sure to flag it to your interviewer 

How important is modeling in a private equity case study? 

Modeling is part and parcel of private equity case studies. Your basics need to be correct and there should be no obvious mistakes. That’s why practicing is so important. You want to focus on the presentation, but your calculations need to be correct first. They do, after all, make up your final decision. 

How can I stand out from other candidates? 

Knowing your stuff covers the basics. To stand out, you need to be an expert in showing how you came to a decision, a stickler for details, and inquisitive. Anyone can do the calculations with practice, but someone who thinks clearly and brings nuance to their discussion of the investment will thrive in interviews. 

Private equity case studies are a difficult but necessary part of the private equity recruiting process . Candidates can demonstrate their analytical abilities and impress potential employers by understanding the various types of case studies and how to approach them. 

Success in private equity case studies necessitates both technical and soft skills, from analyzing financial statements to discussing the investment case with your interviewer. 

Anyone can ace their next private equity case study and land their dream job in the private equity industry with the right preparation and mindset. If you’re looking to learn more about private equity, you can read my recommended Private Equity Books.

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Private equity in action : case studies from developed and emerging markets

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• Section I GP LP Relationships 1 Case 1 Beroni Group: Managing GP LP Relationships 3 Case 2 Going Direct: The Case of Teachers Private Capital 11 Case 3 Pro-invest Group: How to Launch a Private Equity Real Estate Fund 39 Case 4 Hitting the Target: Optimizing a Private Equity Portfolio with the Partners Group 55
• Section II Venture Capital 71 Case 5 Sula Vineyards: Indian Wine? Ce n est pas possible! 73 Case 6 Adara Venture Partners: Building a Venture Capital Firm 91 Case 7 Siraj Capital: Investing in SMEs in the Middle East 107
• Section III Growth Equity 127 Case 8 Private Equity in Emerging Markets: Can Operating Advantage Boost Value in Exits? 129 Case 9 Slalom to the Finish: Carlyle s Exit from Moncler 155 Case 10 Investor Growth Capital: The Bredbandsbolaget Investment 177
• Section IV Leveraged Buyouts (LBOs) 201 Case 11 Chips on the Side (A): The Buyout of Avago Technologies 203 Case 12 Chips on the Side (B): The Buyout of Avago Technologies 229 Case 13 Going Places: The Buyout of Amadeus Global Travel Distribution 245
• Section V Turnarounds and Distressed Investing 261 Case 14 Crisis at the Mill: Weaving an Indian Turnaround 263 Case 15 Vendex KBB: First Hundred Days in Crisis 279 Case 16 Turning an Elephant into a Cheetah: The Turnaround of Indian Railways 305
• Section VI Private Equity in Emerging Markets 325 Case 17 Rice from Africa for Africa: Rice Farming in Tanzania and Investing in Agriculture 327 Case 18 Private Equity in Frontier Markets: Creating a Fund in Georgia 355 Case 19 Asian Private Equity: A Family Office s Quest for Return 379 Acknowledgements 399 About the Authors 401.
• (source: Nielsen Book Data)

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Project Merchandise: An Introduction to Private Equity

Holger Spamann and Johnathan Robertson

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Product Description

This case study puts students in the role of a private equity firm considering the acquisition of a portfolio firm, and later selling that same firm. Along the way, the case study introduces private equity and valuation techniques, which students need to apply in working through the case. The teaching guide for instructors can be downloaded from the  Teaching Guide for Project Merchandise: An Introduction to Private Equity page .

Student Learning Outcomes

By the end of this case students will have an improved understanding of Private Equity, increased familiarity with valuation techniques, and (should students participate in an optional legal exercise) a deepened comprehension of purchase agreements. Specifically, after working through the case materials students should be able to:

1) describe what private equity is, and to summarize the cycle of a private equity transaction from entry to exit,

2) apply valuation concepts in a simplified model and to various entry and exit scenarios,

3) navigate an Excel-based model tracking how changes to input cells flow-through the model and affect valuation outputs,

4) evaluate and weigh both quantitative and qualitative factors when engaging in valuation exercise, and

5)  (Optional)  recognize key terms in a Purchase Agreement and understand typical Buyer and Seller side arguments while negotiating these terms.

Teaching Approach

The case uses a flipped classroom model. Students watch videos via links provided in the materials prior to coming to class. During class students engage in activities that require them to apply the concepts presented in the pre-class videos.

These materials were taught to Harvard Law School students in an elective corporate finance class. Before engaging with these materials, students need to be familiar with basic valuation techniques (particularly discounted cash flow and comparables analyses). 

Student Experience

• Class #1  Entry Case Exercise : Students assume the role of a private equity buyer and use information about a target company presented in the Entry Case materials, concepts from the Private Equity Overview video, points from the deal evaluation framework, and the valuation model to develop a recommendation of whether and how to structure a bid for a target company. The entry case exercise exposes students to examples of uncertainties in enterprise valuation that need to be identified and valued when entering into a new acquisition.
• Class #2   Exit Case Exercise : Students assume the role of a private equity seller and evaluate five competing options to exit the investment. The exit case exercise challenges students to value different exit options not only quantitatively but also qualitatively when considering different deal structures, earn-outs, closing conditions, etc. By the end of these two classes, students will understand the basic issues in valuing an M&A deal from the perspective of a PE sponsor (which largely overlaps with the perspective of other M&A buyers and sellers).
• Class #3 (optional)  Purchase Agreement Exercise : Students explore the purchase agreement - the main contract that memorializes a M&A transaction. 

Materials Included

Instructors will need to download student materials and either distribute electronically or post in their institution’s Learning Management System (e.g. Canvas etc.). Videos do not need to be downloaded; the materials provide embedded links. (Please note that the Student Materials will appear as one item in your cart. After purchase you will receive a link to download a Zip file that contains the student materials, seven files in total.)

Student Materials :

Class Sessions #1 & #2 (required materials)

• Project Merchandise - Student Guide:  Provides learning outcomes, exercise overviews, and preparation materials including links to pre- and post-class videos
• Project Merchandise - Valuation Model:  Provides student-ready Excel template to test assumptions 
• Project Merchandise - Exit Case Exercise:  Provides a summary of five competing exit alternatives students can reference while working through the Exit Case

Class Session #3 (additional materials included in the download but for optional class)

• Project Merchandise - Form Securities Purchase Agreement  (SPA) (23 pages)
• Project Merchandise - Disclosure Schedule Sample  (4 pages)
• Project Merchandise - Negotiation Issues List  (2 pages)
• Project Merchandise - Market Outcomes Matrix (3 pages)

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Teaching Guide for Project Merchandise: An Introduction to Private Equity

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PE Interview Case Studies

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PE recruiting is slowly starting ... some of us are in the beginning of interview processes .. one thing that differentiates the interview process at PE / IB is the case study interview...

For those who work at PE shops, or have gone through the process, think it might be useful if you guys could post a few case studies you were asked and some details like timing/how many interviewers/do you present at the end of the case study your conclusions/etc.

is it a McKinsey type of case study where you are given a how many ping pong balls can fit in a 747 to test analysis or more like an investment opportunity idea and you need to calculate back of envelope valuation, and put together a few powerpoint slides with sensitivities etc?

if you guys could post specific examples from interviews you had or took - that would be awesome for us !

please PM me if you do not want to post publicly - interview with mega fund coming up next week - help requested please!!!

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When I was interviewing, case studies were not like the ones given in consulting interviews . Luckily, I never had to do any 'on the spot' tests; i will let someone else speak to that. All my case studies gave me 3 or 4 days to complete.

Generally, they give you an overview: ABC Company has approached [Potential Firm] with the opportunity to invest in Business. They'll give you any basic operating assumptions and other tidbits. I was asked to build a model and write an investment memo that outlines the opportunity, returns, pros/cons of the deal, and investment decision. I did not have to present. I was allowed to use any and all resources available to me (market research, any rate spreads, comps , etc.) Obviously there is an honor code in place which should govern morally whether or not you get help from coworkers, etc.

I never had any "How many golf balls fit into a 747" type questions - it was always more like: "Should we invest in this company or not? And why?"

Typically they will give you:

-CIM/OM, or maybe an abbreviated version such as a short Executive Summary that's around 5-10 pages, describing the company, high-level financials, employees, products, market, etc.

-Sometimes they will give you filings or a more detailed operating model, but this is less common than just receiving a short document as described above.

-Usually they will just ask you to make a short 5-10 slide presentation on whether or not they should invest in the company.

-At mega-funds, it's more common to get "do this on the spot" type tests where you get a few hours to work on your own model and then show them something at the end. Smaller places tend to be more like, "Take a few days to a week to do this, and then present it to us."

Typically you want your presentation to consist of:

-Summary slide - do you invest, or not, and key reasons for/against

-Spend maybe 3-4 slides on valuation of the company, showing output from comps , DCF , and simple LBO model.

-Spend 2-3 slides justifying qualitative factors impacting the company / investment (market, competitors, management team, etc.)

-Conclusion slide re-stating what you did, saying whether or not you'd invest and at what valuation, and giving approximate 3-5 year IRR .

-Lots of people make this way too complicated, which is a waste of time. Focus on the fundamentals and keep all models/valuations simple and get to the point rather than going on for pages about nothing.

-Always make sure you actually MAKE a decision. Don't do a, "Well, we would invest in this company but only if they hit projections..." type thing, just say, "Yes, invest at this price range" and just say you'd need to perform confirmatory DD as is standard with any deal.

-Don't over-crowd slides - have a max of 3 major points and/or diagrams/tables on each one, and use 80/20 if you're in doubt about what's important.

-Above all, make sure you clearly articulate your arguments - simplicity is key. Case studies are just as much about your communication skills as they are about your technical skills.

I would share examples but I don't have any of the PDFs with me at the moment as I'm traveling overseas.

thanks a lot dosk and herserendipity.. much appreciated!

Anyone else? I know others on here are in PE . Mind sharing your experiences?

How many pages of investment memorandum do people generally aim for a 4 hour test? Is there any outline that we should stick to?

also, has anyone done any credit investment case study test?

I had a case study interviewing for the debt fund I work at. We do mezz and mid-market lending (so similar analysis to being the sponsor in an LBO with somewhat different focus points.

My work product was only about 2 pages of memo (bullet points as well eating up space), the model was a much bigger focus. I was also grilled on how I would have structured the deal, how I viewed the covenant package, which tranche I felt had the best relative value, how I built my downside cases, etc.

I was asked a few brain-teasers earlier in the interview process as well.

PE interview case studies? ( Originally Posted: 08/19/2013 )

Where can I get them? Can anyone please send me one? Would really appreciate it!

Would anyone mind sending them to me as well? Much appreciated. Thanks!

Also interested.

another question - can someone please name general resources for PE interview prep? I don't think M&I or WSO have a specific PE guide. Any other ones?

Vault has one...but that's light. there's another by Vault which focuses on PE andhedge fund together. That has good techinical questions (better than the private equity guide) at least.

PE case studies are usually always the same: It's usually a Paper LBO , that you then have to compute on the spot and come up with a yes or no investment decision based on the IRR you calculated.

Matrick: PE case studies are usually always the same: It's usually a Paper LBO , that you then have to compute on the spot and come up with a yes or no investment decision based on the IRR you calculated.

That sounds nothing like any PE case study I've seen.

There are generally two types of case studies (at least what I have come across and what we do):

Short-form: This is where you have a few hours to read and prepare your analysis for a short case study where you will get a bit of information on the company, industry and financials (i.e. 1-2 pager) - you build a quick high-level LBO model and then present your analysis (most of the time, you will have access to Excel but have also seen where you can only use pen & paper) + Q&A in a presentation to interviewers - this takes 1/2 day max in my experience

Long-form: This is where you're given a company name and have a weekend to pull together a short (e.g. 10-page) presentation + LBO model on the opportunity - it generally is a public company so you can pull all the info yourself - deadline end of Sunday with a 1-hour presentation the following week

You can practice for either one by just picking a few companies you have read about in the news as potential buyout candidates or you are interested in and practice building a quick LBO model and do some brainstorming what your investment thesis would consist of and which risk factors / mitigants you can identify. You can also practice high-level industry analysis yourself by picking out a company and think about what you would say about the industry (e.g. overall market size, growth expectations, drivers, competition, positioning, etc.).

You saw these types of case studies for PE interviews for people straight out of undergrad?

No, for Analysts who would have 1-2yrs at a bank or Associates. Sorry but cannot comment on PE case studies for people straight out of undergrad.

I think OP is asking for the latter, judging from another post he made in the IB forum.

I can comment on US MM PE both pre-MBA and post-MBA (but not directly out of undergrad). I've seen or administered the following modeling tests:

1) Paper LBO . Flip over the resume, make up the assumptions on your own, calculate an IRR and ROIC. Very high level. 2) 30 minute "fill in the blanks" LBO . Make high level assumptions and complete the template on site during the interview process. 3) Take home LBO . I was given a CIM and told to prepare an LBO model and email it back. Completely up to me on how to construct and prepare it. 4) Merger model. One hour to merge two companies' financials to create pro forma financial statements and answer questions about the combined entity.

However, this is usually just one component of the interview. General the case study portion of the interview involves reading an offering memorandum and answering questions on the spot. Opportunities / Risks, would I invest, what questions to ask management, etc. Usually PE firms choose either a recent deal or an existing portfolio company to administer these case studies.

CompBanker: 4) Merger model. One hour to merge two companies' financials to create pro forma financial statements and answer questions about the combined entity.

I have to correct myself: I also encountered this for a PE position straight out of undergrad. It was very high level though, and they mostly cared about Goodwill creation.

Also agree on the part in regards to using a recent deal the firm did or a portfolio company. Was the same for me everytime.

Thanks for your help CompBanker. I'm just starting off and have a few PE interviews lined up. Do you have any examples of how to do #1? I'm going through an in-depth LBO tutorial to prep for #2 and #3.

PE Case Interview Expectations ( Originally Posted: 02/18/2018 )

Hey monkeys -

TL;DR - Hour long case interview and looking for guidance on the best way to prepare.

Background I am currently a consultant and have been trying to break into PE . I have an interview later this week that the associate defined as a 'case' interview. My interviewer indicated that we would have a hour for the interview so with that information I am looking for guidance on the best way I can allocate my studying time.

I really like the company and it is my top choice of firms right now but due to my current client obligations I have not been able to focus as much as my time as I would have preferred to. This is not meant to be an excuse as I should have foreseen this but it is what it is at this point and I want to use my limited free time as best as possible.

Question Knowing that this is an hour interview, do any of you have insights on the type of technical questions or 'cases' that may be presented? I am working on full scale LBOs hoping that if I nail that down then I would be able to answer anything higher level but I am aware this may not be fool proof.

Any advice is appreciated.

Best, CoffeeDrivenConsultant

"full scale LBOs" usually take 2-3 hours yours will most likely be a paper lbo or a more general discussion around a hypothetical case / previous investment the fund did

Do you have any perspectives / examples of what the discussion would be like?

it depends. they might give you a case and ask for a quick write up with some quick calculations (not a full lbo model). or it can be part of a discussion during the interview, e.g. we are looking to invest in x - what do you think?

Thanks and.... PE Case Interview Help? ( Originally Posted: 01/15/2014 )

Hi there, longtime lurker, first time poster (yes, this is a new username - my existing handle was just a little too identifying). First off, just want to thank everyone on here for generally amusing and often helpful posts, examples, experiences and tips. Historically I had just visited for pure amusement, but recently have begun using the forum as an information source, and it's been truly indispensable.

So short story - spent a few years doing strategy consulting/ M&A advisory for a boutique, sector-focused firm. Spent most of my time working with private equity firms providing commercial due diligence similar in scope to what Bain might provide (lots of excel, but no heavy financial modeling) Girlfriend graduates from grad school, takes job in new city, and presto! I have a new home.

I took a look at the sponsors in the area, but they are few and far between where I am and had no open associate spots when I was looking. I ended up landing a corporate development style role with a mid-sized industrial firm where I am today. Anyways, along comes a headhunter, asking me if I'd still be interested in an associate spot and here I am.

Got through an interview with a partner (mostly fit/background, a few technicals) and am now on the LBO case! They just gave me a CIM and asked me to do a model and a write up over about 3 days (no other instructions or assumptions). I've sort of wrapped up the model and am looking for some advice, as I am somewhat new to the LBO modeling portion. So if there's anyone out there willing to take a quick look and critique anything and everything, I'd appreciate it.

Specific questions I have: - The partner I interviewed with said I should create an "intermediate level" lbo model - does this seem to fit the bill? I don't have too many bells and whistles on there, fairly simple debt structure (revolver, TLA and TLB), and I cut out the full BS , just took the given depreciation and capex, calced WC as % of revenue, etc. I'd like to add operating cases and some more returns analysis - anything else? - Do my debt characteristics and amounts look about right? I'm not really plugged into the LevFin world so I don't know what the going rates/structures are. - Currently my debt amounts calc off of a multiple of EBITDA , with the sponsor equity as the plug - when you sensitize around entry multiple it just shrinks or grows the amount of equity - is that the right way to do it? Or should I be using more of a target cap structure (e.g.,60% debt, 40% equity) off of the EV? - On the credit statistics, does interest coverage include mandatory amorts? Or is it just pure interest? - Currently I'm kind of lukewarm on the business as an LBO target. The management projections are in there (I'll add operating cases later), which are obviously on the rosy end of the spectrum. It's an industrial distribution business, almost sort of retail, so growth takes a fair bit of capex and working capital to scale up. When it's already a low margin business, it just doesn't have a whole lot debt capacity (in my estimation).

Anyways, any thoughts would be greatly appreciated! Thanks again to the whole community!

Haven't looked that closely at your model, but if they gave you a CIM and 3 days to do it, why not include a balance sheet? I remember doing a balance sheet on 1-hour timed LBO tests

Fair point I suppose. I left it out at the outset because it was somewhat complicated/lengthy, and given the amount of info I have, I would have just ended up doing AR / AP Days, Inventory as % of COGS, etc., which leads you to pretty much the same place as what I did - NWC as a percent of revenue.

Agree with above - do a full three statement model if you have 3 days and aren't in IB . I'm sure you can find the time.

Quickly looking at it, your income statement needs to be driven off assumptions (preferably with multiple scenarios) instead of hardcoded. Some formatting issues. Some of your formulas are overly complicated. For example, your paydown formulas should be a simple -min function instead of the convoluted if statements you have running. Doesn't look like you're discounting your cash flows in your IRR analysis. Haven't really looked at it in-depth though. Look at Macabacus for an example.

stvr - while I appreciate your "I'm sure you can find the time" snark, I'd appreciate EVEN MORE some real insight here. Your offer of vague pointers about "formatting issues" and advice when you "haven't looked at it in-depth" isn't terribly helpful. If you've don't like the formatting or something, please specify so it's, you know, helpful.

As you'll note above, I mentioned that I was planning on putting in operating scenarios, so I'm well aware of that shortcoming. As far as the debt pay down formulas go, take a look at M&I, they have a pretty helpful explanation - just using a Min function is too simple and doesn't work in all cases ( http://bit.ly/K4w81T ).

As far as discounting cash flows in the IRR , I'm not entirely sure I follow. This isn't a DCF . It takes the cash on cash return, then calcs the geometric growth rate needed to achieve that cash on cash return (which is IRR in effect). I'm willing to be told that I'm wrong, but I think that works exactly the way it's supposed to (presuming you' don't have any dividends or anything like that).

I've PM'd you

Agree with above user. I think your projected I/S lines should be driven off growth assumptions, you seem to have it the other way around (i.e. conforming growth numbers to line items growth).

Thanks. Yeah those were just placeholders.

This is probably a stupid question, but I'm just venting now - how big of a sin is it if your B/S doesn't quite tie. I can't seem to figure out why mine isn't. I think part of my problem is that the data in the CIM wasn't quite complete.

So at this point, I'm faced with two unappetizing options: submit a model without a B/S (all the other things correctly accounted for - WC, CapEx, debt schedules, etc.) or send in a model with a fully integrate B/S that doesn't quite tie (think like .1% of assets off)

Wow. I'm just realizing how much I learned over the summer. Before the internship I wouldn't have understood a word of what you said in this post but at this point I almost feel confident enough to give you tips on your model. But I'll leave it up to the Certified Users to help you out.

sent you a revised model

PE Analyst Case Interview ( Originally Posted: 11/04/2008 )

I just got called in for a first round interview with Audax Private Equity. Has anyone been through their interviews and does anyone have any advice? I assume it will be partially case based. Does anyone have any suggestions about case questions in general? I have the vault guide but it is about 400 pages and I have 2 days... Help!

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Bridging private equity’s value creation gap

For the past 40 years or so, private equity (PE) buyout managers largely invested capital in an environment of declining interest rates and escalating asset prices. During that period, they were able to rely on financial leverage, enhanced tax and debt structures, and increasing valuations on high-quality assets to generate outsize returns for investors and create value.

Times have changed , however. Since 2020, the cost of debt has increased and liquidity in debt markets is harder to access given current interest rates, asset valuations, and typical bank borrowing standards. Fund performance has suffered as a result: PE buyout entry multiples declined from 11.9 to 11.0 times EBITDA through the first nine months of 2023. 1 2024 Global Private Markets Review , McKinsey, March 2024.

Even as debt markets begin to bounce back, a new macroeconomic reality is setting in—one that requires more than just financial acumen to drive returns. Buyout managers now need to focus on operational value creation strategies for revenue growth, as well as margin expansion to offset compression of multiples and to deliver desired returns to investors.

Based on our years of research and experience working with a range of private-capital firms across the globe, we have identified two key principles to maximize operational value creation.

First, buyout managers should invest with operational value creation at the forefront . This means that in addition to strategic diligence, they should conduct operational diligence for new assets. Their focus should be on developing a rigorous, bespoke, and integrated approach to assessing top-line and operational efficiency. During the underwriting process, managers can also identify actions that could expand and improve EBITDA margins and growth rates during the holding period, identify the costs involved in this transformation, and create rough timelines to track the assets’ performance. And if they acquire the asset, the manager should: 1) clearly establish the value creation objectives before deal signing, 2) emphasize operational and top-line improvements after closing, and 3) pursue continual improvements in ways of working with portfolio companies. Meanwhile, for existing assets, the manager should ensure that the level of oversight and monitoring is closely aligned with the health of each asset.

Second, everyone should understand and have a hand in improving operations . Within the PE firm, the operating group and deal teams should work together to enable and hold portfolio companies accountable for the execution of the value creation plan. This begins with an explicit focus on “linking talent to value”—ensuring leaders with the right combination of skills and experience are in place and empowered to deliver the plan, improve internal processes, and build organizational capabilities.

In our experience, getting these two principles right can significantly improve PE fund performance. Our initial analysis of more than 100 PE funds with vintages after 2020 indicates that general partners that focus on creating value through asset operations achieve a higher internal rate of return—up to two to three percentage points higher, on average—compared with peers.

The case for operational efficiency

The ongoing macroeconomic uncertainty has made it difficult for buyout managers to achieve historical levels of returns in the PE buyout industry using old ways of value creation. 2 Overall, roughly two-thirds of the total return for buyout deals that were entered in 2010 or later, and exited 2021 or before, can be attributed to market multiple expansion and leverage. See 2024 Global Private Markets Review .   And it’s not going to get any easier anytime soon, for two reasons.

Higher-for-longer rates will trigger financing issues

The US Federal Reserve projects that the federal funds rate will remain around 4.5 percent through 2024, then potentially drop to about 3.0 percent by the end of 2026. 3 “Summary of economic projections,” Federal Reserve Board, December 13, 2023.   Yet, even if rates decline by 200 basis points over the next two years, they will still be higher than they were over the past four years when PE buyout deals were underwritten.

This could create issues with recapitalization or floating interest rate resets for a portfolio company’s standing debt. Consider that the average borrower takes a leveraged loan at an interest coverage ratio of about three times EBIDTA (or 3x). 4 The interest coverage ratio is an indicator of a borrower’s ability to service debt, or potential default risk.   With rising interest expenses and additional profitability headwinds, these coverage ratios could quickly fall below 2x and get close to or trip covenant triggers around 1x. In 2023, for example, the average leveraged loan in the healthcare and software industries was already at less than a 2x interest coverage ratio. 5 James Gelfer and Stephanie Rader, “What’s the worst that could happen? Default and recovery rates in private credit,” Goldman Sachs, April 20, 2023.   To avoid a covenant breach, or (if needed) increasing recapitalization capital available without equity paydown, managers will need to rely on operational efficiency to increase EBITDA.

Valuations are mismatched

If interest rates remain high, the most recent vintage of PE assets is likely to face valuation mismatches at exit, or extended hold periods until value can be realized. Moreover, valuation of PE assets has remained high relative to their public-market equivalents, partly a result of the natural lag in how these assets are marked to market. As the CEO of Harvard University’s endowment explained in Harvard’s 2023 annual report, it will likely take more time for private valuations to fully reflect market conditions due to the continued slowdown in exits and financing rounds. 6 Message from the CEO of Harvard Management Company, September 2023.

Adapting PE’s value creation approach

Operational efficiency isn’t a new concept in the PE world. We’ve previously written  about the strategic shift among firms, increasingly notable since 2018, moving from the historical “buy smart and hold” approach to one of “acquire, align on strategy, and improve operating performance.”

However, the role of operations in creating more value is no longer just a source of competitive advantage but a competitive necessity for managers. Let’s take a closer look at the two principles that can create operational efficiency.

Invest with operational value creation at the forefront

PE fund managers can improve the profitability and exit valuations of assets by having operations-related conversations up front.

Assessing new assets. Prior to acquiring an asset, PE managers typically conduct financial and strategic diligence to refine their understanding of a given market and the asset’s position in that market. They should also undertake operational diligence—if they are not already doing so—to develop a holistic view of the asset to inform their value creation agenda.

Operational diligence involves the detailed assessment of an asset’s operations, including identification of opportunities to improve margins or accelerate organic growth. A well-executed operational-diligence process can reveal or confirm which types of initiatives could generate top-line and efficiency-driven value, the estimated cash flow improvements these initiatives could generate, the approximate timing of any cash flow improvements, and the potential costs of such initiatives.

The results of an operational-diligence process can be advantageous in other ways, too. Managers can use the findings to create a compelling value creation plan, or a detailed memo summarizing the near-term improvement opportunities available in the current profit-and-loss statement, as well as potential opportunities for expansion into adjacencies or new markets. After this step is done, they should determine, in collaboration with their operating-group colleagues, whether they have the appropriate leaders in place to successfully implement the value creation plan.

These results can also help managers resolve any potential issues up front, prior to deal signing, which in turn could increase the likelihood of receiving investment committee approval for the acquisition. Managers also can share the diligence findings with co-investors and financiers to help boost their confidence in the investment and the associated value creation thesis.

It is crucial that managers have in-depth familiarity with company operations, since operational diligence is not just an analytical-sizing exercise. If they perform operational diligence well, they can ensure that the full value creation strategy and performance improvement opportunities are embedded in the annual operating plan and the longer-term three- to five-year plan of the portfolio company’s management team.

Assessing existing assets. When it comes to existing assets, a fundamental question for PE managers is how to continue to improve performance throughout the deal life cycle. Particularly in the current macroeconomic and geopolitical environment, where uncertainty reigns, managers should focus more—and more often—on directly monitoring assets and intervening when required. They can complement this monitoring with routine touchpoints with the CEO, CFO, and chief transformation officer (CTO) of individual assets to get updates on critical initiatives driving the value creation plan, along with ensuring their operating group has full access to each portfolio company’s financials. Few PE managers currently provide this level of transparency into their assets’ performance.

To effectively monitor existing assets, managers can use key performance indicators (KPIs) directly linked to the fund’s investment thesis. For instance, if the fund’s investment thesis is centered on the availability of inventory, they may rigorously track forecasts of supply and demand and order volumes. This way, they can identify and address issues with inventory early on. Some managers pull information directly from the enterprise resource planning systems in their portfolio companies to get full visibility into operations. Others have set up specific “transformation management offices” to support performance improvements in key assets and improve transparency on key initiatives.

We’ve seen managers adopt various approaches with assets that are on track to meet return hurdles. They have frequent discussions with the portfolio company’s management team, perform quarterly credit checks on key suppliers and customers to ensure stability of their extended operations, and do a detailed review of the portfolio company’s operations and financial performance two to three years into the hold period. Managers can therefore confirm whether the management team is delivering on their value creation plans and also identify any new opportunities associated with the well-performing assets.

If existing assets are underperforming or distressed, managers’ prompt interventions to improve operations in the near term, and improve revenue over the medium term, can determine whether they should continue to own the asset or reduce their equity position through a bankruptcy proceeding. One manager implemented a cash management program to monitor and improve the cash flow for an underperforming retail asset of a portfolio company. The approach helped the portfolio company overcome a peak cash flow crisis period, avoid tripping liquidity covenants in an asset-backed loan, and get the time needed for the asset’s long-term performance to improve.

Reassess internal operations and governance

In addition to operational improvements, managers should also assess their own operations and consider shifting to an operating model that encourages increased engagement between their team and the portfolio companies. They should cultivate a stable of trusted, experienced executives within the operating group. They should empower these executives to be equal collaborators with the deal team in determining the value available in the asset to be underwritten, developing an appropriate value creation strategy, and overseeing performance of the portfolio company’s management.

Shift to a ‘just right’ operating model for operating partners. The operating model through which buyout managers engage with portfolio companies should be “just right”—that is, aligned with the fund’s overall strategy, how the fund is structured, and who sets the strategic vision for each individual portfolio company.

There are two types of engagement operating models—consultative and directive. When choosing an operating model, firms should align their hiring and internal capabilities to support their operating norms, how they add value to their portfolio companies, and the desired relationship with the management team (exhibit).

Take the example of a traditional buyout manager that acquires good companies with good management teams. In such a case, the portfolio company’s management team is likely to already have a strategic vision for the asset. These managers may therefore choose a more consultative engagement approach (for instance, providing advice and support to the portfolio company for any board-related issues or other challenges).

For value- or operations-focused funds, the manager may have higher ownership in the strategic vision for the asset, so their initial goal should be to develop a management team that can deliver on a specific investment thesis. In this case, the support required by the portfolio company could be less specialized (for example, the manager helps in hiring the right talent for key functional areas), and more integrative, to ensure a successful end-to-end transformation for the asset. As such, a more directive or oversight-focused engagement operating model may be preferred.

Successful execution of these engagement models requires the operating group to have the right talent mix and experience levels. If the manager implements a “generalist” coverage model, for example, where the focus is on monitoring and overseeing portfolio companies, the operating group will need people with the ability (and experience) to support the management in end-to-end transformations. However, a different type of skill set is required if the manager chooses a “specialist” coverage model, where the focus is on providing functional guidance and expertise (leaving transformations to the portfolio company’s management teams). Larger and more mature operating groups frequently use a mix of both talent pools.

Empower the operating group. In the past, many buyout managers did not have operating teams, so they relied on the management teams in the portfolio companies to fully identify and implement the value creation plan while running the asset’s day-to-day operations. Over time, many top PE funds began to establish internal operating groups  to provide strategic direction, coaching, and support to their portfolio companies. The operating groups, however, tended to take a back seat to deal teams, largely because legacy mindsets and governance structures placed responsibility for the performance of an asset on the deal team. In our view, while the deal team needs to remain responsible and accountable for the deal, certain tasks can be delegated to the operating group.

Some managers give their operating group members seats on portfolio company boards, hiring authority for key executives, and even decision-making rights on certain value creation strategies within the portfolio. For optimal performance, these operating groups should have leaders with prior C-suite responsibility or commensurate accountability within the PE fund and experience executing cross-functional mandates and company transformations. Certain funds with a core commitment to portfolio value creation include the leader of the operating group on the investment committee. Less-experienced members of the operating group can have consultative arrangements or peer-to-peer relationships with key portfolio company leaders.

Since the main KPIs for operating teams are financial, it is critical that their leaders understand a buyout asset’s business model, financing, and general market dynamics. The operating group should also be involved in the deal during the diligence phase, and participate in the development of the value creation thesis as well as the underwriting process. Upon deal close, the operating team should be as empowered as the deal team to serve as stewards of the asset and resolve issues concerning company operations.

Some funds also are hiring CTOs  for their portfolio companies to steer them through large transformations. Similar to the CTO in any organization , they help the organization align on a common vision, translate strategy into concrete initiatives for better performance, and create a system of continuous improvement and growth for the employees. However, when deployed by the PE fund, the CTO also often serves as a bridge between the PE fund and the portfolio company and can serve as a plug-and-play executive to fill short-term gaps in the portfolio company management team. In many instances, the CTO is given signatory, and occasionally broader, functional responsibilities. In addition, their personal incentives can be aligned with the fund’s desired outcomes. For example, funds may tie an element of the CTO’s overall compensation to EBITDA improvement or the success of the transformation.

Bring best-of-breed capabilities to portfolio companies. Buyout managers can bring a range of compelling capabilities to their portfolio companies, especially to smaller and midmarket companies and their internal operating teams. Our conversations with industry stakeholders revealed that buyout managers’ skills can be particularly useful in the following three areas:

• Procurement. Portfolio companies can draw on a buyout manager’s long-established procurement processes, team, and negotiating support. For instance, managers often have prenegotiated rates with suppliers or group purchasing arrangements that portfolio companies can leverage to minimize their own procurement costs and reduce third-party spending.
• Executive talent. They can also capitalize on the diverse and robust network of top talent that buyout managers have likely cultivated over time, including homegrown leaders and ones found through executive search firms (both within and outside the PE industry).
• Partners. Similarly, they can work with the buyout manager’s roster of external experts, business partners, suppliers, and advisers to find the best solutions to their emerging business challenges (for instance, gaining access to offshore resources during a carve-out transaction).

Ongoing macroeconomic uncertainty is creating unprecedented times in the PE buyout industry. Managers should use this as an opportunity to redouble their efforts on creating operational improvements in their existing portfolio, as well as new assets. It won’t be easy to adapt and evolve value creation processes and practices, but managers that succeed have an opportunity to close the gap between the current state of value creation and historical returns and outperform their peers.

Jose Luis Blanco is a senior partner in McKinsey’s New York office, where Matthew Maloney is a partner; William Bundy is a partner in the Washington, DC, office; and Jason Phillips is a senior partner in the London office.

The authors wish to thank Louis Dufau and Bill Leigh for their contributions to this article.

This article was edited by Arshiya Khullar, an editor in McKinsey’s Gurugram office.

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