In an increasingly competitive market, how can firms successfully create more value for their portfolios and differentiate themselves from their competitors through embracing digitalisation? Michael Brigl, Partner and Managing Director at The Boston Consulting Group, and speaker at SuperInvestor 2019, shares his expertise on how digitalisation adds value within the investment process and explain why it is key for PE firms to improve their digital maturity.
While a focus on operational improvements helped many private equity (PE) players achieve outsize performance in recent years, that advantage has begun to shrink as more firms jump on the same improvement bandwagon seeking similar results. Delivering top-quartile returns in the months and years ahead will require leaders to reach for new value creation levers—ones that can provide sustainable differentiation and help PE firms underwrite substantial value creation upside during the due diligence process.
The most powerful of these is digital transformation. But, while nearly all firms recognise the role that digital tools and capabilities can play, many have been slow to act. Some PE practitioners still see digital as a threat, leading them to over weight their portfolios in “safe” industries, rather than proactively looking for disruptive value creation opportunities that could generate greater returns. Others have been reluctant to make the outlays needed in order to protect short-term performance gains. However, the problem with these wait-and-see strategies is that digital transformation is not an overnight proposition. The winners over the next few years will be the firms that invest now and commit to placing bold bets in digital ventures, technology and talent.
Based on our work with numerous PE firms, BCG has developed a systematic approach to evaluating digital maturity and disruption risk across the investment lifecycle.
Digitisation adds value at different investment stages
Digitisation can unlock value in different ways. To make the most efficient use of their resources, firms need to know where to focus their efforts during due diligence (DD), during the holding period and in preparing for exit and vendor due diligence (VDD).
There are five main ways that PE firms can employ digital transformation techniques to generate value:
1. Conduct a digital maturity assessment (DD): Surfacing key digital gaps and opportunities requires firms to make digital maturity assessment a core part of their DD approach. For instance, one firm identified a way to use digital tools to reduce inventory by approximately 25%.
2. Complement DD with data science tools (DD): Apply predictive statistical models to complement the classical DD analyses and derive a deeper understanding of historical performance drivers and future value opportunities within the customer base, products and channels by using statistical and machine learning models.
3. Digitise support functions for greater operational efficiency (holding period): During the holding period, firms should look for opportunities to gain economies of scale. For example, one PE-owned retail company increased productivity by roughly 70% by automating its accounts payables process using optical character recognition and robotic process automation.
4. Use big data and analytics to increase effectiveness (holding period): Investing in advanced data and analytics approaches can deliver significant results. One optical lens provider saw a 3% uptick in sales after developing predictive analytics that identified customers at risk of churn. And a global food and beverage brand increased net revenue by $150 million after implementing a real-time personalisation engine that allowed them to send individualised offers to 12 million customers.
5. Launch new ventures to grow vertically and disrupt existing businesses (holding period & exit phase – VDD): Optimising exit valuations requires gauging the potential of a company’s digital and data assets. By conducting a 9-week innovation sprint alongside its traditional VDD, one company identified several data-driven business concepts. These digital initiatives helped drive significant multiple expansion at sale—with an enterprise value at exit that was approximately 300% greater than at entry.
PE firms must also improve their own digital maturity
Firms also need to turn the digital lens on their own organisations. In doing so, some may choose to take a broad approach that focuses on raising the overall level of digital awareness across all investing activities through specialised training geared to the skills and knowledge needed at different investment stages.
Other firms may choose to invest in building specific capabilities in-house in one of the following ways:
- Appoint one digital expert at the PE firm: This person manages digital initiatives across all investment phases and hires external consultants for selected sprints.
- Establish a digital team at the PE firm: The group provides expertise and accelerates execution across all investment stages, e.g., conducting detailed digital DDs, supporting operational improvement efforts during holding, and highlighting digital opportunities at exit.
- Place digital experts in portfolio companies: These individuals enable hands-on support and continuity during the holding period. In addition, having digital expertise on staff can raise exit values and support the VDD process.
Given the rapid pace of technological evolution, modest efforts over a period of years won’t work. While PE firms need to invest in digital value creation opportunities, they should do so selectively. Attempting to gain critical mass in high-demand skillsets is often unrealistic, especially for small portfolio companies. Finally, digital transformation is as much about change management as it is technology. To spur needed behavioural shifts and embed new ways of working, PE firms must develop the appropriate means to incentivise management teams.
The PE industry has the potential to unlock significant value from digital. Forward-thinking players that accelerate their digital maturity can achieve significant differentiation and deliver extraordinary and sustainable returns well into the future.