Featured image Private Equity Investment

Priva­te equity invest­ment: Strategy for compa­ny succes­si­on in the SME sector

Priva­te equity invest­ment enables compa­ny sellers to obtain capital from finan­cial inves­tors who are more willing to take risks and often withdraw from the invest­ment or finan­cing after a certain period of time. But what exact­ly does the term priva­te equity mean and what impact does it have on compa­nies and inves­tors? We take a look at this in the follo­wing lines. 

Defini­ti­on: What is priva­te equity?

Priva­te equity is a form of corpo­ra­te finan­cing in which inves­tors invest capital in unlis­ted compa­nies. These invest­ments are usual­ly made by specia­li­sed funds known as priva­te equity compa­nies. In contrast to other forms of finan­cing such as bank loans or IPOs, inves­tors in priva­te equity invest­ments general­ly recei­ve compa­ny shares or parti­ci­pa­ti­ons. This method of raising capital enables priva­te equity compa­nies to reali­se their growth plans and often genera­te higher returns within 5-7 years of the investment. 

Long-termism is limit­ed to invest­ments of less than 10 years and often charac­te­ri­ses the nature of priva­te equity invest­ments, whereby the main objec­ti­ve is to increase the value of the inves­ted compa­ny through various strate­gies. These strate­gies can include the optimi­sa­ti­on of opera­tio­nal effici­en­cy, the develo­p­ment of new markets, the imple­men­ta­ti­on of strate­gic acqui­si­ti­ons or even succes­si­on planning. Priva­te equity inves­tors not only contri­bu­te capital, but also their entre­pre­neu­ri­al experi­ence and networks in order to maximi­se the company’s growth potential.

The importance of priva­te equity compa­ny succession

The Compa­ny succes­si­on is of crucial importance for the success of a priva­te equity compa­ny. Medium-sized compa­nies in parti­cu­lar, which are often family-owned, face the chall­enge of finding a suita­ble succes­sor who can successful­ly conti­nue to run the compa­ny. This is where priva­te equity inves­tors offer an attrac­ti­ve option, as they can contri­bu­te not only capital but also experi­ence and exper­ti­se to the manage­ment of the compa­ny. However, they are very profit-orien­ta­ted and there­fo­re often devia­te from the long-term strate­gies of a typical family business, which does not always decla­re profit as its top priority.

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Advan­ta­ges of priva­te equity invest­ments for medium-sized companies

Priva­te equity can be parti­cu­lar­ly interes­t­ing for medium-sized compa­nies. This is becau­se it offers a number of advan­ta­ges, prima­ri­ly with regard to compa­ny succession:

  • Experi­en­ced inves­tors provi­de support in the search for suita­ble succes­si­on solutions.
  • Inves­tors’ exper­ti­se and networks help to identi­fy poten­ti­al successors.
  • Support in the selec­tion and intro­duc­tion of new management.
  • Develo­p­ment of a long-term strategy for successful compa­ny succession.
Graphic Advantages of private equity investments for medium-sized companies

Challenges and solutions

Although priva­te equity invest­ments offer numerous advan­ta­ges, there are also challenges to overcome: 

  • Comple­xi­ty of the negotia­ti­ons: The negotia­ti­ons between the compa­ny and the priva­te equity compa­ny can be complex due to the varie­ty of contrac­tu­al terms, valua­ti­on methods and finan­cial structures.
  • Agree­ing on the right strategy and maintai­ning the corpo­ra­te cultu­re: Integra­ting the strate­gic goals of the priva­te equity inves­tor with the long-term goals and corpo­ra­te cultu­re of the compa­ny can be a challenge.
  • Finan­cial restruc­tu­ring: The need for finan­cial restruc­tu­ring to impro­ve the company’s profi­ta­bi­li­ty and make it more attrac­ti­ve to inves­tors can be difficult.
  • Manage­ment changes: Changes to the manage­ment team or compa­ny manage­ment may be neces­sa­ry in order to fulfil the requi­re­ments of inves­tors and manage the compa­ny more effectively.
  • Capital struc­tu­re and debt: Reorga­ni­s­ing the capital struc­tu­re and taking on debt can be a chall­enge for compa­nies, especi­al­ly those with a conser­va­ti­ve finan­cial policy.
  • Increase in value: Inves­tors’ expec­ta­ti­ons for incre­asing the value of the compa­ny can be high, which can put additio­nal pressu­re on the manage­ment team and employees. As a rule, PE inves­tors pursue a diffe­rent cultu­re of value creati­on than a family-run company.

There are a number of soluti­ons to meet these challenges:

  • Clear commu­ni­ca­ti­on: To avoid misun­derstan­dings, compa­nies and priva­te equity inves­tors must reach clear and trans­pa­rent agreements.
  • Develo­p­ment of a clear strategy: To take into account the goals and expec­ta­ti­ons of all those invol­ved and to preser­ve the corpo­ra­te culture.
  • Analy­sis of the finan­cial situa­ti­on: To develop the right capital struc­tu­re for the company.
  • Early planning of exit options: To enable a successful termi­na­ti­on of the invest­ment, for examp­le through a rever­se participation.
Chart Challenges and solutions for private equity investments

Diffe­ren­ces to other forms of investment

Various aspects distin­gu­ish priva­te equity invest­ments from other forms of corpo­ra­te finan­cing. In contrast to bank loans, priva­te equity inves­tors are prepared to take a higher risk and invest in compa­nies that are still in the growth phase or face parti­cu­lar challenges. In this way, compa­nies recei­ve capital when tradi­tio­nal finan­cing options may not be available.

Further­mo­re, priva­te equity is charac­te­ri­sed by condi­tio­nal­ly long-term invest­ments and an active (deter­mi­ning) partner­ship with the compa­ny. Priva­te equity inves­tors not only contri­bu­te finan­cial capital, but also entre­pre­neu­ri­al exper­ti­se and experi­ence. In contrast to passi­ve inves­tors such as share­hol­ders on the stock exchan­ge, priva­te equity inves­tors are often invol­ved in the opera­tio­nal and strate­gic manage­ment of the compa­ny and have a perso­nal interest in the company’s success.

Succes­si­on planning and prepa­ra­ti­on for priva­te equity investors

Successful succes­si­on planning and prepa­ra­ti­on is crucial to the success of a priva­te equity invest­ment. It is important that the compa­ny has a clear strate­gic direc­tion and under­stands the goals and expec­ta­ti­ons of the inves­tor. A good succes­si­on plan should take into account the needs and requi­re­ments of the compa­ny as well as the long-term vision of the investor.

Incre­asing attrac­ti­ve­ness for investors

A thorough Due Diligence is essen­ti­al in order to assess the company’s finan­cial and opera­tio­nal situa­ti­on. The inves­tor must under­stand the full poten­ti­al of the compa­ny and identi­fy possi­ble risks in order to make infor­med invest­ment decis­i­ons. A careful exami­na­ti­on of the company’s struc­tu­re, balan­ce sheets and manage­ment is there­fo­re essential.

Effects of a lack of preparation

A lack of prepa­ra­ti­on can lead to misjud­ge­ments and affect inves­tor confi­dence. Undetec­ted risks can lead to unexpec­ted problems and finan­cial losses. An inade­qua­te succes­si­on plan can jeopar­di­se the long-term compe­ti­ti­ve­ness of the company.

Recom­men­da­ti­ons for entre­pre­neurs dealing with succes­si­on planning

Ensure clear commu­ni­ca­ti­on and open colla­bo­ra­ti­on between the compa­ny and the inves­tor. Trans­pa­rent commu­ni­ca­ti­on about expec­ta­ti­ons, goals and plans to ensure successful colla­bo­ra­ti­on. Invol­ve experts and advisors at an early stage to ensure a struc­tu­red and successful succes­si­on process.

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Conclu­si­on: Priva­te equity as an oppor­tu­ni­ty for compa­ny succession

Priva­te equity invest­ments offer SMEs an attrac­ti­ve oppor­tu­ni­ty to ensure successful business succes­si­on. By working with experi­en­ced inves­tors, compa­nies can benefit from their exper­ti­se, resour­ces and networks to maximi­se their growth poten­ti­al and ensure long-term success. At the same time, the majori­ty of finan­cial invest­ments are not made for an indefi­ni­te period of time, but rather PE inves­tors want to exit the risk after less than 10 years.

A clear strate­gic focus, thorough due diligence and open commu­ni­ca­ti­on are crucial to the success of a priva­te equity invest­ment. Compa­nies should careful­ly exami­ne the oppor­tu­ni­ties offered by priva­te equity invest­ments and, if neces­sa­ry, seek profes­sio­nal support to ensure a successful business succession.