Two reasons why PE funds make more profitable acquisitions

Private Equity (PE) funds pay lower valuations for their acquisitions than corporate acquirers, suggesting that the general partners are either great negotiators, or that they are particularly skilled at identifying under-valued companies. Further, the valuation discounts enjoyed by PE compared with its corporate counterparts is larger when the deal size is smaller.

Due to having fixed investment time-frame, portfolio companies increase their sales, operating profitability, assets and leverage within the first 3 years of ownership, as compared to non-PE corporate peers. Smaller funds with AUM of $500 million or below focus on expansion as their top priority while larger funds focus on operational improvements and efficiency gains. Interestingly, larger or successful PE funds tend to be better at improving the performance of acquired companies than those PE funds with a less impressive track record, pointing to a “success breeds success” cycle. Also, larger PE funds are better placed to utilize leverage more effectively to achieve scale.

On the other hand, a corporate acquirer is usually prepared to pay extra goodwill in return for either potential corporate synergies down the road or strategic advantages to deny competitors of an asset. It will be interesting to find out whether those very portfolio companies are then bought over by strategic corporate acquirers from PE funds.

SourceLondon Business School


6 Reasons Why Hedge Funds Without Scale are Facing a Tough Time

If EY’s 2016 Global Hedge Fund and Investor Survey is anything to go by, hedge funds that lack scale will continue to find it challenging to operate in 2017.

1. Lack of scale

Smaller managers face great challenges to compete as they struggle to fulfill all their obligatory requirements with tighter budget constraints. On the other hand, greater fee income helps the funds with over $10 bn AUM in scale to maintain and continue to build out the operational, technological and regulatory infrastructure necessary to keep pace with industry demands. With a larger AUM, they also become more successful at attracting capital. It also allows these managers to innovate sufficiently to bring new products tailored to address investors’ desire for customization.

2. Insufficient differentiation

Hedge fund managers normally distinguish their investment strategies in a bid to differentiate their product offerings. To some extent, hedge fund managers have sought to differentiate by excelling over their peers within a particular sector or investment approach. Without demonstrating how their fund or approach compares against other alternative products that are vying for a share of the alternative portfolio, smaller hedge funds cannot attract sufficient AUM to remain competitve.

3. Pressure on revenue

Notwithstanding the lack of scale to draw in AUM, revenues are taking a hit in the changing fee structure. Investors who have turned to low cost, passive investment strategies, or those who reduced their use of external money managers are challenging the traditional 2-20 fee structure used by hedge fund managers, putting further downward pressures on revenue.

4. Increased costs

While outsourcing can keep costs down for a small hedge fund manager, outsourcing must be balanced against investors’ concern over the managers’ responsibility of those outsourced functions. And yet, investors demand that the cost of increased infrastructure should not be borne by them through higher fees.

5. Managing the supply chain

With the retreat of prime brokerage services, many managers have to fundamentally alter their brokerage relationships, entering into new ones and increasing the number of counterparties they transact with. With increased counterparties, come increased burden to monitor counterparties relationships effectively.

6. Fighting the talent war

Despite the looming threat of automated robo-advisors, “star” money managers continue to appeal and attract investors. Smaller to mid-sized setups need to incorporate long-term retention policies to retain talent, albeit an increasingly difficult task as venture capital and private equity sectors become more attractive of late.




Applying a product development strategy to professional services

Traditionally, professional services (such as accountancy, HR, Legal or business advisory consultancies etc) have been able to grow only by selling more services that are billed by the hour. That however means more staff, which adds significant costs and keeps profit growth linear. A feasible strategy is to create a product out of the service, in which the products come about as the service becomes infused with automation, analytics, and a different monetization model. First, discover potential products by identifying opportunities for automation inside the business. Tasks that are performed frequently and require little sophistication are ideal. Next, develop and embed the products (e.g. as a software) to complement the services rendered. Lastly, monetize the products by moving away from billing hours to using a revenue model that captures the benefits through transaction-based pricing or even outcome-based pricing.

SourceHavard Business Review

Making Compliance part of business

With the significant growth in compliance programs within firms in the past decade, employees shudder at all the extra work and management demand the compliance function to streamline processes and show how any increased compliance activity is helping the bottom line. When compliance becomes a routine process that is embedded in the firm’s core processes, resistance tends to fall since compliance stop being viewed as ‘something extra’. One good approach is to make compliance activities parts of business decision workflows with the aim to support business goals. For example, embedding compliance criteria in the product development process can bring compliance issues to the fore. The compliance function should continually assess how easy it is for employees to use and adhere to compliance activities. Compliance activities should also be designed as a stepping stone for further co-ordination with assurance activities, reducing employee’s time spent on the latter activities.




The rise of ‘Regtech’

Fintechs can help financial firms build capabilities that enhance client relationships, reduce costs through automation or simplification, and even facilitate regulatory compliance. It comes as no surprise that Fintechs that provide regulatory solutions, that is ‘Regtech’, have rose in prominence in recent times. One key area is in regulatory reporting. Currently, KYC and trade surveillance tasks require extensive manual efforts given the diverse sources of information. Regtech companies, deploying technologies such as natural-language processing and machine learning, can automate these processes while reducing duplication. New behavioral technologies can even analyze employee actions and provide alerts for possible noncompliance, helping banks proactively deal with any conduct issues before they arise. To find success, many Fintechs should build solutions that both minimize integration costs and enable financial firms to work alongside other industry vendors in a seamless manner. Regulators can also play a role in getting industry to adopt a technological standard.

Source: BCG Perspectives