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A survey of CFOs of private equity-backed companies released this week shows that 87% of PE-backed companies have restored salaries to pre-pandemic levels. Many corporate leaders who previously dismissed PE as ruthless Gordon Gekko types are now re-considering their stance.
A bad rap
The narrative is all too familiar by now. Private equity firms exploit workers just to earn an extra penny. “Private Equity Is The Enemy Of Working People Everywhere,” read the headline of a recent op-ed. “My retail job was destroyed by greedy financial executives,” continued the piece. Another article asked, “What is private equity, and why is it killing everything you love?”
The arguments against private equity typically center on PE treating their employees poorly or starving the companies to increase profit margins. Let’s look at these arguments independently. I’ve seen stories like the ones above discouraging executives from joining PE-backed companies, or even executives leaving their firms after being acquired by private equity. I’ve also met entrepreneurs who would think twice about selling their businesses to PE firms. After all, most entrepreneurs care about their employees and want to protect their legacy.
The negative press on PE does not just cause reputational risk, it’s also leading to legislative risk. 2020 presidential hopeful Senator Elizabeth Warren is speculated to reintroduce her Stop Wall Street Looting Act that aimed at “cracking down” on PE.
PE is good for employees
A recent survey revealed that 55% of American workers who received a pay cut last year haven’t had it restored. Compare this with the findings from a recent survey, conducted by my company, ECA Partners. We surveyed CFOs at PE-backed companies to understand their budgeting and allocation decisions as the US emerges from the Covid-19 downturn. Among other things, we found that 87% reported that their companies have restored salaries to pre-pandemic levels (see figure 1).
You might argue that the latter survey is an outlier. So, let’s look at more data.
While reliable data on private companies can be difficult to come by, a 2019 Milken Institute study compared job growth and investments in the first two years following an IPO for PE-backed vs. non-PE-backed companies. The study showed that PE-backed companies had over eight percentage points faster job growth and three times more investments than their non-PE-backed peers.
Other research has shown that during the 2008 financial crisis, PE-backed companies were better equipped to avoid distress, increased investments and increased their market share relative to their peers.
And PE’s investment in American firms should not be underestimated. There are now about 8,000 PE-backed companies in the U.S. That’s nearly double the number of publicly listed companies. Since 2010, PE has invested over $4 trillion in SMEs, compared to $800 billion invested by venture capitalists during the same period.
PE-backed companies shift focus to growth
The recent survey by my firm confirms the theory that PE-backed companies have been able to weather the storm and are now focusing their attention on growth. A year ago, 37% of PE-backed company CFOs were turning their focus on reducing costs. In the most recent survey, only 10% expected to do the same, while 43% were expecting to focus less on cost control (see figure 2).
This is the fourth post-pandemic survey of PE professionals conducted by my firm, ECA Partners, which specializes in helping PE funds and their portfolio companies achieve their growth targets through a range of executive search, interim placement and consulting solutions.
The survey also shows that 56% of the survey participants expected to spend more time focusing on new product launches and expanding their offerings, a 22 percentage point increase from last year.
The survey data is in line with what I’ve personally observed in the market. Acquisition valuation multiples were at 14x in 2020, compared to 8x a decade earlier. Fewer PE investors are buying companies thinking that they can get to a lucrative exit at such multiples just by cutting costs. If they want to hit their return-on-investment targets, these investors need to focus on growth. Pitchbook data indicates that PE investors are underwriting more deals with a growth hypothesis. These investors pumped $62 billion into growth deals last year alone, an increase by nearly nine percent from 2019.
Executives and entrepreneurs are shifting their perspectives
Private equity’s reputation is catching up with their track record. As someone who has worked with PE firms for more than a decade, I can attest to the fact that PE firms create far more value than they capture. At my firm, we’ve noticed that more and more executives are actively seeking roles with PE-backed companies, relative to previous years. These executives are excited about the faster pace of innovation and growth at PE-backed firms.
And several entrepreneurs eying an exit have called me to ask for an introduction to prospective PE buyers. These entrepreneurs have often observed companies that were sold to PE investors. After seeing that these companies have continued to flourish under PE management, the entrepreneurs have felt more comfortable entrusting their legacy to PE investors. Clearly, PE’s reputation is on the rise – and for good reason.