Do Private Equity firms create value? Evidence from PE-backed companies

Description

Business failure seems to be natural among organizational systems, but avoiding or delaying failure seems to be the exception rather than the rule.

Excellent management, large size and monopolistic or other advantages do not guarantee continued survival or relative prosperity (Makridakis, 1991). In fact, the failure rates for new businesses are considerably high, hovering around 40% in the first year and up to 90% over 10 years period (Timmons, 1990; Dimov and De Clercq, 2005). Given how common corporate failure is among small and large companies, it is important to explore factors that drive organisations' failures.

With respect to firms recently receiving private equity (PE) investment, it is also observed that failure is very common where private equity involvement has been suggested to increase the risk of default and bankruptcy with consequent economic and social costs (Wilson and Wright, 2013). It appears that PE firms compromise the long-term resilience of their backed companies to ensure maximum short-run performance. In the proposed research we aim to investigate whether PE involvement in entrepreneurial companies has any long-term effect on their success or failure after the PE exits.

Research overview

In this research, we aim to investigate whether PE firms create value for their backed companies post their exits. Existing studies so far have explored the effect of PE investment on their targeted companies during PE involvement. Previous studies provide mixed findings as to whether PE investors create or distract value during their involvement with the firms. However, in this research, we attempt to answer the question of whether PE-backed companies outperform or underperform relative to their peers by studying their performances post-PE involvement.

A number of studies point to the positive impact of specialized and experienced PE investors in turning around the performance of buyout targets (Acharya et al., 2013; Meuleman et al., 2020). This positive impact necessitates close monitoring and active involvement in the acquired company’s operations through regular visits and/or board-level participation.

Existing research suggests that the PE representation on the board is common when there is a higher need for experienced advice and supervision. This suggests that PE firms are likely to be actively involved with their portfolio companies when the company is facing difficulties and as a result, their presence on the company's board is likely to be high (Cornelli and Karakaş, 2008).

We address the question of whether the presence of PE investors on the board has any long-term effect on the performance of the PE-backed firms and whether PE-backed companies perform any better or worse once the PE have exited.

Funded by Perbak Capital Partners. Ref 5166.