- The private equity industry continues to see growth in fundraising, deal volume, and asset valuations.
- Private equity firms use various strategies to optimize returns, including maximizing leverage, completing bolt-on acquisitions, improving performance and cash flows, aiming for positive multiple arbitrage, and optimizing the investment holding period.
- Value bridges are used by private equity firms to demonstrate how they will create value for investors through these strategies.
- The construction of value bridges can vary, and there are no precise methodologies for apportioning value across different drivers.
- The lack of proper instructions and auditing standards in constructing value bridges allows for manipulation and questionable claims.
- The value bridge fails to show how leverage impacts private equity returns.
Investors’ faith in private equity fund managers has increased, and the industry has experienced growth in various aspects despite losses in public markets. The goal of private equity firms is to optimize returns for LP investors, and they use strategies such as maximizing leverage, completing bolt-on acquisitions, improving performance and cash flows, aiming for positive multiple arbitrage, and optimizing the investment holding period.
Private equity firms often use value bridges to demonstrate how they will create value for investors through these strategies. However, the construction of value bridges can vary, and there are no precise methodologies for apportioning value across different drivers. This lack of guidelines allows for manipulation and questionable claims by fund managers. The value bridge also fails to show how leverage impacts private equity returns.
The sustained rise in interest rates and the ongoing market correction may render value bridges unfit for reflecting the true performance of fund managers in bear markets. The next article in this series will explore how leverage impacts private equity returns.
