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Preempting Private Equity

Executives often complain that Wall Street doesn’t appreciate the value of their companies, and they are often right. Research shows that companies’ shares can trade at up to a 30 per cent discount - either to what the companies would fetch if the pieces were on the market separately or to the value as seen by private equity investors. As the conventional institutional market has adopted passive strategies in which fund managers buy and sell companies to replicate indexes, the art of active investing has shifted to private equity firms, writes Booz Allen Hamilton.

By adopting private equity’s tactics, executives and directors can proactively create the same kind of value for their own companies that private equity investors would create in a buy-out.

The essential tactic for most private equity firms today is to look for ineffective strategy or execution on the part of a public company, and build profitability by making the company stronger. The key failing could be at the board level, in the form of poor oversight or misaligned management incentives. It could be an executive blunder, such as ineffective allocation of resources. Or it could be poor financial management, including subobtimal leverage or dividend-payout policy. Any number of problems could leave public companies trading at a discount and thus vulnerable to the maneuverings of private equity firms.

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