The private equity (PE) industry has had a great run in the last decade, with net asset value increasing seven-fold since 2002. Moreover, fundraising has hit record highs globally as private market capital growth has outpaced public market capitalization. Limited partners (LPs) have poured money into this asset class, not only for diversification but also to tap growth pockets across the globe.
However, all this success has created challenges. With staggering quantities of funds pouring in, industry dry powder (highly liquid, cash-like securities) sits at record highs ($2 trillion), and company valuations have moved up as PE firms look to invest in attractive, well-run companies. To address these challenges, PE firms must deploy unprecedented sums of money, acquire stakes at relatively higher valuations and generate profitable exits, all while helping portfolio companies navigate industry makeovers. Sustaining the success of recent years will be challenging.
The age of analytics
The good news for PE firms is that relatively new tools are there to be exploited. We believe PE firms significantly underleverage automation, analytics and artificial intelligence (AI), often referred to collectively as the 3As. This slow adoption is surprising, since the 3As are now mainstream phenomena helping businesses propel growth, reduce costs and enhance operational efficiencies.
Technology acceleration over the last five years has provided proper impetus for PE firms to consider applying the 3As to their businesses:
- Analytics and cloud infrastructures are available on demand, making it possible to scale up and down quickly.
- Costs are variable and payable on a usage (or some other metric) basis.
- Open-source platforms and libraries are reducing the cost of technological experiments, significantly cutting the upfront investment required.
- Industrialization in processes, including data sciences, has reduced the reliance on people and cut model-building time by up to 90%.
- Mainstream applications of varied types of analytical techniques on diverse data sets — structured, unstructured, and the Internet of Things (IoT) — are available.
- The availability of new and alternative data is on the rise, which adds to the potency of analytics models.
These factors have created a perfect storm for 3A adoption. Over time, we expect 3A interventions to be mainstream in all top PE firms. By getting out ahead, these firms should lead the pack in portfolio value creation.
There are caveats, however:
- An important prerequisite for 3A intervention is the availability, quality and sanctity of the data. This is a challenge in most companies; data sits in disparate systems, is widely accessed and distributed across departments, lacks a governance framework to ensure quality and has inconsistent definitions. This challenge cannot be wished away. PE firms that want to compete on data and analytics must address it head on. The good news? Addressing data quality problems need not be a multimillion-dollar project. It can be tackled in pockets, on a case-by-case basis. Companies should also take this opportunity to begin capturing new data, digitizing existing data and incorporating alternate data sources into their ecosystem.
- Not every automation project will succeed. Success is a function of many variables including the use case itself. However, success rates have improved as the industry has matured, especially in functional areas that have been tackled many times over, such as campaigns, risk, fraud and collections. In our experience, the overall return on investment (ROI) of 3A investments is very high.
Three ways to win
While use cases for the 3As across industries and processes are numerous and diverse, they can broadly be classified into three domains:
1 Revenue generation.
The continuing shift to digital has made real-time targeted marketing possible, since customers can be individually identified and served. (See Figure 1 for more on the impact of the 3As on the customer journey.) 3A interventions are powerful across the entire sales and customer lifecycle journey. We worked with a North America-based specialty retailer to enrich customer data, link taxation data with customer demographics and improve campaign effectiveness. Result: a 14% improvement in response rate. We also helped one client improve qualified prospect identification 45%, and another provide personalized campaigns and targeting to 97% of known customers. For PE firms just beginning with 3A, we believe personalization is the place to start. It provides direct topline impact (and therefore valuation impact) for both portfolio companies and the PE itself. Firms that fail to help their portfolio companies in each of these areas are leaving a lot of growth, and money, on the table.
