Private equity isn’t all bad. It can help turbo-charge firms - Sunday Times

Many inspiring stories do not make the headlines but the prospects of undervalued and underperforming companies have been transformed by this form of investment

When it comes to maximising the potential of the UK’s small and medium-sized companies, two of the most misunderstood words in business are also two of the most empowering. “Private” and “equity”.

Yes, there have been stories that tarnished the industry. Southern Cross care homes and Debenhams department stores were high-profile examples of irresponsible investment that painted a picture of debt-happy, asset-stripping PE opportunists. But there are far more inspiring PE stories that don’t make the headlines, where the prospects of undervalued and underperforming companies have been transformed, producing exceptional returns for investors. In fact, the British Private Equity and Venture Capital Association suggests that PE supported almost 1,500 businesses across the country in 2023.

With long-term ambitions, access to new markets and a carefully-constructed playbook, they have unleashed the growth instincts of management teams. They back talented, collaborative entrepreneurs who are better at running businesses than investors, bringing together a diverse team of specialists to offer hands-on, expert advice.

With PE’s willingness to take tough decisions, management teams are enabled to get the best returns for their fund, improve customer service, create strong working cultures and generous “sweet equity” to attract and retain the best talent. Only then — typically in three to five years — do they sell for large profits, confident they’re leaving the business in a better state than when they found it.

Quite a few PE investors can demonstrate that they get better returns from minority rather than majority investment, where they are not telling the founder or chief executive what to do. This is a model I am using with Growth Partner, my own investment business, that backs entrepreneurs leading fast-growing companies with a minority investment.

I’m lucky enough to have seen businesses grow from most perspectives and am convinced that private equity now beats the UK stock market, many family-owned private businesses and riskier venture capital for superior growth and financial returns.

At HomeServe I’ve watched the business grow through four different kinds of ownership models during our 31-year history. First, Jeremy Middleton and I wholly owned a £50,000 start-up, then we became a 52 per cent subsidiary of a listed UK water company, before demerging and listing on the UK stock market until, as we are now, owned by Brookfield Infrastructure, a hugely successful PE company.

From our stock market listing in 2004, at an enterprise value of £300 million, to last year’s sale for £4.1 billion, that’s been a 13-times return. And my instinct tells me that by 2030, Brookfield will have sold and delivered our best-ever return. They acquired HomeServe with a clear investment thesis of owning the infrastructure in people’s homes through offering long-term financing for heat pumps, hybrid heating and solar systems.

That is the first lesson for private equity. Have a thesis or blueprint for success. Second, PE companies go for growth, which is possible because they’ve done due diligence on potential acquisitions, making sure the firms they want to invest in will grow by not doing too many things at once. The best PE houses “get” the business, instinctively grasping where opportunities lie, rejuvenating enterprises whose growth has been stunted by clashing priorities, fractious personalities, or a lack of ambition and investment.

When it comes to strategy, PE boards work closely with the executive team to create a new roadmap or blueprint and implement it together. Because of this close, supportive culture, alignment can take less time than in public companies. If the organisation is subsequently resized, savings are invariably reinvested in a more focused operation with better marketing, bigger sales teams, product extensions and international expansion.

PE-backed companies are also highly attuned to the needs of customers and whether employees are truly satisfying those needs. Public companies love to talk about “purpose” but those backed by PE are often more adept at providing teams with purpose, with everyone focused on making the company the best it can be. That means encouraging individuals to demonstrate entrepreneurial flair by thinking about how to create even more value, beyond the core strategy.

Contrast this with public companies, where chief execs quietly confess to me that the endless box-ticking demands of the stock market get in the way of their plans. Diversity challenges, governance, audit and remuneration committees, ESG and CSR considerations. They’re all important but, by juggling everything, growth suffers. Listed businesses should be free to pick those they feel are right to focus on. That’s what PE can do, freeing leadership teams from endless bureaucracy.

These chief executives also have the pressure of short-term profit delivery, focused on the next six to 12 months’ results to keep institutional investors happy, although I have huge admiration for investors such as Baillie Gifford, Marathon and Schroders who stand out for taking a longer-term view on shareholder value creation.

Right now, we need to use every tool in the kit to ignite growth. Part of that is to take inspiration from PE-backed ventures and make it more empowering for management to run public companies. Equally, we need to enhance the power and influence of our stock market, which is dependent on the wealth generated by IPOs.

Making investment more attractive will encourage PE to see British companies as attractive long-term value-generating opportunities. And, by being encouraged to float rather than doing deals with other PE firms, the stock market will be further strengthened. Just as — with the recent IPO of Raspberry Pi and the potential float of the fashion giant Shein — it feels like it’s on the up again.

Richard Harpin is founder and chairman of HomeServe and growth partner and owner of Business Leader magazine