Best of LinkedIn: Private Equity Insights CW 14/ 15

00:00:00: provided by Thomas Allgaier and Frennus, based on the most relevant LinkedIn posts about private equity in CW-IV and XV.

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00:00:16: So With that covered let's jump right IN!

00:00:19: Today we're doing a deep dive into the top private equity trends seen across LinkedIn.

00:00:24: Yeah, and if you were working across M&A, Private Equity, venture capital or even strategy in consulting... You probably already know the market feels really heavy right now.

00:00:35: Oh, totally?

00:00:36: So we want to unpack why that heaviness exists using the most relevant conversations from industry insiders over the last couple of weeks.

00:00:43: Right and starting off.

00:00:44: The first big theme We found is this massive structural shift regarding operational value creation.

00:00:50: I mean it Feels like the era of easy alpha Is just completely Over.

00:00:53: oh

00:00:54: It is dead.

00:00:54: Marisa Bade actually posted a great analysis on This.

00:00:57: he pointed out That the old game was simple.

00:00:59: you Know You apply a ton of cheap debt and you just wait for the market multiple to expand.

00:01:04: And then, you sell it for a massive profit?

00:01:06: Exactly!

00:01:07: But with financing costs essentially doubling lately that relying on leverage to do heavy lifting... It doesn't work anymore.

00:01:14: Right.. The math is broken.

00:01:15: Yeah

00:01:16: So Obeyed notes That the entire burden has shifted to real.

00:01:20: roll up your sleeves operational value creation.

00:01:23: You actually have to physically make business run better.

00:01:28: That brings up the question of how the industry even measures better, right?

00:01:31: Because Paul Calangelo brought a really fascinating point about the metrics firms use to claim success.

00:01:37: Ah yeah!

00:01:37: The MOIC debate.

00:01:39: Yes.

00:01:40: Historically everybody in PE loves MOIC—the multiple uninvested capital.

00:01:45: You know you put it one hundred million and get three-hundred million back... ...you slap three-point-o-x MOIC on a pitch deck…and everyone claps

00:01:51: Right.

00:01:51: but Calangello argues that MOIC by itself is practically a vanity metric.

00:01:55: today If you don't pair it with time, It doesn't tell the full story.

00:01:59: Meaning You need an IRR mindset?

00:02:01: Exactly!

00:02:02: The internal rate of return.

00:02:03: because think about the mechanics if you achieve that three point OX Return in Three years your IRR is massive like around forty four percent

00:02:11: which Is top tier performance.

00:02:12: but if it takes you eight Years to get that exact same three point zero X return year IRR drops To something closer to fourteen percent.

00:02:19: oh wow

00:02:20: yeah the Time value Of money just silently eats Your Performance.

00:02:24: So, Calangelo points out that to drive a high IRR in today's market you have to decompose that multiple into actual granular operational wins.

00:02:33: You need tangible revenue growth and real margin expansion.

00:02:37: But I mean if your an operating partner listening this...you know the friction of what comes next.

00:02:42: Maxwell Salazar highlighted this brutal misalignment between PE sponsors and the portfolio CEOs.

00:02:49: Yeah, the spreadsheet versus reality problem.

00:02:51: Exactly!

00:02:52: The value creation plan is built in an Excel model by investment professionals And it assumes you know You can just raise prices by eight percent and cut headcount By ten percent and magically no customers will leave.

00:03:03: Right on paper It works perfectly But

00:03:05: the CEO has to run the business In reality.

00:03:07: Where um where those top three clients Will churn immediately if even touch their pricing.

00:03:12: And the fallout from that is so measurable, Salazar actually points out that nearly half of all CEO turnovers happen between year one and year two.

00:03:20: Half?

00:03:22: That's insane!

00:03:23: Yeah because the CEO gets handed this pristine financial blueprint on day one... ...and then mechanics inevitably break down when they try to apply it to human beings in messy systems.

00:03:33: So the CEO takes The Fall for missing the Year One Covenants.

00:03:37: Wow And when Maier-Malski actually described this as a failure to reconcile two completely different architectures,

00:03:42: right?

00:03:42: Totally.

00:03:43: You have the financial architecture which is the debt structure and target margins but then there's the execution architecture... ...which is actual culture and software systems needed do work!

00:03:53: They largely ignore the execution diligence which perfectly explains Lee McCabe's critique of LP theater.

00:03:59: Oh,

00:04:00: the trendy job titles?

00:04:01: Yes!

00:04:02: If a firm knows they have an execution gap but don't actually know how to run up business... They just create titles that soothe their limited partners.

00:04:10: Suddenly you get ahead AI or chief value officer

00:04:13: But McCabe notes give them absolutely zero authority.

00:04:16: Right.

00:04:17: They can't change pricing, they can't fire underperforming management... ...they are literally just highly paid observers sitting in board meetings so the firm could put a comforting slide on their LP deck.

00:04:26: It's total illusion of control.

00:04:28: So honestly let me run an analogy by you.

00:04:31: Are these spreadsheet-based value creation plans basically just fantasy football draft?

00:04:37: Huh!

00:04:37: I like that.

00:04:38: How so

00:04:39: Like?

00:04:39: they look mathematically perfect.

00:04:41: On paper You have best stats But until players actually take field You have no idea if it works.

00:04:48: If the financial architecture is so totally disconnected from the execution architecture, are PE firms essentially buying businesses they don't actually know how to run?

00:04:56: I mean

00:04:57: yes!

00:04:57: That's exactly what happens.

00:04:59: and to fix that massive execution gap... They're turning into technology

00:05:03: Which brings us smoothly onto our second theme AI data & tech enablement.

00:05:07: Right because you can't rely on cheap debt And your management teams are turning over But the friction they're hitting here is immense.

00:05:17: Joss Duggan shared a striking statistic on this, he said ninety-eight percent of PE sponsors are pushing their portfolio companies to prioritize AI.

00:05:25: Ninety eight percent?

00:05:26: Okay so almost everyone

00:05:27: Yeah but fewer than a third of CFOs inside those companies Are allocating any meaningful budget to it.

00:05:34: Wait really why the paralysis?

00:05:36: if the sponsor is screaming implement AI Why's The CFO refusing To fund It?

00:05:41: Because the CFOs actually know the reality of the execution architecture.

00:05:45: Ben Pfeffer had a fantastic observation about this, he pointed out that while massive Fortune-II companies are successfully deploying agent work flows meaning AI agents who execute multi step tasks autonomously... Exactly!

00:05:59: But private equity portfolio companies are largely stuck.

00:06:03: and they're stuck because their underlying CRMs and legacy systems act as Data

00:06:08: prisons.

00:06:08: Okay, so are PE firms just trying to put a Ferrari engine like the AI into a golf cart?

00:06:14: Meaning they're broken legacy workflows.

00:06:17: That is the perfect way to visualize it, and AI agent as only intelligent data can read.

00:06:22: If a company running on an On-Premise Server from two thousand twelve or some deeply customized CRM with closed API's The AI literally cannot reach information.

00:06:31: So you cant just bolt chat GPT onto a fifteen year old database and expect your margins double

00:06:36: Exactly!

00:06:37: And Amir Satterdini points out how wildly ironic this is because PE firms spent last ten years

00:06:43: forcing

00:06:44: the whole SaaS playbook onto their portfolios.

00:06:46: Oh right, mandating all those software subscriptions?

00:06:49: Right they built this massive SaaS space and now AI agents are actively disrupting that exact Playbook.

00:06:55: Sadarudini notes that AI is resolving over eighty percent of enterprise service requests.

00:06:59: now Wow

00:07:00: Yeah, which is dropping IT service management licensing costs by fifty percent.

00:07:05: So the very PE firms that mandated all these seat-based SaaS tools are now using AI to rip that exact software out

00:07:13: to cut cost.

00:07:14: But wait hold on.

00:07:15: ripping out legacy tech and rebuilding an AI infrastructure is incredibly expensive.

00:07:20: if the CFOs aren't budgeting for it who's paying for this?

00:07:22: This where gets crazy.

00:07:24: yeah because Stephen Klein and Tatiana Savileva both brought up this massive open a ideal.

00:07:30: OpenAI is reportedly offering PE firms a guaranteed seventeen point five percent minimum return to deploy chat GPT across their portfolios in it.

00:07:39: Ten billion dollar joint venture,

00:07:41: which has just structurally wild

00:07:43: right?

00:07:43: How does the company that is publicly burning billions of dollars a year guarantee a seventeen point-five percent return?

00:07:49: yeah I mean his open AI's Guarantee a brilliant go-to market strategy to force enterprise adoption?

00:07:54: or Is It Just A Desperate Subsidy Chain?

00:07:56: It is entirely a subsidy chain.

00:07:58: OpenAI needs massive enterprise adoption to justify their valuation, but individual companies are moving too slowly because of those data prisons.

00:08:05: so Sam Altman is basically paying PE firms a premium to act as a forced distribution channel.

00:08:10: and Savileva explicitly noted that when you start guaranteeing outsized returns to attract capital in high-risk environment it smells exactly like a classic pre bubble pattern.

00:08:19: So you have sponsors forcing AI into companies with broken data subsidized by a tech giant trying to manufacture adoption.

00:08:28: If you just step back logically, what happens when a PE firm actually tries to sell one of these companies?

00:08:33: if the tech isn't proven and margins are a mess how do you exit?

00:08:37: well You don't.

00:08:38: And that brings us To our third theme The massive exits in liquidity logjam In the market today.

00:08:43: Right

00:08:43: because Eddie Hemsley pointed out something That should terrify any CFO.

00:08:47: He said seventy two percent Of PE sponsors say Bad data is the absolute number one exit blocker.

00:08:54: Seventy-two percent, that means a buyer comes in asks to see the granular data to prove the value creation story and if the numbers don't perfectly reconcile they just walk away entirely.

00:09:04: They

00:09:04: don't even try to negotiate.

00:09:06: Buyers are incredibly risk-averse right now.

00:09:09: Nicola Ebbmeyer shared data showing that software exits in the US have plummeted from twenty six percent down to just sixteen percent

00:09:15: and thats largely due to fears of AI disruption,

00:09:18: right?

00:09:18: Exactly!

00:09:20: If a buyer isn't one hundred percent convinced that a software product can survive this shift to generative AI they simply will not pay a premium multiple for

00:09:27: it.

00:09:28: A ten percent drop in sector exit is catastrophic And structural consequences are wild.

00:09:35: Serge Tisman reported that the average PE hold period has now hit a record six point six years.

00:09:41: Which brings us back to the IRR math,

00:09:42: right?

00:09:43: The whole industry is built on flipping assets in four or five years.

00:09:46: when you stretch That's almost seven years.

00:09:48: The IRR plummets top tier funds start looking incredibly mediocre

00:09:53: and they literally run out of time To return capital to their investors.

00:09:56: so Tisman notes we are seeing a sixty-two percent surge in GP led continuation vehicles.

00:10:02: Okay, I have to challenge this walk me through these continuation vehicles because on the surface it just sounds like a magic trick to avoid booking a loss.

00:10:10: It essentially is a mechanism to manufacture time.

00:10:13: Normally, the private equity firm sells the company to a new buyer and gives the cash to their limited partners but if buyers are scarce.

00:10:20: The firm just creates a brand-new fund—the continuation vehicle And they sell the company from their old fun... ...to their new funds.

00:10:26: They tell it themselves Yeah!

00:10:27: And the LPs in the Old Fund are told hey take whatever cash value we've assigned today or roll over your equity into this new vehicle and wait another three years.

00:10:38: So as an LP You couldn't execute the blueprint, but you want me to roll my money into a new fund?

00:10:42: Pay your management fees again just to keep holding the exact same asset.

00:10:46: Exactly!

00:10:47: And because real exits are so blocked Roderick Mann highlighted that the secondary's market has exploded six-fold to two hundred and forty billion dollars.

00:10:57: Elite firms are piling in to manufacture synthetic liquidity.

00:11:01: Wow

00:11:02: They're just treating the paper that owns the company instead of selling.

00:11:04: The actual company

00:11:05: exactly, but founders are getting smart to this Michael Chase and brought up the rise of independent buyouts.

00:11:11: Founders see the six point.

00:11:12: six year hold periods.

00:11:14: they See the rollover traps where?

00:11:15: They get stuck on an extended timeline And they're just saying no

00:11:18: they don't want to lose control right

00:11:20: chase a notes there structuring direct deals with Independent sponsors.

00:11:24: they get capital without getting locked inside of financial architecture That totally ignores their operational reality.

00:11:30: so Honestly, if hold periods are seven years continuation vehicles or skyrocketing and secondaries are booming?

00:11:37: is the traditional five-year PE model structurally broken?

00:11:41: Are these just lifeboats for funds that bought at top of market?

00:11:44: Basically yes.

00:11:46: If they're using those as lifeboat to hide bad acquisitions because can't fix data prisons then math will eventually catch up with them.

00:11:54: It always does.

00:11:56: You could engineer financials all you want but don't have operators actually build a house You can't sell

00:12:01: it?

00:12:01: Absolutely.

00:12:02: Well, we're out of time!

00:12:03: If you enjoyed this episode new episodes drop every two weeks.

00:12:06: also check our other editions on venture capital M&A and strategy in consulting.

00:12:11: Yeah

00:12:11: definitely check those out.

00:12:12: But before we sign off We want to leave with a final thought to mull over...we've talked today about the desperate need for real human operational value creation.

00:12:23: but if these AI agents eventually do crack data prisons like If they successfully automate workflow optimization and reconcile all that bad data autonomously, will those highly sought after operational value creation skills eventually become totally commoditized by the very tech PE firms are frantically trying to implement today?

00:12:43: And it is The Ultimate Paradox.

00:12:45: You spend billions trying to build the perfect digital blueprint only to realize you've successfully automated the architect out of a job.

00:12:52: We'll see who has left holding in the Blueprint.

00:12:54: Thankyou so much for joining us on this deep dive.

00:12:55: Don't forget to subscribe and we'll catch you on the next one.