#QB10x10: Private Equity: From Playbooks to Protocols — How Data has Transformed the Sector

By Simon Williams, Co-Founder & Director, QuantumBlack

As we begin the countdown to QuantumBlack’s 10-year anniversary next year, we’re launching a 10x10 series — exploring how data has transformed a number of different sectors over the last decade and taking a look into the future.

This article — the first in the series — will focus on the private equity sector, how data has helped the industry adapt since 2008 and the changes still to come.

It’s a sector that’s always been awash with data — private equity firms are responsible for managing the investments of large institutions such as pension funds or insurance companies, or wealthy individuals and groups. Naturally, these companies have harvested and utilised market information to inform the initial investment due diligence phase for many years. Financial reports and product plans were already an established part of the private equity toolkit 10 years ago, used to identify promising companies to acquire.

Despite this, I’m convinced that the industry still hasn’t scratched the surface of applying analytics to improve performance. Analytics has transformed a wide variety of sectors from sport to pharmaceuticals, and at QuantumBlack we’ve seen the early adopters reap the rewards. Over the next decade, I’m confident that private equity companies will rise to the opportunity and we’ll see analytics innovation exert even greater influence over behaviour, operations and staff makeup. To appreciate quite how far-reaching these changes can be, you also need to understand how these businesses have typically operated.

10x10: 10 ways data has impacted Private Equity since 2008

New playbooks for a new performance

Private equity’s traditional modus operandi has been largely based around financial engineering. Typically, following the acquisition of a company, businesses would immediately enact a ‘100 Day Plan’, guided heavily by the private equity firm’s playbook — tried-and-tested operational instructions, all aimed at increasing value from inside the acquired company.

Operating partners — often industry experts with decades of experience — would be parachuted in to help drive up value, taking steps dictated by playbooks and putting their own experience to use.

This way of working has led many private equity managers to success for decades, but it’s earned the industry a somewhat undeserved reputation for leaning too heavily on cost-cutting and multiple arbitrage — increasing the value of a company without having made any operational improvements — rather than generating revenue growth in their acquisitions.

Since 2008 the conversation has shifted away from cost cutting and more towards growth — as Blackstone’s Steve Schwarzman ‘It’s no longer enough to buy a company and see how it does.’ Success through operational expertise has started to play a far bigger role — and data is set to thrust ‘ops’ firmly into the spotlight.

Newly acquired companies will possess mountains of data that, if properly analysed, can be used to enhance growth in a far more sophisticated way than a standardised playbook approach. Suddenly a 100-day-plan focuses more on identifying unique potential growth areas at that company and optimising its performance.

In time, I expect this approach to data will transform playbooks from one-size-fits-all instruction kits to more informed guides on how businesses can make best use of data. Data procedures and protocols will be the tools of the day, providing strategies far more sophisticated and tailored to specific companies. Operating partners of 2028 may be more experienced in how to apply data analysis than financial engineering.

This will not only improve the performance of acquisitions and returns to investors — it will also dramatically alter how the wider sector operates.

Transparent behaviour

Private equity’s traditional charging structure involves a fixed 2% management fee and a 20% charge on an investment’s gains — and the former has been a bone of contention with Limited Partners (those who invest) for years.

Following the financial crash, concern was so high that the industry’s biggest backers took the unprecedented step of collaborating to publish the ILPA Private Equity Principles, calling for more transparency and a fairer fee structure. Author Jason Kelly discussed these as length in his book The New Tycoons, but summarised the guidance to private equity firms as: ‘tell us exactly what you’re doing and make tons of money only when we do’.

A fresh approach to data could turn private equity’s ‘2 & 20’ model on its head. Data brings transparency — decisions and their influence on performance will need to be tracked if managers are to optimise acquisition performance, and apply learnings from one investment across a portfolio. It’s to be expected that Limited Partners will want this data to be used to provide more granular detail on how their investments are performing and the impact of a manager’s decisions, either through reports or real-time portals.

We may find that negotiations around management fees become far more evidence-based. That’s not to say that data will become a resource to browbeat firms into alignment with investor demands. Growth in portfolio performance should net Limited Partners an even healthier return — and funds that deliver the greatest results will be oversubscribed, and free to command bigger fees.

Number-crunching moves front of house

Ten years ago, an MBA qualification would be an adequate passport into a private equity business. As data evolved from a back-office function into an integral part of frontline operations, we’ve seen the makeup of personnel change.

Today’s hiring mix still includes MBA graduates, but there’s also an increasing number of data scientists, data engineers and even designers who can extrapolate and present mountains of data in an easily digestible format to stakeholders.

From discussions I’ve had with fund managers and Limited Partners, there’s plenty of excitement around the potential of data harnessing in private equity, but also recognition that we’re still very much at the tip of the iceberg. A select few are exploring innovation in spotting acquisitions. SoftBank has been at the forefront here, investing billions across a range of companies and sectors, from Uber to WeWork with the public aim of gathering a web of vast datasets which can be used to influence industries — and future acquisitions.

Pre-deal, the actions of staff can be analysed and learned from to improve future performance. Investment directors — those who scout and drive the investment agreements — have typically been left to their own devices, and as such many have cultivated reputations as ‘artisan dealmakers’. With increased oversight of activity, I expect this somewhat mysterious cloak will fall away. Firms will be able to check under the hood, track decisions and how they’ve influenced transactions, and ultimately feed this back into their wider organisation to be applied to future deals.

Optimise the team — not just the portfolio

Within the next five years, private equity is predicted to overtake hedge funds as the largest alternative asset class. With investors flocking in search of ever-higher returns, private equity companies will face mounting pressure to deliver, and I expect this to spark a data arms race across the sector. The winners will rapidly make themselves known — they’ll be the early adopters who actively look to develop their own data capabilities, and prioritise acquisitions that come furnished with rich internal datasets that can be leveraged to improve operations. The losers will be those who don’t equip themselves quickly enough. As recent McKinsey research demonstrated, adopting more efficient, tech-driven systems is an operational necessity, not just an advantage. Modern private equity deals in an unprecedented variety of products, clients and assets — the ability to manage this complex mixture efficiently and at scale will be what sets successful firms apart.

Private equity has always dealt in longer timeframes than other areas of investment. Rather than swaying with daily share price fluctuations, acquisition holding periods often last five or more years. It’s an industry adept at the long game. But make no mistake — the data starting pistol has already been fired and private equity’s data pioneers are already out of the blocks. The only question is how far behind the rest of the industry will remain in the next 10 years.



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