Private equity companies are seen as high risk investment funds, trying to gain high returns on their investments in a period of around three to seven years. Even if the private equity industry has played an important role in growth or as an external financing source of established companies as well as newly-established companies, private equity investors are not seen as sustainable value creators. In various occasions, private equity funds are even declared as a greedy instrument to earn fast money. In order to analyse whether private equity companies create value in a sustainable way, this study compares the performance of private equity backed initial public offerings (IPOs) with non-private equity backed IPOs. Moreover, it analyses whether private equity backed IPOs outperform the market. This study evaluates the performance of private equity backed IPOs by performing two separate empirical analyses: one focusing on the UK private equity market - the largest private equity market in Europe - and one focusing on the entire European market.
The research conducts a quantitative analysis of secondary data, more specifically by using stock prices of private equity backed firms, non-private equity backed firms and applicable benchmark market indices. Such data was obtained from multiple sources, such as the London Stock Exchange, Bloomberg and Yahoo Finance. In general, the study compares the performance of private equity backed IPOs with non-sponsor IPOs with regard to their price development and abnormal returns. The analysis is based on multiple independent analyses of each IPO. In order to provide a general understanding of this issue and to be able to interpret the research results, the paper discusses the theoretical framework and the findings of other authors. In recent decades, several authors have demonstrated their research on private equity based IPOs as well as the value creation of private equity firms. Based upon these, hypotheses are formulated, which are then subsequently tested using multiple research methods.
In general, the study indicates that the majority of private equity firms do not create sustainable value. More than 50% of the analyzed private equity backed companies were not able to outperform the market benchmark indices. On average, private equity backed firms were able to significantly outperform the market in the UK. However, they were unable to perform equally well on a European level.
Table of Contents
1 Introduction
1.1 Motivation and Problem Definition
1.2 Research Objectives and Contributions
1.3 Course of Investigation
2 The Concept of Private Equity
2.1 Asset Class – Private Equity
2.2 Private Equity Backed IPOs
3 Literature Review
3.1 Value Creation of Private Equity Firms
3.2 Characteristics of Private Equity Backed IPOs
3.3 Performance of Private Equity Backed IPOs
4 First Empirical Research
4.1 Study Objectives
4.2 Research Questions and Hypotheses
4.3 Relevance and Contributions
4.4 Research Methods
4.5 Identification of Private Equity Backed IPOs
4.6 Data Sample
4.7 Limitations
4.8 Descriptive Statistics
4.8.1 Distribution by Market Value, and Timing of IPO
4.8.2 Distribution by Industry Sector
4.9 Sample Analyses
4.9.1 Unadjusted Buy-and-Hold Returns
4.9.2 Buy-and-Hold Abnormal Returns
4.9.3 Cumulative Abnormal Returns
4.9.4 Wealth Relative
4.10 Summary and Conclusion of Findings
5 Second Empirical Research
5.1 Study Objectives
5.2 Research Questions and Hypotheses
5.3 Sourcing of Data Sample
5.4 Limitations
5.5 Descriptive Statistics
5.5.1 Distribution by Offer Size
5.5.2 Distribution by Country
5.5.3 Distribution by Industry Sector
5.5.4 Distribution by Time Period
5.6 Research Methods
5.7 Sample Analyses
5.7.1 Unadjusted Buy-and-Hold Returns
5.7.2 Buy-and-Hold Abnormal Returns
5.7.3 Cumulative Abnormal Returns
5.7.4 Wealth Relative
5.8 Summary and Conclusion of Findings
6 Summary and Conclusion
6.1 Key Take-Aways
6.2 Further Research
Research Objectives and Themes
This study aims to determine whether private equity firms create value in a sustainable way by comparing the long-term stock performance of private equity backed IPOs with non-private equity backed IPOs, focusing on both the UK and the broader European market.
- Sustainability of value creation in private equity investments.
- Quantitative analysis using abnormal return metrics (BHAR, CAR, WR).
- Performance comparison against market benchmark indices.
- Distinction between UK-specific and broader European market outcomes.
- Evaluation of operational versus non-operational value drivers.
Excerpt from the Book
1.1 Motivation and Problem Definition
This study aims to provide evidence about the sustainability of value creation within private equity investments. Private equity firms have been often criticised for their methods (Baker, Filbeck, & Kiymaz, 2015). Researchers on the topic often argue that private equity firms have a negative impact on the society as they increase the systematic risk of the banking system due to highly leveraged deals as well as the squeeze out of their portfolio companies, which inevitably leaves their stakeholders empty handed (Burg & Rasmuss, 2007). Regardless of their individual arguments, the main statement of these criticism can be summarised in one sentence ‘the activities of private equity firms rather destroy value as they creating it’ (The Economist, 2007). Such criticism undoubtedly has a detrimental impact on the acquired companies of the private equity firms. In several European countries, there is an ongoing discussion concerning the impact of private equity firms (Strömberg, 2009). Some authors accuse financial investors for focusing their activities in a portfolio company only to obtain short-term returns rather than creating long-term value, which would be more beneficial as it would help all stakeholders. In addition, authors making such criticism only look at the short holding periods, which would also hurt the company rather than help them. Moreover, the critics also consider the high leverage as having a negative impact (Burg & Rasmuss, 2007). They claim that companies have to take on a high burden because they have to service their high debt obligations. Upon exit of any investment, these companies are inevitably forced to use their cash flows for debt repayment rather than investing it in their productivity.
Summary of Chapters
1 Introduction: Defines the scientific problem of sustainable value creation in private equity and outlines the study's research objectives.
2 The Concept of Private Equity: Explains the private equity business model, the role of general and limited partners, and the specific nature of private equity backed IPOs.
3 Literature Review: Reviews existing research on value creation drivers and the historical performance of private equity backed IPOs.
4 First Empirical Research: Conducts a quantitative analysis of UK-based IPOs using various return metrics to test performance hypotheses.
5 Second Empirical Research: Extends the investigation to the European market to validate findings on a larger, regional sample size.
6 Summary and Conclusion: Consolidates all empirical findings and provides key takeaways regarding the sustainability of private equity value creation.
Keywords
Private Equity, Initial Public Offering, IPO, Value Creation, Buy-and-Hold Abnormal Return, BHAR, Cumulative Abnormal Return, CAR, Wealth Relative, WR, Leveraged Buyout, LBO, Stock Performance, Sustainable Value, Financial Sponsor.
Frequently Asked Questions
What is the primary goal of this research?
The research aims to determine whether private equity firms create sustainable value by investigating if private equity backed companies outperform non-private equity backed peers in the long term.
Which regions does the study examine?
The study performs two separate empirical analyses: one focusing on the UK private equity market and another on the broader European market.
What methodology is used to evaluate performance?
The study employs quantitative analysis of secondary stock price data, utilizing metrics such as Buy-and-Hold Abnormal Returns (BHAR), Cumulative Abnormal Returns (CAR), and Wealth Relative (WR).
Are private equity backed firms found to be sustainable value creators?
Generally, the study indicates that while some private equity backed firms perform well, the majority do not significantly outperform market benchmarks in the long run.
What are the core thematic areas discussed?
Key themes include the impact of leverage, the importance of reputation, the influence of IPO timing, and the differences between various industry sectors.
What characterizes the identified "key takeaways"?
The study concludes that private equity firms do not generate sustainable value, despite achieving high returns for some individual companies due to specific market conditions.
How does the study identify private equity backed IPOs?
A two-step approach was used: scanning IPO prospectuses to identify private equity involvement and cross-checking data via the Bloomberg terminal.
Does the study account for the financial crisis?
Yes, the study notes that periods such as the dotcom crisis and the financial crisis of 2007-2009 significantly influenced IPO activity and performance outcomes.
Why are CAR and BHAR both used?
Researchers use both methods because they provide different attributes; BHAR reflects the long-term investor perspective, while CAR helps visualize distributional properties over time.
- Quote paper
- MSc Kevin Elsäßer (Author), 2016, Value Creation of Private Equity, Munich, GRIN Verlag, https://www.grin.com/document/385844
