What Do Private Equity Firms Say They Do?

by Paul A. Gompers, Steven N. Kaplan & Vladimir Mukharlyamov

Overview — In a survey of 79 private equity firms managing more than $750 billion in capital, the authors provide granular information on PE managers' practices in determining capital structure, valuing transactions, sourcing deals, governance, and operational engineering. Among the findings, very few investors use DCF or net present value techniques to evaluate investments, relying instead on internal rates of return and multiples of invested capital. This result conflicts with the focus on net present value in most business school finance courses.

Author Abstract

We survey 79 private equity investors with combined assets under management (AUM) of over $750 billion about their practices in firm valuation, capital structure, governance, and value creation. Investors rely primarily on internal rate of return (IRR) and multiples to evaluate investments. Their limited partners (LPs) focus more on absolute performance. Capital structure choice is based equally on optimal trade-off and market timing considerations. PE investors anticipate adding value to portfolio companies, with a greater focus on increasing growth than on reducing costs. We also explore how the actions that PE managers say they take group into specific firm strategies and how those strategies are related to firm founder characteristics.