Patient Investors Prioritize People And Profits When Picking Who To Back by EY

  • Strength and breadth of core management team still most important factor influencing which private companies attract investment
  • Profitability back in vogue – companies have to convince investors that their model is profitable and will capture new markets
  • Patient capital is a reality – 46% of institutional investors have investment horizon of five years or longer

The strength of the management team in a private company seeking funds is, by a wide margin, the single most important company-specific factor for investors, according to EY’s latest valuation survey, Value quest: How do investors find value amid the crowd of private companies?. The survey asked 550 institutional investors, private equity and venture capital firms to offer insights into what drives their valuation decisions; when in a private company’s life cycle they choose to invest; and what returns they target.

Almost two-thirds of investors (65%) highlight that the breadth and depth of the core management team is critical in order to help the company grow the business and make its voice heard in crowded competitive markets. The study also demonstrates how the reputation of the extended advisory team contributes significantly to target investability. Overall, people factors dominate the survey with investors citing other existing investors, the IR strategy and financial advisors among the key considerations when deciding where to invest.

Jackie Kelley, EY Americas IPO Leader, says:

“For companies considering a public listing, it’s important to vet potential investors since their reputation may be a key enabler for attracting further investment and building the brand. A quality management team, robust financial and business infrastructure, corporate governance and a strong investor-relations strategy will attract the right investors. If companies are serious about growth and are ultimately focused toward an IPO, these are the essential first steps.”

David Brown, EY Americas Equity Capital Markets Leader, says:

“The results of our survey are very clear – people and reputation are critical influences on investment decisions. The credibility and track record of a management team and existing investors are key differentiators that can significantly impact enterprise value.”

The value of having the right team on board is particularly marked in countries including France (cited by 91% of investors), Japan (90%) and China (72%).

Ringo Choi, EY Asia-Pacific IPO Leader, says:

“In China, the majority of respondents agree that their view on valuation is influenced by the reputation of the company’s sponsorship. Potential political motivations and personal relationships motivate investors to align with others and potential IPOs.”

Although still significant, investors in the US (66%) and Germany (59%) were less focused on reputation and more on financial performance.

Patient investors – Metrics matter

Discussions with survey respondents also emphasized the value of traditional metrics in evaluating potential investments. Earnings, revenue growth and, most importantly, profitability were cited in discussion with survey respondents, while over half of investors surveyed (51%) focused on earnings before interest, tax, depreciation and amortization of assets (EBITDA) plus sales multiples as the key metrics of appraisal.

Dr. Martin Steinbach, EY EMEIA IPO Leader, says: “Companies need to have a solid corporate story that clearly articulates the path to value, supported by a strong showing across traditional metrics. In terms of company valuations, while each sector has its own preferred valuation methods, determined by the characteristics and business model of the sector, a minimum of three valuation methods should be used in order to obtain a first indication of a company valuation range.”

Investors are patient and conservative

Intended investment horizons have lengthened since the last EY investor survey in 2013 with almost half (46%) of institutional investors indicating a horizon of five years or longer, while additional in-depth discussions with managing partners revealed an appetite for longer investment terms of more than seven years. Return expectations were relatively modest with over half of respondents (52%) saying they would accept returns of 10%-20%, although PE appears to be more demanding with nearly half (48%) seeking returns of 20%-30%.

As well as being more patient, many investors also appeared quite conservative – with, for example, US investors concentrating on the domestic North American market and Japanese investors focusing on Asia. Investors that were prepared to contemplate foreign investments acknowledged the greater difficulty involved in delivering more than mere capital to investee companies in overseas markets. Investors also recognized strength in numbers, with 42% overall preferring co-lead roles and 36% minority positions.

In terms of sector choice, financial services was narrowly the most preferred industry by 17% of respondents followed by technology (16%) and biotech (12%).

Exit options are finely balanced

The relative benefits of an IPO and trade sale are more balanced than in 2013, with a trade sale (39%) marginally more favored than an IPO – still the preferred option by more than a third (35%) of respondents. It was notable, however, that among institutional investors, almost half (47%) listed IPO as their preferred exit strategy.

Steinbach says: “The right exit route for shareholders depends on many factors. The individual objectives of the different stakeholders and a strategic discussion about the pros and cons of an exit via a trade sale, an M&A, or an IPO are driving the decision. For those who are organizing dual or multiple tracks, preserving transaction optionality is key to success.”

Snapshot: regional differences

The survey showed some differences by region:

  • German investors place more importance on market growth (55%) and valuations of peer companies (48%) than investors in other countries.
  • While the majority of all investors tend to invest locally in their own markets, US investors are the most likely (35%) to make cross-border investments, while Japan (26%) is the least likely.
  • French investors favor telecoms significantly over their peers (27% versus the average of 10%).
  • UK investors show a similar bias toward investments in media and entertainment companies (26% versus the average of 7%).

These speak to differences in culture, regulations and investor sentiment, and are important factors to understanding how investors view pre-IPO companies.

Patient Investors Prioritize People And Profits When Picking Who To Back

Patient investors