Successfully Measure Venture Capitalist Contribution for a Portfolio Company

Investment for a portfolio company can be very tricky to measure when you want to figure out how much a private equity firm adds value to each portfolio company it invests in. A few ideas from Colin Blaydon, director, and Fred Wainwright were shared at The Center for Private Equity and Entrepreneurship at Dartmouth’s Tuck School of Business and some of the concepts may seem fairly simple, but they’re worth a look at.

There are 3 ways to measure how much value a private equity firm adds to each of its portfolio companies it invests in:

1) Buy Low, Sell High – By buying a large group of assets and breaking those up into smaller, more efficient and higher margin producing companies, you could buy low and sell high.
2) Financial Engineering – If you put a large amount of debt into the company before the value turns south, you will have effectively added assets with an unknown future value that can usually be depreciated in a somewhat inflated nature over time.
3) Improve Cash Flows – If it’s time to sell, growing your top line will yield a large increase in perceived value. Take out costs where you can and focus on high margin business units. If you can pull revenue streams from one area and achieve sales based on higher margin forward-looking multiples, you will have essentially improved cash flows without hurting your current and future bottom line.

If you can quantify any one of these tactics, you will have successfully measured the value that a private equity firm has added to their portfolio companies. Whether that means that the value is real or not, is an entirely different question.

Originally posted on Tuesday, March 20th, 2007
Venture Capitalism, Valuation.