Maximising the Effectiveness of Early-Stage Commercial Diligence

We’re seeing a pronounced shift - from clients across the Private Equity landscape – towards conducting more, and earlier, “pre-deal” commercial work.

A year ago, only some of the very largest funds seemed to invest in commercial work far ahead of a deal process. Now, mid-market firms appear just as intent on doing earlier commercial analysis.

The case for doing work further ahead of a process (including examining a market and developing an investment thesis, rather than just investigating a specific target company) is compelling in today’s environment. Timelines are compressed; rival bidders seek to short-cut and curtail formal processes; bidders need to demonstrate insight and value early to a future management team; and, above all, it takes time to develop a clear value gen strategy.

At its most effective, early pre-deal work can help to shape the foundations of the value creation journey – describing “what could be” rather than simply laying out a generic version of “what is”.

With early work fast becoming the industry norm rather than a differentiator, the challenge is to ensure that the money spent on the analysis generates maximum ROI and doesn’t simply become an increased “cost of doing business”.

How can you maximise the value of pre-deal work?

In my experience, the most effective Private Equity firms share three key characteristics when it comes to scoping and managing early stage analysis:

  1. They ask the right types of questions

    Leading firms aren’t just aiming to learn about a sector (although deeper understanding is always part of the scope). Instead, they are testing well-developed and non-obvious investment ideas. Focusing on looking ahead (and landing on the very best value-gen plan) is vital, and often means using pre-deal work to address questions like:
  • Is there a different way that the market could be defined?
  • Are there segments of the market that are underserved or overserved?
  • Where is customer sentiment moving? And how quickly? And why?
  • How are the Drivers of Choice – and the ranking of drivers of choice – changing (and are they changing with the more valuable segments of customers)?
  • Are there any new entrants employing new business models and, if so, can we learn from their success and momentum?
  • What stands adjacent to the market – and are there alternative points of entry that are attractive?
  • How can we shape the market – in a direction that reflects our capabilities, creativity and resources?
  • Would customers respond positively to our best ideas?
  1. To the right types of people

    When looking to how the world might change, it’s important to ensure that insights derive from current, active market participants (i.e. actual users and customers) - who are well placed to describe emerging needs, challenges and opportunities – rather than the retired industry veterans who can only describe the world of the past.
  2. With sufficient volume

    Because emerging trends are often complex, somewhat rare and hard to spot, uncovering and measuring them typically requires a relatively large sample and evidence base. In particular, working hard to surface “edge cases” can be key to unlocking value (e.g. disproportionate share capture, growth, pricing, etc.). Trusting a small sample or deploying a narrow lens risks missing big ideas – or over-rotating on niches that are actually small.

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