PE and the 4th Industrial Revolution: Seizing the initiative

Click here to read the first instalment of our series on private equity and the Fourth Industrial Revolution

While the Fourth Industrial Revolution and what it represents poses significant short- and long-term threats to private equity portfolio companies, it can also be an enormous opportunity to create value and generate returns.

"We see the Fourth Industrial Revolution as an opportunity within our investment strategy, but also more generally as an opportunity and threat for our current portfolio," says Jan Johan Kühl, managing partner at Danish mid-market GP Polaris Private Equity. "Though if we equip ourselves to pre-empt these changes, it can be more of an opportunity than a threat.

"You have to be careful these efforts don't become too trendy," says Kühl. "There are industries you never thought would be disrupted – such as the taxi industry and Uber – that show some of this change will be revolutionary, but most of it will be evolutionary."

Disruption can be a deal-driver for private equity, in cases where a company's growth potential can be unlocked by the application of technology. While it could be a case of pivoting an entire business around technological change, simply using existing technology or developing custom systems to leverage a company's prevailing assets could yield substantial returns.

You have to be careful these efforts don't become too trendy. There are industries you never thought would be disrupted that show some of this change will be revolutionary, but most of it will be evolutionary" – Jan Johan Kühl, Polaris Private Equity

"I know of cases where private equity has seen the opportunity to apply technology-driven innovation or improvement to a portfolio," says GP Bullhound co-founder and managing partner, Per Roman. "In fact, I think private equity as an owner form is good for driving change in businesses, and that change can absolutely be adopting a better digital and technology strategy."

This is also the opinion of EQT chief operating officer Johan Bygge: "What we are religious about is developing companies. We look for assets where we think there is an unrealised potential. When we find such a company, one of the important things today would be the tech and digitalisation aspect: how can we help this company grow, how can we help it become more efficient, how can we help it become more competitive in relation to others. If you do this correctly you'll have the opportunity to attract the interest of buyers because they see an asset that is building something for the future."

"Big data" – a catchall for large datasets of any type – can be one way of generating returns or creating new business from an existing and perhaps underused asset. Most companies will have large amounts of information about customers, client preferences and industry trends by way of order histories.

By applying big data methods to information generated or gathered in-house, a company can create a new product to sell, gain better insights into customer preferences, or improve the efficiency of its resources.

Identifying real disruption
Kühl says his firm spends time evaluating whether developments brought on by the Fourth Industrial Revolution can be used in a way that will make real improvements to its portfolio: "Everyone is on the bandwagon and can shout ‘disruption', but you have to take a closer look: what is actually at risk of disruption? Is the existential basis of your business threatened, or is it aspects you can leverage by actively embracing that change?

"Often you will actually be sitting on a huge pile of knowledge – you can call it big data – because you have had a huge installed base in the market for years, and then the question becomes whether you can convert that into something beneficial for existing customers, or something you can sell to new customers. That might end up resulting in something you can build different business models on."

The Polaris managing partner says his firm often looks at deals with a view to whether it can turn a classic industrial into a more knowledge-based company and build recurring revenue from that, which also creates a different case for potential buyers come exit time.

While Kühl and Roman take a positive view of private equity's ability to facilitate disruptive change in its portfolio companies, Dawn Capital founder Haakon Overli is sceptical: "The industry should be doing it. In theory, private equity should be more agile but we have not seen it."

Assured approach necessary
Turning the new economy from a threat to an advantage requires new opportunities to be recognised, embraced and applied with confidence. Though there is risk associated with employing new technology or shifting a business model, attempts at blocking challenges by acquiring and mothballing – or other methods – may be even more risky.

"Good companies will have a considered stance towards potentially disruptive technology, focus on their core competencies and defend them," says Dawn Capital's Overli. His firm is invested in iZettle, a Stockholm-based payments devices and software provider, which has five banks and Visa as investors.

"The banks are important distribution partners for iZettle," Overli says. "A few very enlightened banks saw that they couldn't compete on price, usability, customer experience and a whole host of things, so they decided to learn about it and be part of the success story.

"Good companies figure out how to deal with disruption. Some more traditional, and in certain cases narrow-minded, ones try to block it – but it's never really a winning strategy," says Overli. "People want cheaper, faster, better, and unless you're offering that, your customer will not be satisfied."

Look out for more instalments of our Fourth Industrial Revolution series on unquote.com in the coming days

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