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PE platform acquisitions: 7 essential considerations for due diligence

July 3, 2024 / 5 min read

If your private equity firm is considering a platform acquisition, comprehensive due diligence can stress test valuation, day-one readiness, and a value creation roadmap while identifying key actions across the investment life cycle. Here are seven critical areas to consider.

The most important trends in platform acquisitions are defining the diligence focus of private equity funds in 2024. Valuations are “right-sizing” to reflect current market conditions and significant dry powder is ready to be deployed. However, platform acquisitions carry unique risks: deals requiring larger investments are heavily scrutinized by third-party investors and lending partners. This has left private equity buyers with a pressing need for comprehensive due diligence, performed by a proven team of industry and subject matter experts, executed in a manner that avoids unnecessary seller fatigue and sets the platform investment up for the greatest success.

These seven diligence areas will help you validate historical business data, find opportunities for value creation and scale, and identify issues, risks, and red flags in your proposed platform purchase.

1. Use data analytics to analyze business performance

Maximizing a platform investment requires a clear understanding of the granular information of business performance. Data analytics is an essential tool in highlighting the drivers of customer, segment, product, and end-market sales and margin trends during due diligence. A deeper dive into the data helps mitigate valuation risks by better understanding how the business has performed historically while also identifying future opportunities for value creation, resource and asset optimization, and sustained growth. Missing this piece of the diligence puzzle limits a private equity fund’s day-one ability to scale and create incremental value on the platform investment and can also lead to lower valuations upon exit at the end of the investment life cycle. Harnessing data analytics at the onset of a platform leads to comprehensive data strategies that will help a platform manage, process, and leverage data as a strategic asset.

2. Determine key performance indicators (KPIs)

For an organization to assess effectiveness, they must determine key performance indicators (KPIs). Strong and timely KPIs are key to proactive decision-making and leveraging expertise of strategic stakeholders of platform investments. From real-time performance monitoring, investor communications, and operational efficiencies, to risk mitigation and support of strategic planning, a best-in-class KPI dashboard starts during due diligence and lasts through the full investment life cycle. Timely and measurable KPIs are also indispensable for monetizing investments at the end of the platform life cycle. Well-informed KPI reporting enables PE partners to establish a comprehensive and current picture of the platform’s daily, weekly, or monthly performance to potential buyers or the public markets, maximizing the attractiveness of future investment and providing credibility of higher valuations upon exit. Establishing effective KPIs is challenging. In most cases, it needs a multidisciplinary team of financial due diligence, data analytics, and risk and accounting advisory experts with industry specialization and a proven track record of synthesizing financial and operational data across many organizational functions.

3. Evaluate the information technology landscape

Whether it’s ERP software selection or an assessment of potential CRM systems, the platform’s technology stack needs to support dynamic, real-time reporting and must have the flexibility to scale with future growth and add-on acquisitions. An IT diligence assessment will answer the question: Is the current system adequate for the growth trajectory of the business? IT diligence also provides private equity investors with a roadmap to get where the platform needs to go regarding system capabilities. This focused diligence can also highlight critical weaknesses, additional required investments, and financial and operational risks from system disruptions.

An IT diligence assessment will answer the question: Is the current system adequate for the growth trajectory of the business?

4. Assess the cybersecurity risks

As cybersecurity events and risks become more pervasive, the potential threat to a platform’s organization is immeasurable. To understand and mitigate cybersecurity risks in a proposed platform acquisition, the cybersecurity diligence team needs to review current measures to safeguard sensitive data, check for vulnerabilities in the data security framework, assess risks, and identify any areas for remediation. A cybersecurity breach can lead to critical financial and operational impacts and ruin brand value and other commercial relationships.

5. Review the talent and rewards structure

The success of platform acquisitions often depends on the team that will execute the vision of future growth and performance. Two of the most overlooked risks are talent gaps (the human capital needed to take an owner-operated business to a sponsor-backed platform) and the alignment of rewards programs necessary to retain and incentivize key team members. Human resources due diligence should also include a review of organizational structure, culture, HR processes, payroll and benefit plan administration and compliance, and regulatory risk to ensure seamless integrations of add-on opportunities.

6. Perform comprehensive financial due diligence

Platform acquisitions require a deep understanding of the business’s cost structure to maximize strategic alternatives and react effectively to changes in the macro environment. Assessments of fixed cost structures in selling, general, and administrative expenses and attention to semifixed costs in platform gross margin profiles are particularly important. Financial due diligence will examine the exposure and upside to fixed cost structures by stress testing scalability, including a detailed data-driven analysis of historical EBITDA performance. This diligence identifies risks and opportunities in the platform’s cost structure (over-insurance or gaps, right-sized back-office functions, etc.) The diligence should also deliver true data points for fixed cost leverage and additional value creation post-close, highlighting opportunities for future add-ons throughout the investment life cycle.

7. Identify tax exposures and planning opportunities through tax diligence

Private equity fundraising is driven heavily by after-tax returns to investors, which in turn places special emphasis on tax considerations and sound structuring during tax due diligence. Tax liabilities and distributions can have a material impact on cash flow, and tax structuring can help reduce taxes and increase ROI upon exit. Additionally, it’s critical to identify tax exposures early and set plans to remedy pre- or post-closing to reduce the impact of the exposures on future valuations. Given this level of importance, it’s essential to include knowledgeable tax experts early in the due diligence process and after closing to ensure efficient tax positions that provide the necessary upside to the platform investment.

Mitigate risk with comprehensive due diligence

With high demand for quality platform investments, record levels of capital available, and narrowing time windows to get it invested, the pressure to get deals done has increased. Platform acquisitions are high-risk if not properly assessed upfront via efforts across multiple diligence workstreams. Due diligence is the time to mitigate risk, supported by a trusted service provider that can assess the risks and opportunities ahead and provide optimal support for informed decision-making. 

Due diligence is the time to mitigate risk.

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