Sources of Value Creation Through Private Equity-backed Mergers and Acquisitions: The Case of Buy-and-Build Strategies

Private equity (PE) firms have long time emphasized their role as investors who create value in their portfolio companies. In this paper we analyze a key strategy of PE investors, the so-called buy-and-build strategy (B&B), and evaluate the value creation ability of the investors through B&B. B&B is a transaction in which PE investors acquire a firm serving as a "platform" for further acquisitions. The follow-on acquisitions ("add-ons") are usually facilitated by the PE investors as well.

Our results show that PE investors cherry-pick more profitable firms for B&B transactions. While profitability is important for common PE targets as well, platforms in a B&B additionally need to realize a sufficient turnover growth in order to be selected for the transaction by the investors. In contrast, add-ons are rather slowly growing firms. Thus, we find evidence that within a B&B, PE investors facilitate the acquisition of slowly growing add-ons through fast growing platforms, which can utilize the assets of the add-ons more successfully. Furthermore, it seems that PE investors prefer firms with a higher capacity utilization measured as the turnover per firm's assets. Moreover, we find that platforms experience an increase and add-ons experience a decrease in capacity utilization after the B&B. This result suggests that PE investors use B&B to allocate resources and capacity more efficiently by shifting resources from firms with excess capacity (low utilization) to firms whose capacity is near exhaustion (high utilization). However, B&B have a positive impact on firms' profitability, and thus, B&B possibly improve firms' value, only for platforms and add-ons with an increasing industryadjusted utilization measured as turnover per total assets. For firms with decreasing turnover per total assets B&B lead to performance decrease.

Borell, Mariela and Diana Heger (2013), Sources of Value Creation Through Private Equity-backed Mergers and Acquisitions: The Case of Buy-and-Build Strategies, ZEW Discussion Paper No. 13-094, Mannheim.