Tag Archives: Deal Sourcing

Introduction

Deal origination for Private Equity or Deal sourcing is the process by which investment firms identify opportunities. Larger volume deals are sourced to maintain a viable deal flow. Building a deal flow is the most important step because making good investment decisions is reliant on seeing many deals and selecting the best among them to pursue.

The effectiveness of the deal origination process ensures a healthy portfolio of investments that further ensures healthy returns to the Limited Partner investors. Hence its business-critical for a Private Equity firm to make sure the deal origination process works, and works well to meet the investment objectives.

Some venture capitalists, private equity investors, and investment bankers use various methods to source deals whereas some firms reach out to a team of specialists to help with the process of deal origination via outsourcing.

Deal Origination Process for Private Equity

There are multiple approaches to Deal Origination for Private Equity Firms. Some of them are

Traditional Outbound Approach

Here, the deal origination and sourcing largely depend on a wide area of personal networks, contacts, and the good reputation of the firm. Having knowledge of specific industries and the idea of similar deals taking place in the market is an added advantage for placing bids. This approach becomes successful only on the firm’s broad network of contacts, referrals, and a good reputation among founders. Firms compete against each other in process of bidding and their success depends on gaining specific industry knowledge. This typically leads to overvalued assets as all VCs and PEs are looking at the same deals.

Pros of outbound deals:

  • No matter how much things have changed but still the fundamentals of sales remain the same as they are based on human nature. And that makes outbound deals still very successful
  • It’s predictable and gives immediate results on the outbound process as it involves getting instant feedback from the prospective targets

Inbound deals

Inbound deal sourcing refers to all incoming leads, whether they come from existing relationships or unknown founders seeking investment. This is when a founder approaches the firm due to networking, good reputation, or word of mouth about the firm.

Pros of inbound deals:

  • Owners and operators are more likely to meet when they share a connection with you already
  • A shared network gives more knowledge which helps in creating more personalized interactions, giving a competitive edge
  • These deals move comparatively faster as introductions are warm and made only when seeking investments

Outsourced Approach

Traditional methods are nowadays giving way to modern online dealing platforms. Several financial technology companies help in deal origination for private equity firms and enable them to go beyond their network of contacts and source deals by reaching a broad audience on the basis of various criteria. Some parts of the investing value chain are outsourced to reduce operations costs while still maintaining quality and effectiveness.

Pros of Outsourced Approach:

  • Cost-effective
  • It casts a wider net of reaching out to target companies, that ensures exclusive deals that may help a Private Equity firm in delivering outsized IRRs for its Limited Partner investors
  • The deal pipeline continues to be populated in spite of multiple demands like new deals from the top management of the firm
  • The SOP ensures standardized elimination of targets not suitable to PE’s investment philosophy
  • Netting in the assets that are fairly valued

Magistral’s Process of Deal Origination for Private Equity Firms

There are various steps involved in the deal origination of private equity firms. These steps include Industry Research, Making SOPs, Evaluating, Ranking, and Contacting the shortlisted companies.

Magistral's Private Equity Deal Origination Process

Deal Origination Process for Private Equity

Industry Research 

This step focuses on taking out a list of companies that looks fit in terms of market position, competitive advantages, multiple avenues of growth, stable and recurring cash flows, low capital requirements, strong management team, favorable industry trends, etc. The inputs from research feed into the next step of SOPs

SOPs

This step is considered majorly after discussion with the clients, standard operating procedures (SOPs) are prepared in order to take care of the requirement of Private Equity clients while performing deal origination and deal sourcing process. A formal signoff is taken from the client once all the steps in detail are identified. Magistral performs this step for its clients without any cost to them

Evaluation

Various criteria are looked into while evaluating a target. Some of these are related to investors such as the investor’s ability to fund, if multiple investments can be made, if the investor has an interest in lead investing, his level of portfolio diversification, etc. The major part of the evaluation of the target is to ensure it meets the investment philosophy of the investor and is in a position to generate value over the investment horizon. The factors like industry, sub-industry, niche, management, team, past fundraising, strategy, marketing, finances, etc are evaluated for targets.

Ranking

On the basis of the above research, the analysts rank the various targets which best align with the investment philosophy of the Private Equity firm. The targets are ranked as per the suitability

Contact

 The final shortlisted investors are then contacted via mail or calls in order to close the best possible deal for a private equity firm. All the support required during the negotiations is provided as well.

Magistral’s Private Equity Deal Origination/ Deal Sourcing Case Study

The client and the business situation

A leading private equity company, investing in a broad range of markets such as energy, retail, and technology. The client wanted to deploy the capital to meet up its investment strategies and therefore wanted Magistral to find the best deals for the company at good valuations.

Magistral's Private Equity Case Study

Magistral’s PE Deal Origination/ Deal Sourcing Case Study

Magistral’s solution 

  • Magistral appointed a dedicated manager for taking the existing list of potential target companies, populate it further, and review them carefully
  • Standard Operating Procedures were made at no cost to the client to nail down the process to its finest details along with research and ranking methodology
  • A team of analysts started evaluating and ranking targets on different parameters already set out in the SOP
  • Shortlisted companies were contacted via call or mail and then the agreement was taken forward for all the documentation and deal negotiations

Outcomes

  • Within 6 months, the firm was introduced to more than 30 opportunities.
  • The effort resulted in detailed due diligence with two transactions that were quickly closed

Typical Outcomes of Magistral’s Deal Origination Services for Private Equity

According to a recent survey, 88% of private equity investors indicate their most important 2021 objective is deploying capital- a nearly 10-point increase from last year.

While working with Magistral, IRR is improved due to an exhaustive scan of the investible universe. There is approximately a 30-50% reduction in operational costs for target screening. Database costs are justified through rationalized services.

Over the years, Magistral has delivered multiple analyses that go into supporting and facilitating million-dollar global transactions. The team has so far worked with 200+ clients and facilitated transactions worth billions of dollars.

About Magistral consulting

Magistral Consulting has helped multiple funds and companies in outsourcing operations activities. It has service offerings for Private Equity, Venture Capital, Family OfficesInvestment BanksAsset Managers, Hedge Funds, Financial Consultants, Real Estate, REITs, RE fundsCorporates and Portfolio companies. Its functional expertise is around Deal originationDeal Execution, Due Diligence, Financial ModelingPortfolio Management and Equity Research.

For setting up an appointment with a Magistral representative visit www.magistralconsulting.com/contact

About the Author

The article is authored by the Marketing Department of Magistral Consulting. For any business inquiries, you could reach out to  prabhash.choudhary@magistralconsulting.com

 

 

Introduction to Deal Origination Services

Making a deal is imperative for a Venture Capital or a Private Equity firm. That is the business they are in. However, behind every successful deal that attracts investment, there is a pipeline of multiple other deals that are curated over time. Deal origination services deal in populating and updating that deal pipeline.

Every fund has an investment philosophy or mandate to make deals that are relevant for its purpose of delivering outsized returns. Some specialize in early-stage investments like Seed or Series A while others prime for late-stage investments like M&A or Series D and beyond. Whatever is the fund mandate, it’s imperative for every private equity or venture capital fund to populate the deal pipeline, so that the deals that fit every criterion could be fructified as and when required. For Hedge funds and Fund of Funds, deal origination concerns about stocks and funds respectively. Deal Origination for Investment Banking also works on similar lines.

Scope of Deal Origination Services

Private Equity Deal origination or Venture Capital Deal Origination services understand in detail the fund philosophy or the mandate. It is then broken down into actionable categories for the selection of targets. For a typical early-stage VC fund, for example, would be interested in SaaS product companies, where the product development has been done and the company is looking for commercialization in the space where the fund may have connections to bring in the early clients. This breaks down into requirements in terms of the industry of the target, industry where target’s clients are, revenues, geographical presence, employees, team, and their background, and suitability to deal terms like management ready to give majority stake, etc.

Once the profile of an ideal deal is finalized, the search begins for the potential targets, where the deal could be fetched.

Population and Update of Deal Pipeline

The deal pipeline is continually updated for the right deals. Every new deal that is originated finds a place in the deal pipeline. This also works for M&A deal Origination. As not all the details about the private companies are available in the public domain, primary research along with secondary research is employed. Details of the deal origination process are explained below

Deal Origination Services

How A Deal Pipeline is Populated?

Here are the most common ways of populating the deals pipeline:

 

Secondary Research

Secondary Research is the backbone of finding suitable deals. The analyst looks for the private and sometimes public companies satisfying a given set of criteria like revenue, stage, team, geographical presence, etc. Information on all relevant parameters is collected to shortlist the right target

Primary Research

Once the target is shortlisted the analyst gets in touch with the company to collect other information and understand the intent of the company to raise funds. All the information collected is duly captured in the pipeline sheet or Deal Origination platform

Accelerators

Accelerators, Incubators, and other similar Associations provide a current set of targets that are looking to raise funds and have been primed to do so. Getting in touch with such organizations provides important inputs to the deals pipeline. Sometimes these organizations distribute information through regular newsletters which need to be studied to populate the pipeline for the appropriate targets

Platforms and Events

Some multiple platforms and events help startups in raising funds. These platforms are continually looking for investors to fund their member startups. The analyst usually takes the membership of these platforms to receive periodic information

Deal Databases

There are multiple deal databases along with private company financials. Each geography has a specialized database. Sometimes databases also specialize in a given industry. Deal terms on databases help in arriving at the company valuation which is useful in the deal execution stage

Introduction to Deal Execution Services

Once the pipeline is populated and the opportunity is shortlisted for deal-making, deal execution services come into play. Deal execution services help in preparing documents that go into deal-making and negotiations involved therein.

Activities in deal execution are Financial Modeling, Valuation, Due Diligence, Strategy, Business Development Support, and Deal Documentation

Deal Execution Services

All that forms Deal Execution Services

Financial Modeling

Financial modeling serves as a host of purposes. It analyzes if the proposed acquisition, buy-out, M&A, or investments makes sense financially. It also helps in fine-tuning the financial future of the proposed asset. Revenue, profitability, and costs are forecasted to finally arrive at a proposed valuation. The financial model also takes into account the cost of capital and analyzes various exit opportunities for investors. The financial model also suggests if the investment is viable and is going to provide the expected returns to the fund. The financial model analyzes various investment scenarios too, and how key investment parameters change in all those scenarios. Financial Models have been traditionally prepared on the excel sheets but increasingly there have been multiple software products to aid the modeling and reduce the analyst errors

 

Valuation

Valuation is one of the key metrics for the investment decision. It is calculated differently for different types of companies and their maturity. For public companies, the DCF Model along with comps from similar companies gives a comprehensive view. For private companies, it’s usually based on multiples prevailing in the industry. Valuations change in various business scenarios of optimistic, pessimistic, and realistic business outcomes

 

Due Diligence

Due Diligence makes sure that investment is right and will meet its objective in terms of expected returns from the asset. Due Diligence checks thoroughly the financials of the company. All the assumptions made to forecast the financial future are double-checked. Due diligence also checks for the track record of the team as professionals. All aspects of Corporate Governance are verified in detail. Legal battles, statutory or government actions on the company are looked at. Due diligence gets into details of finances, strategy, assumptions, marketing, people, team, and everything else that is important. For smaller assets, it could be done in a few weeks, whereas for strategic investment it can go on for months. A data room is set to comb through the huge amount of data and information.

 

Strategy Formulation for Portfolio Companies

In terms of Deal Execution either the strategy is prepared or already prepared strategy document is vetted. A strategy document is put to attract co-investors and set the expectations from the management. Strategy or plan for the next 5 to 10 years is prepared. The input from the strategy document goes into financial modeling and revenue forecasts. If Strategy is already in place, assumptions are rechecked to make sure the document is robust and achievable. Annual budgets are also derived from the strategy documents.

 

Business Development Support for Portfolio Companies

Immediately after the deal goes through, major thrust from investors is towards the business development of the invested company. Almost always there is an imminent need of finding out and reaching out to the customers. It is usually achieved through lead generation and meetings’ set up in B2B set-up and effective digital marketing in B2C set up. Business Development support services ensure the revenue and growth forecasts are met

 

Deal Documentation

There are a host of documents that are prepared for fund-raising. Requirements are even more in the case of public companies. Following are the documents that are usually prepared for fund-raising

PPM/CIM: Private Placement Memorandum or Confidential Information Memorandum is a detailed document covering all aspects of the proposed investment

-1 Pager: It’s a teaser document that is sent out for information of other investors

-Financial Model: As discussed earlier in the document, it analyzes the investment in all scenarios and the respective outcomes.

-Pitch Deck: A short version of CIM which is more of a marketing document

Several other forms are filled and prepared depending on the geography of the investor and investee.

Magistral Consulting has helped multiple investors like Private Equity, Venture Capital, and Family Offices in making the right investments through all the services mentioned above. To drop an inquiry please visit www.magistralconsulting.com/contact

About Magistral

Magistral Consulting has helped multiple funds and companies in outsourcing CIO related activities. It has service offerings for Private Equity, Venture Capital, Family OfficesInvestment BanksAsset Managers, Hedge Funds, Financial Consultants, Real Estate, REITs, RE fundsCorporates and Portfolio companies. Its functional expertise is around Deal originationDeal Execution, Due Diligence, Financial ModelingPortfolio Management and Equity Research

For setting up an appointment with a Magistral representative visit www.magistralconsulting.com/contact

About the Author

The Author, Prabhash Choudhary is the CEO of Magistral Consulting and can be reached at Prabhash.choudhary@magistralconsutling.com for any queries or business inquiries.