The role of IT when equity funds invest – Ask the expert

Interview with Senior Consultant, Thomas Kvorning, Partner at Altor Equity Partners

We sat together with Thomas Kvorning for a little talk about the role of IT when equity funds do investments. Since 2007, Thomas has been working for Altor – a mid-market equity fund investing in Nordic billion-euro companies. For more than 10 years, Thomas has encountered many different organizations in which IT ended up playing a really important role in the valuation of the company.

Thomas will share his many experiences from his long time in the investment world and give us insight about how IT can affect the valuation of a company, the powers of Industry 4.0, and why digital transformation can be necessary for a business’ development. This is interesting as an equity fund often represents a rather pure business perspective which sometimes can be neglected in the IT world.

Watch the video or read the written version below.

1.  Please present yourself

My name is Thomas Kvorning, I work for a Nordic mid-market private equity fund called Altor Equity Partners. We are a two-billion-euro fund and we invest in companies with typically a 100 or 200-billion-euro revenue but could also be up to 300 or 400. We’re fairly agnostic when it comes to which industries we invest in, but the important thing is that there is good value creation potential and that it’s Nordic anchored. In that way, we have a relationship with the management team and the banks and can build on our network here in the Nordics.

I have a master’s in finance and I have worked in investment banking before joining private equity in 2007. I worked from 2004 to 2007 at Morgan Stanley in London and New York focusing on telecommunications and the media industry. I have also worked with pharma and met-tech and I’ve sat on the board of an animal feed company as well. So quite a broad range of industries and exposures but the common denominator for us (Altor Equity Partners) is mid-sized companies with huge value creation potential and Nordic anchored. That being said, I think nearly all of our companies are global in the sense that they export, they have significant markets outside Denmark, and typically they also have multiple production sites. In relation to our topic for today, the IT setup would also be global by nature and have a certain amount of complexity. Organizational complexity is also quite substantial.

2.  Being part of an equity fund, how do you think a company’s IT setup affects the valuation?

Generally, IT is an important part of the company, of course. It varies quite a lot whether it really can move the needle in terms of valuation. If a company has a very strong IT setup, it would typically have a strong backbone and general strong control over their financials, strong visibility, good CRM systems, good grip on customers, etc. I think that it correlates with a lot of different topics so it’s difficult to isolate. In general, what we’re trying to do is to quantify what the IT agenda will cost us when we look into an acquisition and the value creation agenda. And then we build that into our base case model. Mathematically or economically, we’ve captured the cost side of it. If it’s a larger IT agenda or digital transformation, it wouldn’t be a cost component only. It would also drive some top line and that would then be baked into the commercial analysis and therefore also the return on that, which again fits into the valuation. But again, I think it varies a lot, but we would try to bake it all into an overall judgment; “Does this company have the right setup? Are they underinvested? What will it take to upgrade the IT or digital capabilities in order to deliver on our plan?” That being said, a general rule of thumb, I think we typically underestimate the cost of transforming IT or upgrading IT capabilities. And we probably typically also underestimate the time it takes to implement IT heavy agendas. That’s my impression from the companies I’ve worked with.

“We had to readjust our expectations on how much the IT setup takes up in terms of resources and time. But in the long run, I think it will be a very worthwhile investment.“

– Consultant and Partner at Altor, Thomas Kvorning

3.  How do you evaluate a company’s potential for a digital transformation?

This is probably an area where we traditionally have been underinvesting a little bit in terms of really mapping out what are the digital opportunities for this company. In the time period, we’re are in now, where we really have accelerating disruptive trends, we are increasingly paying more attention to really trying to put a number on also the upsides, and really give it some attention. One way of giving it more attention is to hire specialized advisors, as opposed to our more traditional approach, to get consultants who can sort of assess the backbone and the boring part of IT. I’ve seen cases where we dedicate more specialized advisors or simply dedicate more attention to really taking a view on what it will take to succeed in a digital transformation or value creation work stream.

4.  How do you assess the IT part of a company in a due diligence process?

Historically, we have baked the IT due diligence into the scope for the financial due diligence. Deloitte or PwC or some of the big four, they would have people who are used to looking at infrastructure or backbone related IT. They would go in and basically assess how up to date are their systems, how good are their reporting capabilities, ERP, CRM, some of the core systems, and we would get a list of to-do’s recommendations from them. When it comes to the more growth-oriented side of it, the customer-facing side of it, or the digital side of IT, this would typically be part of the commercial due diligence which McKinsey or BCG or someone like that would include in their scope. We have in a couple of cases recently also hired specialist advisors who are strong on the digital side or strong on search optimization or strong on various components. On the digital side, it’s evolving a bit more into who’s the better in each case.

“I think we realized that this could be turned to our advantage because we can use digital tools here, and if we really invest in it, we can get ahead of our key competitors.“

– Consultant and Partner at Altor, Thomas Kvorning

5.  When you invest in companies, to what extent do your strategies include IT or even a digital transformation?

It would always be an important component whether it’s transformational or not. I would say one or two out of the six companies I’ve worked with, IT has been transformational and thereby it has been an enabling factor. For example, at an industrial company we did for the first time put in a group-wide ERP system, we implemented a proper CRM system which didn’t exist before, we were putting in business intelligence, consolidation systems, drawing a database integrated with the rest of the firm, etc. Basically, we did a full upgrade on all areas for this production company. A lot of this was core systems but we also had to do a lot of customer facing and upgrading the financial transparency. In order to manage our KPIs and really follow up on performance, we were missing some systems to capture that and for management to be able to navigate the business. This has been one of the more immature companies in terms of IT setup where we had to invest quite a lot and maybe also readjust our expectations on how much this takes up in terms of resources and time. But in the long run, I think it will be a very worthwhile investment.

6.  As an equity fund, do you evaluate the risk of disruption to the value of your investment?

Absolutely. One of the key things, when we do our investment decision, is to look at market trends which, of course, also includes the long term or near-term disruptive forces in the industry. In many cases, you’re not standing right in front of a disruption otherwise if it’s very evident they would have a hard time selling the company. But I think there is always an element of disruption and we have a couple of cases where we’re halfway into the investment and things have really sort of accelerated. We’re clear market leaders and it’s a stable business, but there is a scenario where things could be changing over the next couple of years. Therefore, in two of these cases, we’ve accelerated a digital project which is more in the Industry 4.0 category. Here we try to improve our value proposition towards the customer by adding sensors and digital displays, and really being able to monitor and have a much more efficient production with fewer blue collars, much more control and less yield loss throughout the production process. We haven’t gotten there yet but I think we realized that this could be turned to our advantage because we can use digital tools here, and if we really invest in it, we can get ahead of our key competitors.

“You really need to capture the right data points and integrate the machines or production flows with a control tower.“

– Consultant and Partner at Altor, Thomas Kvorning

7.  Industry 4.0, what is that?

I’m not an expert on buzzwords but what I interpret when I see that term is how to utilize technology, and how to basically integrate the Internet with the machinery on the shop floor and create intelligent digital solutions. If it’s a process flow, you can optimize your product or your energy efficiency or your scrap rates, so it really becomes very tangible. If it’s another type of company, it will be other metrics you measure up against. You will of course not only need good sensors to integrate with the control system, but you would also need a manufacturing system capturing all this data in the first place and you would also need an ERP at the bottom of that. In some of these cases, it requires more investment than you think but if you have the good building blocks then I think there are huge benefits. Especially, if you’re an industry leader and you invest in it because it requires quite a lot of work in order to really add value to your customer. Otherwise, they would have done it already or just found a way of operating their shop floor on its own. You really need to capture the right data points and integrate the machines or production flows with a control tower.

8.  What are the typical key elements in the IT strategies you roll out once you invested in a company?

As I mentioned before, I think there’s been a couple of cases where it’s been backbone or infrastructure heavy, so this would mean a significant ERP upgrade of two or three versions. We also own a lot of B2B manufacturing companies where MES systems have been key to getting the full benefits out of the data that we gather in our operations. We have MES systems and ERP systems, but also CRM will be an area where we typically see a lot of investments of business intelligence. Increasingly, we also have Big Data which is also a part of the business intelligence equation. But the interesting upsides with new technologies coming online, like sensors, or other sorts of more sophisticated Big Data opportunities is that you can use it in marketing and for targeting your consumer or your customer.

9.  What are the most low-hanging fruits for companies in terms of IT and digital?

Typically, when companies have their core systems in order and can capture data, they have generally not extracted all the value out of the data they have. That might require an investment, which we’re absolutely happy to make. But the general tendency we see, in terms of getting the full benefit out of the business intelligence that’s inherent in the operations and the sales, the go-to-market efforts are not being exploited today. I think the really interesting thing is whether you can take those benefits to the next level and start not only analyzing product efficiency data but also start delivering a better product or better service to your customer. And then start drastically improving your value proposition through digital tools.

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10.  How do you see IT and digital influence equity funds’ future investments?

In general, I think equity funds are quite good at taking a step back and reflecting on investment cycles, cyclicality, long term trends, etc. When it comes to capitalizing on digital opportunities, I think we’ve been medium at that. I think some of this will require that you in some cases take a bit longer investment horizon. Some of these projects will take a few years to prepare and to upgrade your system, a few years too to diagnose what is actually needed, and how to really tailor this towards your customer. I think that’s probably one trend I can see coming. Once you start really reaping benefits from an intelligent investment into a digital project, you might want to hold onto the company for a few years more. That’s at least one element that I see is changing.

“Take those benefits to the next level and start drastically improving your value proposition through digital tools.“

– Consultant and Partner at Altor, Thomas Kvorning