Appropriately Answering a Private Equity Firm’s Questions

As a founder, having conversations with private equity firms can help you get a better understanding of your market, metrics to strive for, and which firms you do and don’t want to work with.

In any conversation you have with a PE firm, you can expect they will ask a lot of questions. As they do so, some considerations you’ll want to take into account include:

• What information can you appropriately share and when?
• How do you best position your business while staying grounded in reality?

Based on our experience advising 100+ companies through successful M&A and capital raise transactions, below are some insights to help you as a founder understand the implications of your responses and how to appropriately frame your company without misrepresenting yourself.

How Your Responses Will Influence a Future Outcome

In general, a PE firm will suggest that their questions are intended to "build the relationship." But for the most part, they are looking to understand whether or not your company matches their ideal investment profile. Specifically, firms are looking to get a better sense of your company’s:

• Market Opportunity. Does your company have growth potential within its market?
• Risk. Does your company’s risk profile align with the firm’s portfolio strategy?
• Fit. Do the goals, strengths, and weaknesses of your company align well with the firm?

How you answer a firm’s questions will influence whether or not they move forward in their relationship, how they value your company, and whether or not they ultimately close a deal. Since your responses will influence the trajectory of a transaction, be prepared to present your company in the best light.

The goal in doing so isn’t to change your answers to please any and all firms that reach out. Instead, you want to offer a polished response so when the right strategic fit comes along, you can put your best foot forward. As you do so, you will be an equal and capable participant in both the transaction and the future relationship.

The types of questions PE firms ask will generally fall under three categories:

• Financial metrics
• End market information
• Qualitative aspects of the founder and company

Below are common questions firms ask and guidelines to polish your responses.

Financial Metrics

Without fail, private equity firms will ask for specifics about your company’s financials. Common questions include:

• What is your annual revenue, ARR, CARR, Bookings, etc?
• How has revenue trended/grown over the past few years?
• What is your projected growth rate for the coming year?
• What is your LTV:CAC ratio?
• What are your retention rates (net, gross and logo)?
• What is your ACV (Annual Contract Value)?
• Among many others...

When you answer any financial question, know that firms are listening closely. They will log your financials in their database, monitor your company over time, and measure your future responses against past responses.

As such, take special care when a firm asks for forward-looking metrics, because a firm will compare your projections to actual performance. When it comes to evaluating your firm as a potential investment, missing by an inch is tantamount to missing by a mile. A small shortfall between projected and actual revenue could significantly affect interest, valuation, or the structure of the transaction.

Even worse, missing projections could turn off investors completely if they feel a management team is not credible. In effect, they’ll be asking themselves, "If this company can’t deliver on numbers they stated, what else should I be worried about?" So instead of offering projections, focus on historical and actual performance and then turn the firm’s attention to the opportunity ahead.

Ensure all metrics are positioned in the appropriate context. Standalone financial metrics out of context could send the wrong message.

You may feel that withholding financial information early in the relationship may turn off interested firms, but that simply isn’t the case. Investors are looking to invest and will always be around so long as they see a quality asset on the market.

Note: An investment bank can help you know which metrics are appropriate to share (and when) so that you can move relationships forward while also maintaining the best possible image of your business.

End Market Information

To better understand your company’s future growth opportunities, private equity firms will ask questions about your end market. The larger the market, the larger the opportunity.

This aspect of your company could be the most important piece of the puzzle for a firm as this speaks to long-term success and ultimate opportunities for the firm to realize a return. Some common questions include:

• What is the typical size of a customer (employee, revenue, number of customers, etc.)?
• What is your average customer value (ACV)?
• Who is the person you sell into at an organization?
• What is the total addressable and serviceable market?
• What is your penetration of your current market?
• What does the competitive landscape look like?
• What are your win/loss rates?
• Are most of your sales to organizations with no solution or are you displacing an existing solution?

In terms of market size, PE firms tend to categorize markets into three buckets:

• <$1B
• $1-10B
• $10B+

Firms view <$1B as having a short ceiling of opportunity, meaning they would need to likely expand the target company’s current offering to expand the ACV or the number of applicable customers. The short ceiling on market size places constraints on which parties are able to value a business.

At the same time, a company shouldn’t unrealistically quote $100B+ market opportunities, as doing so may bring a company’s strategy into question or suggest a business has not really found its true market "fit" yet.

A similar principle applies when discussing market penetration. While you might be excited about sizable market penetration, a PE firm is looking for businesses that have room for growth. If you’ve penetrated a significant portion of your market, draw investors’ focus to other aspects of your strategy where you are growing within your market or expanding into others.

As with financial metrics, metrics about your end market may not tell the full story without the proper context. An investment bank can help you properly position these metrics for PE firms.

Qualitative Aspects of the Founder and Company

While the state of a company’s financials and end market play a critical role in whether a company qualifies for an investment, PE firms will look beyond metrics to qualitative aspects of the business to determine a potential fit. Some questions a firm will ask in this area include:

• Why are you selling/looking for investment now?
• What are you looking for in a partner?
• As a founder, what do you see as your role post-transaction?
• Are there any current gaps on the team?
• How do you intend to use invested capital?

Knowing what you are looking to get out of a transaction is important, so prepare truthful answers. With each question, there are no right or wrong answers, but how you answer will impact interest. You’re not looking to impress everyone, just the right partner, since partner fit will influence both the success of the transaction as well as the business post-transaction.

Managing Relationships with Multiple Firms

Ultimately, your goal in answering a private equity firm’s questions should be to build a positive yet realistic perception of the business. Of course, interacting with multiple firms while also running a business can be a significant burden on a founder’s time, especially when not every firm is the right fit or in a position to transact.

Building relationships with multiple firms is important but can be very time-consuming. As such, you need to meter the time you dedicate to interacting with PE firms until you come closer to a transaction. That said, an investment bank can give you exposure to all types of firms and transaction options to help you decide what the best fit is for you.

Learn more about the role of an investment bank when selling your business.