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Private Equity as a Digitalization Turbo?

Digitalization costs a lot of money - and that is not always in abundance in medium-sized companies. Private equity funds, on the other hand, have money. 51 percent of companies with 20 to 99 employees see themselves as digital laggards. Among companies with more than 500 employees, the figure is only 32 percent, according to a study by industry association Bitcom.

Not a good starting position for competing internationally for the top spots. Stefan Sambol, Managing Partner of the digital consultancy OMMAX, explains, private equity funds (PE funds) could provide the necessary financial fuel.

How big is the digitalization gap in Germany's SMEs?

Stefan Sambol: As a digital consultancy, our position at OMMAX is quite clear: Digitalizationoffers immense potential for SMEs. We see that investments in IT, in skilled workers, in digital sales channels and in products offer great opportunities for German companies. However, companies are not yet where they should be. A KfW study showed at the end of 2021: The German economy ranks 18th in the integration of digital technologies. According to KfW, two to three times the current investment volume would be necessary. In this respect, one can speak of a real digitalization gap in Germany that urgently needs to be filled. For SMEs in Germany, digitalization has not only become a decisive competitive factor. In times of rising inflation rates as well as impending interest rate increases this year, it is a matter of survival.

Is this a finding that also applies to SMEs in other countries?

Sambol: According to a study by the Institute for SME Research, SMEs in Germany lag behind in some areas in an EU comparison. For example, only 17 percent of SMEs report employing skilled workers in the field of information and communications technology. The EU average is 19 percent. There are certainly countries and regions in Europe where the problems are even greater than here. However, SMEs should obtain a precise picture of the current situation in their own company, but also in comparison with the competition, as part of a digital maturity analysis. The KfW study also clearly shows that countries such as Ireland, the Netherlands, the United Kingdom and France are far ahead of us when it comes to integrating digital technologies.

Is it always just money that can close the gap?

Sambol: More investment is certainly necessary, but money alone is not everything. Together with Munich Business School, we at OMMAX conducted an analysis of digital skills in the advisory boards of German family businesses at the end of 2020. The findings of our study were sobering: Only about 16 percent of the board members of the 150 largest family businesses in Germany have proven digital expertise. Specifically, we had used several criteria in our analysis and considered, for example, the leadership or advisory board experience of the individuals in the digital transformation of a comparable company. If a board member has digitalization experience at a comparable company, he or she has a deep understanding of the required change processes and can also contribute this experience. Next, our hypothesis was that individuals who have hands-on experience in entrepreneurship also have entrepreneurial spirit. In our analysis of digital experience and data-focused customer orientation, our hypothesis was that experienced individuals would have a basic understanding of technology as well as skills in using ICT technologies.

Back to the 16 percent of board members in family businesses with digital expertise: That's not enough, is it?

Sambol: 16 percent is definitely not enough and represents a major threat to our SMEs. So it's not just the money that's lacking, but also the awareness and skills, from the supervisory board to the management, to tackle digitalization strategically and implement it consistently. In Germany, we need digital masterminds at management level and courage in implementation so that real success can be achieved in the digital transformation.

How are private equity funds supposed to fill the gap? Isn't that arguably "small-scale" for the funds?

Sambol: We definitely see private equity funds as an important driver of digitalization in the SME sector. This is because they have grasped more quickly than many other companies what potential for value creation lies in digitalization in terms of developing the value of the company. There are now highly specialized funds that initiate and implement digital projects in companies by investing in them. The funds do not get bogged down in the details because they rely on external consultants who always also conduct a digital maturity analysis as part of the due diligence process, in which the digital potential of the target company is assessed and specific recommendations for action are made. In addition, external service providers not only help with digital due diligence, but also with the implementation of digital initiatives.

How can this be made palatable to a PE fund, which, after all, focuses on very targeted selection rather than an industry-wide approach?

Sambol: The financial investor makes the targeted selection. All dimensions of the value chain are scrutinized in terms of the company's performance. Not only the internal perspective plays a major role, but above all the ecosystem in which the company operates. Digital ecosystems are drivers of innovation and growth for SMEs. For this reason, it is highly important to network with customers, competitors, start-ups, universities and so on, and to share data in order to develop innovations from them. Examples of this are provided by Siemens' initiative with the Mindsphere platform. Mindsphere is a cloud-based IoT operating system for networking machines, plants and systems as well as complex data analyses. Mindsphere partners have access to the open platform and can use it to develop and operate their applications. To really unleash power, private equity would have to become an everyman investment.

Do you see opportunities there?

Sambol: Private equity stands for investments in companies where the stake is not tradable on markets in the form of stocks, bonds or investment certificates. As a result, this type of investment is still subject to increased risk and requires the investor to have not only capital but also a sound understanding of the industry, the company and the products and services. Financial investors often invest seven-digit sums as part of the company's due diligence, sums that are impossible for ordinary investors to map. I would like to quote Jörg Rockenhäuser, a partner at Permira: "Private equity managers deal with fewer companies, but much more intensively. This is because a consistently implemented strategy significantly increases the value of a company." However, more and more platforms are developing that offer investors with an investment of 200,000 euros or more - which is the regulatory requirement - the opportunity to invest in private equity. It remains to be seen whether this form of investment will expand even further in the medium term.

This interview was conducted for DUP Magazine on 28/01/2022. Find here the original article: https://dup-magazin.de/finanzen/investieren/private-equity-heuschrecken-als-digitalisierungsturbo/

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