Private Equity Readiness: Preparing Your Business for PE Investment
A comprehensive guide for business owners considering private equity partnerships or exits.
Key Takeaways
- •Start PE preparation 12-24 months before approaching investors
- •Quality of earnings, management depth, and clean financials drive valuations
- •EBITDA adjustments must be defensible—aggressive add-backs destroy credibility
- •PE brings capital and expertise but requires operational transparency and accountability
- •Working with an investment banker typically increases proceeds even after fees
Private equity investment can be transformational for a growing business. Whether you're seeking growth capital, planning a partial exit, or preparing for full sale, PE firms bring capital, operational expertise, and strategic resources that can accelerate your company's trajectory.
But PE transactions are demanding. Investors conduct rigorous due diligence, expect sophisticated financial reporting, and pay premiums only for well-prepared companies. Businesses that approach PE without proper preparation typically receive lower valuations, face extended deal timelines, or fail to close transactions entirely.
This guide covers what PE investors look for, how to prepare your business, and the timeline you should expect from initial preparation through close.
What PE Investors Look For
Understanding PE investment criteria helps you assess your readiness and identify gaps to address before going to market.
Financial Criteria
| Factor | Typical PE Requirement | Why It Matters |
|---|---|---|
| Revenue | $10M-$100M+ (varies by firm) | Determines check size and firm fit |
| EBITDA | $2M-$15M minimum | Primary valuation metric; must be consistent |
| Growth Rate | 10-20%+ annually preferred | Drives future returns; affects multiple |
| Gross Margin | 30%+ (industry dependent) | Indicates pricing power and efficiency |
| Revenue Quality | Recurring/contracted preferred | Predictability reduces risk |
| Customer Concentration | <20% from any single customer | Concentrated revenue creates risk |
Operational Criteria
Management Team Depth
PE firms invest in teams, not just businesses. They want capable leaders beyond the owner—a strong CFO/controller, sales leadership, and operations management. Companies overly dependent on the owner are riskier investments.
Defensible Market Position
Investors seek companies with competitive advantages—specialized expertise, customer relationships, proprietary technology, or geographic positioning that competitors can't easily replicate.
Growth Opportunity
PE returns require growth. Investors want to see clear paths to expand—new markets, products, acquisitions, or operational improvements. Stagnant businesses command lower multiples.
Clean Operations
Well-documented processes, clear contracts, compliant operations, and minimal legal exposure. Operational mess creates due diligence problems and invites purchase price reductions.
Financial Readiness Requirements
Financial preparation is the foundation of PE readiness. Investors will scrutinize your numbers—gaps or inconsistencies erode credibility and reduce valuations.
Minimum Financial Standards
Quality of Earnings Preparation
Every PE transaction includes a Quality of Earnings (QoE) analysis—a deep dive into your financials by the buyer's accounting firm. Smart sellers prepare their own "sell-side QoE" to identify and address issues before buyers find them.
Proactive QoE Matters
Issues discovered during buyer due diligence create leverage for price reductions. Issues you identify and explain upfront demonstrate transparency and competence. The same problem handled proactively versus reactively can mean millions in purchase price difference.
Common QoE focus areas:
- Revenue quality: Recurring vs. non-recurring, customer concentration, contract terms
- EBITDA normalization: Owner compensation, one-time costs, related party transactions
- Working capital: Trends, seasonality, normalization for transaction
- Financial controls: Processes, systems, and accuracy of reporting
EBITDA Adjustments: What Gets Accepted
Adjusted EBITDA is the starting point for most PE valuations. But not all adjustments are created equal—aggressive add-backs destroy credibility and can kill deals.
Commonly Accepted Adjustments
- Owner compensation above market rate
- One-time professional fees (M&A, litigation)
- Non-recurring legal settlements
- Facility closure or consolidation costs
- Personal expenses run through business
- Related party rent normalization
Typically Rejected Adjustments
- "Pro forma" revenue not yet realized
- Cost savings not yet implemented
- Multiple years of "one-time" costs
- Excessive management bonuses
- R&D or marketing treated as one-time
- Restructuring presented as non-recurring
The Credibility Test
If you wouldn't present an adjustment to your banker when applying for a loan, don't present it to PE. Aggressive adjustments don't just get rejected—they make buyers question everything else in your numbers.
The PE Readiness Timeline
Proper PE preparation takes 12-24 months. Rushing this process typically results in lower valuations, extended deal timelines, or failed transactions.
18-24 Months Before: Assessment & Planning
- • Engage a fractional CFO or financial advisor for readiness assessment
- • Identify gaps in financial reporting, operations, and management
- • Begin addressing identified issues
- • Research PE firms that fit your size and industry
12-18 Months Before: Financial Cleanup
- • Implement GAAP accounting if not already in place
- • Get financials audited or reviewed
- • Clean up balance sheet—resolve old receivables, normalize inventory
- • Implement financial systems upgrades if needed
- • Build out management team depth
6-12 Months Before: Due Diligence Preparation
- • Prepare sell-side Quality of Earnings analysis
- • Document EBITDA adjustments with full support
- • Create virtual data room with organized documents
- • Interview and select investment banker
- • Develop management presentation and growth story
0-6 Months: Active Process
- • Launch process with investment banker
- • Management presentations to interested buyers
- • Receive and negotiate letters of intent
- • Complete buyer due diligence
- • Negotiate definitive agreements and close
Working with Investment Bankers
For companies with $3M+ EBITDA, an investment banker typically adds significant value. They manage competitive processes, optimize valuations, and handle deal complexity so you can focus on running the business.
What Investment Bankers Do
- Market positioning: Crafting your story for maximum buyer appeal
- Buyer identification: Targeting strategic and financial buyers most likely to pay premium
- Process management: Running competitive auction or targeted outreach
- Negotiation: Optimizing price, terms, and deal structure
- Due diligence management: Coordinating information flow and addressing issues
- Deal closing: Managing attorneys, accountants, and closing mechanics
Fee Structures
Investment banker fees typically include a retainer ($10K-$50K/month) and success fee (1-5% of transaction value). Smaller transactions pay higher percentages. A $30M deal might pay 2-3% ($600K-$900K), while a $100M deal might pay 1-2% ($1M-$2M).
The ROI of Investment Bankers
A good investment banker typically increases transaction value by 10-30% through competitive tension, optimal positioning, and skilled negotiation. On a $25M transaction, a 20% improvement ($5M) far exceeds even a 3% fee ($750K).
What Changes After PE Investment
PE investment brings resources and expertise, but also new requirements and accountability. Understanding these changes helps you prepare and set appropriate expectations.
Financial Requirements
- • Monthly financial reporting within 15-20 days
- • Formal board packages with KPI dashboards
- • Quarterly budget vs. actual analysis
- • Annual strategic planning and budgeting
- • Covenant compliance tracking and reporting
Governance Changes
- • Board of directors with PE representation
- • Monthly or quarterly board meetings
- • Approval thresholds for major decisions
- • Regular strategy and operational reviews
- • Management incentive plans tied to performance
PE Value Creation
Good PE firms bring more than capital. They provide strategic guidance, operational expertise, acquisition support, and management resources. The best partnerships leverage PE capabilities to accelerate growth beyond what the company could achieve independently.
Understanding PE Valuations
PE firms value companies primarily on EBITDA multiples, adjusted for growth, risk, and market conditions.
| EBITDA Range | Typical Multiple | Implied Value Range |
|---|---|---|
| $1M-$3M | 3x-5x | $3M-$15M |
| $3M-$5M | 4x-6x | $12M-$30M |
| $5M-$10M | 5x-7x | $25M-$70M |
| $10M+ | 6x-8x+ | $60M-$80M+ |
Multiples vary significantly based on industry, growth rate, recurring revenue, customer concentration, and market conditions. Software and healthcare command premium multiples; commoditized businesses trade at discounts.
In-Depth Guides
Quality of Earnings Reports
What QoE analyzes and how to prepare
EBITDA Adjustments Guide
What investors accept vs. reject
Due Diligence Checklist
Complete document requirements
Investment Banker Guide
Selection, fees, and process
Post-PE Finance Changes
What to expect after investment
Owner's Earnings vs. EBITDA
Understanding true business value
Frequently Asked Questions
How long does it take to prepare a company for PE investment?
Plan for 12-24 months of preparation before approaching PE firms. This includes cleaning up financials, building a management team, optimizing operations, and documenting growth opportunities. Companies that rush this process typically receive lower valuations or fail to close deals.
What revenue size do PE firms target?
Lower middle market PE firms typically target companies with $10M-$50M in revenue and $2M-$10M in EBITDA. Smaller PE firms and search funds may look at companies as small as $3M-$5M in revenue. Larger PE firms focus on companies with $50M+ in revenue.
What is a Quality of Earnings (QoE) report?
A Quality of Earnings report is a financial due diligence analysis performed by accounting firms during PE transactions. It validates revenue quality, normalizes EBITDA, analyzes working capital, and identifies financial risks. Sellers should prepare their own 'sell-side QoE' to anticipate buyer concerns.
What EBITDA adjustments do PE investors accept?
Commonly accepted adjustments include owner compensation normalization, one-time professional fees, non-recurring legal or litigation costs, and facility consolidation expenses. Aggressive adjustments like pro forma revenue or excessive management bonuses are typically rejected or heavily discounted.
Should I hire an investment banker to sell my company?
For companies with $3M+ EBITDA, an investment banker typically adds significant value through competitive process management, valuation optimization, and deal structuring. Fees usually run 2-5% of transaction value but often generate returns multiples higher through improved terms.
What do PE firms look for in a management team?
PE investors want depth beyond the owner. They look for a capable CFO or controller, strong sales leadership, and operational management. Companies overly dependent on the owner receive lower valuations and may require earnouts or equity rollovers.
How much do owners typically rollover in PE deals?
Owners typically roll 20-40% of their equity into the new structure when partnering with PE. This aligns incentives for growth and provides upside in a future exit. Roll percentage depends on growth plans and owner involvement post-transaction.
What changes after PE investment?
Expect formal board meetings, monthly financial reporting packages, KPI tracking, and regular strategic reviews. PE firms bring operational expertise and growth capital but require transparency and accountability that many owner-managed businesses aren't accustomed to.
How are PE-backed companies valued?
PE firms use EBITDA multiples ranging from 4x-8x+ depending on size, growth rate, industry, and risk profile. A $5M EBITDA business might sell for $25M-$35M (5x-7x multiple). Recurring revenue, strong growth, and defensible market positions command premium multiples.
What financial systems do PE firms expect?
PE firms expect accurate monthly financials within 15-20 days of month-end, detailed P&L by department or product line, clean balance sheet reconciliations, and a 13-week cash flow forecast. QuickBooks is acceptable for smaller deals, but larger transactions often require NetSuite or similar.
Preparing for PE Investment?
Eagle Rock CFO helps companies prepare for private equity transactions. From financial readiness assessment to QoE preparation and deal support, we guide you through the process.
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