Private Equity firms typically want to run their portfolio companies as profitably as possible. This means cutting down service, R&D, technology, etc as lean as possible without damaging the existing product or brand.
It also rules out lots of room for innovation as the companies chief reason for existing becomes generating enough profits to pay off the individual company's outstanding debt.
Why is there debt? Private Equity firms will buy a company, streamline its operations, increase its profits, and demonstrate to banks/investors that it is financially stable. Once they've done that they raise lots of debt against the promise to pay off that debt with the future, dramatically increased, profits. They use the debt to pay themselves a bonus for taking over the company and fixing it.
Why not wait and just pocket the company's profits over time? Well, that's how Warren Buffet does it (sort of), but by loading the company with debt they get their bonus sooner increasing the IRR for their own investors.
edit: phrasing.
Who originally formulated this idea? Was it you? This sentence is fantastic.
It's fairly easy, in theory, to take a bloated and inefficient company, cut it to the bone to reduce overhead, then position it as more profitable for resale. On paper, sure, it's more profitable. In reality, it's just a similarly bad company that's been trimmed up and given a new paint job. It's very similar to the real estate playbook: buy a delapidated property, touch up the exterior, then flip it as if it's shiny and new. (The beauty of PE, over real estate, is that PE firms can rig the game to benefit one way or the other, due to debt structuring. If they can flip the company for a profit, they win; if the company goes bust, they're insulated from the damage.)
I would say that an overpresence of PE in an industry is a decent indicator that the industry is in trouble (or is ripe for disruption). But I think PE guys realize that, as well. They're just in it to make the quick, easy buck, rather than take on the burden of reshaping the industry. I wouldn't call them "risk averse" so much as I'd call them opportunistic. It's just a different kind of opportunity, and arguably a less socially valuable one.
It was a response to a particular point raised in the previous comment, specifically, about the position that PE companies are taking in the marketplace. I rambled a bit after addressing the point, and I editorialized a bit. I won't deny that much.
"You're obviously not a believer in PE."
Not generally, no. But I'm a believer in a (relatively) free market, and as such, PE is one of those "I don't agree with a word you say, but I'll defend to the death your right to say it" topics. I think PE has its place, but as most common practiced, it's most often counterproductive in the long run.
"the issue is, are PE-dominated markets ripe for disruption?"
I believe I answered that question in the affirmative. Admittedly, in a discursive way. But yes. I think the presence of a lot of PE players in a market is a pretty good signal that the market can be disrupted.
How about PE as a proxy for "incumbency?" That is to say, you're looking at companies who figured out a formula to "print money" then let themselves get complacent and fat, thereby becoming targets for PE. This would explain why they tend to be not so agile.
I just had an image of a cabal of attractive young women, somewhat resembling James Bond villainesses, but who are trained in business and economics, who seek out dalliances with PE firm executives in order to perform industrial espionage.
If I were not in tech, the firearms industry would be really attractive.
Has nothing to do with the article, but they just can't resist.
The stuff you ostensibly do when you're not on HN.
If an industry is overweight PE, you can bet that the market analysis looks fantastically attractive (competition isn't too fierce, suppliers have little power, buyers have little power, not many substitutes, and little perceived threat from new entrants). If a clever entrepreneur can render that last condition false and enter that market, that entrepreneur has the opportunity to shrink and consolidate a $huge market that's owned by PE players into a $smaller market that is owned by the entrepreneur.
PE controlled competitors will, generally, not be particularly agile, because PE tends to capture value by leveraging the heck out of a currently viable business model. It's a model that works really well as long as base assumptions hold true, but startups can ruin that for them.