The rapidly evolving consumer behavior and resulting economic challenges sparked by the COVID-19 pandemic are poised to leave a dramatic mark on many industries. Some businesses will recover while others will not. Those that survive face a difficult road back to previous performance levels.
For private equity firms, this presents a rare opportunity to invest in quality companies at reduced valuations. The challenge is determining which companies will ultimately recover and which will not.
When evaluating potential investments in the retail, restaurant, and retail healthcare industries, private equity investors should look beyond the usual factors such as the company’s business model, historical performance, management team strength, level of competitive pressure, balance sheet, etc. These factors matter, but they should be combined with analysis that reveals other variables that drive the company’s location-level performance, such as its consumer base, adjacency to favorable cotenants and traffic drivers, and more.
Fortunately, many of these insights can be derived from a whitespace analysis during the due diligence period preceding the investment decision. Here’s how it works.
What is a Whitespace Analysis?
A whitespace analysis is an analysis that seeks to answer the question, “how many locations can this company have and where should those locations be placed?” To conduct the analysis, an analyst typically develops a statistical model based on trade area factors that are shown to correlate with unit-level performance. The model is then used to assess the target geographies (e.g. the continental United States) to determine the optimal configuration of the company’s location network.
The whitespace analysis should be developed by combining expert industry knowledge with sound statistical analysis. Time is of the essence during the due diligence process so the ability to accelerate speed to delivery is important.
Applying the Whitespace Analysis to Evaluate Investment Opportunities
The most common use for a due diligence whitespace analysis is arguably to define the runway for companies of interest. But in an era when growth is unlikely to mean aggressively adding to store counts, there are other ways private equity firms can apply the findings to differentiate between good and bad investments.
1. Examine the Factors That Drive the Company’s Performance
Take a closer look at the variables included in whitespace analysis. Those variables provide important insights into the factors that drive the company’s performance. Evaluate whether those factors are likely to change in the near future.
For example, if a brand has historically depended on a specific group of consumers that has been severely affected by the current economic conditions, then the company will have a tough road to recovery unless it can capture a new type of customer. If a brand has historically faced stiff competition, but those competitors are struggling, then the brand may have a competitive advantage moving forward. Alternatively, if a brand has historically derived part of its traffic from the presence of complimentary cotenants and those cotenants are struggling, then the brand may also be negatively affected.
If you decide to move forward with the acquisition, this knowledge can provide insights to guide management decisions.
2. Help Define an Accurate Valuation
If the whitespace analysis reveals that a company has limited unit growth potential and is dependent on several performance drivers that are high risk, then the valuation for the company should be different than the valuation for a company with high unit growth potential and low risk performance drivers.
Use Analytics to Reduce Risk During the Economic Recovery
Ultimately, a whitespace analysis is designed to reduce risk in investment decisions. As private equity firms seek opportunities to turn around struggling companies and invest in distressed assets, it will be critical to differentiate between brands that offer solid investment potential and those that do not.
Need help evaluating some of your potential investments? Learn more about our due diligence analysis services.