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Insights from Customer Research for Private Equity Investments

The due diligence period for a prospective investment is highly intensive for an investment team as they pore over company financials, engage in multiple rounds of discussions with the management team, peel the layers behind business model assumptions, scrutinize operations, and comb through legal documentation to identify any issues and gain comfort on moving ahead with the transaction. Amidst all the work, which is invariably conducted in a rather tight timeline, customer research doesn’t always surface to the top and is often conducted in a cursory manner, which undermines its usefulness.

At SeaLink Capital Partners (SCP), customer research is a crucial and non-negotiable due diligence component– one that is carefully conducted to identify areas of strength and future focus. Done correctly, we have found it to be very insightful in uncovering issues, validating hypotheses central to the investment thesis, and highlighting areas for value-creation and optimization going forward.

There are a few steps that we follow on all prospective investments to be able to gather and leverage insights and perspectives:

Step 1:Framing the hypothesis

At the outset, it is important to have a sample set of conversations with vendors, equipment suppliers, distributors, key customers, and industry veterans. These help develop the hypotheses for market demand, key factors for success,underlying challenges and opportunities along the value chain, and relative positioning and perceptions of competitors. These initial conversations serve as a litmus test for the investment.Importantly, they also highlight critical nuances for us to consider during the overall diligence process and while administering customer research.

For example, initial conversations during diligence of a cement manufacturer highlighted the importance of the mason as an influencer for purchases in smaller towns. As a result, a specific survey was developed to understand why masons preferred and recommended certain brands of cement over others.

Step 2:Identify the specific goals and objectives of the survey

Before writing a single survey question, identify the specific goal of the exercise. For instance, do you want to understand key factors that influence purchase behavior; identify the most desirable product design or service delivery features; determine relative name recognition of brands; gauge demand for new products or services; or assess price elasticity?

For instance, an example of a goal could be to “assess overall satisfaction levels with healthcare options in a certain area”. The objectives could then be to determine:

  • How satisfied are customers with the availability of healthcare in the area?
  • How satisfied are customers with the quality of healthcare options?
  • How satisfied are customers with the pricing?

Establishing objective sand prioritizing them is imperative.There can be a tendency to maximize data collection without specific objectives – we strongly caution against a “boiling the ocean” approach. A survey that is too lengthy can lead to survey exhaustion, lower response rates and produce randomized responses,which defeat the entire purpose.

Step 3:Design a survey which addresses the specific objectives that have been identified

Each question in the survey should serve a purpose towards addressing the objectives and should be worded carefully. Firstly, to remove any ambiguity or potential for misunderstanding. Secondly, to eliminate response bias which can lead to wrong insights. For instance, if you ask the question, “How expensive are the consultations at the healthcare center you visit?” the word “expensive” conjures up a certain assumption in the mind of the respondent. It is also ambiguous, as customers will have different barometers for“expensive”.

Asking respondents to force-rank various options helps identify what really matters to them. For example, while administering a survey to auto parts retailers, we asked them to rank the elements that were most important when selecting a distributor – accessibility of the distributor, margins offered, range of products, credit period, and reputation of the distributor. Most retailers valued accessibility above everything else. This helped shape a Sales Force Effectiveness strategy for the company to increase market share.

To gauge loyalty and the likelihood of retention and growth of the customer base, we use the Net Promoter Score (NPS), developed by Bain & Company, which is determined by one question – “What is the likelihood that you would recommend Company X to a friend or colleague?” Measured on a scale of 0 – 10, customers scoring a 9 or 10 are seen as promoters or loyal customers who may even recommend the company to others; while 0 – 6 are detractors, or unhappy customers, with high rates of churn who may also be vocal critics. The NPS is the percentage of promoters less the percentage of detractors. Bain analysis has shown that companies that achieve long-term profitable growth have an NPS twice as high as the average company. Combined with an open-ended question on the reason for the rating, the NPS provides useful feedback to address customer concerns.

Step 4:Implementation of the survey

Market research firms can administer the survey to a sizeable sample set that matches key criteria (e.g., target geography, demography, purchase history etc.). Proper selection of survey respondents is critical. They have to represent the relevant demographic and usage of the product/service. For instance, a survey of healthcare options should have respondents who have visited a doctor in the select geography in the last year.

Surveys can be conducted online or offline (e.g., phone, paper). Some surveys need to be translated into the local language. Ensure that the point of each question in the survey doesn’t get “lost in translation”. The length of the survey will influence response rate and mid-survey drop out rate (for surveys administered online), so you want to keep it as concise as possible. In our experience, if a survey is taking longer than 15 minutes to complete, the quality of responses towards the end of the survey begins to suffer.

Step 5:Analysis and information sharing

A robust analysis of survey results can help validate the investment thesis, identify areas for improvement and inform the basis for future marketing plans.

We always share the results of our customer research with the company and in every single instance, there are new insights gleaned by management. Rather importantly, it sends a strong message to the company that we, as investors, understand the dynamics and nuances of their marketplace and are keen to actively contribute towards gaining insights that can have an impact on market share, revenue and profitability.

For example, while running a survey on customers of a healthcare services firm, respondents were asked how much more they were willing to spend to avail the high quality of service that was being provided to them. The responses indicated that customers were happy to pay more, which was counter to the initial management hypothesis. This helped shape pricing strategy in the initial years, without any impact to customer satisfaction levels.

Step 6:Assess progress regularly

Customer research isn’t a one-time event. It is highly advisable to assess progress on aspects identified through the survey or other due diligence activities post investment. While initial survey results serve as a baseline, future surveys with a selective focus can help understand the impact of initiatives taken to improve customer experience, or highlight issues that are simmering. A continuous feedback loop through regular surveys (semi-annual or annual)can help companies identify actions to enhance consumer engagement and satisfaction.

Conclusion

Customer research is a key diligence exercise that can provide a winning edge to investors and portfolio companies alike. The research and interpretation of results can uncover nuances of purchase decisions, price elasticity, loyalty and likelihood of retention, which can be tied back to business strategy and areas of optimization. Asking the right set of questions and interpreting the data correctly can provide real insights that can make or break a deal and set the groundwork for a collaborative partnership.