The midmarket is back in 2024. Refinitiv data shows that the average PE deal value is currently $65.9 million, the lowest since the financial crisis. Buyout activity for deal sizes under $1 billion has held up much stronger than in other areas of the market.

Moreover, nearly half of PE capital raised in Q1 2024 was for midmarket-focused funds. It’s safe to say, the midmarket is having a moment.

However, to land deals and drive value creation in this segment of buyouts, collaboration with talent at the portco level is key. The midmarket has unique human capital challenges that larger-cap buyouts do not face. 

According to Kyle Johnson, a managing director and the head of marketing at BluWave, a value creation and due diligence consultancy focused on midmarket PE, interest in human capital-based projects for value creation has more than doubled since Covid. 

“As we went through the Covid era… what we found was that human capital-initiated projects continued to be the number one most-requested type of project that BluWave supports our clients with, specifically on the value creation side,” he said.

On average, human capital made up 48.4% of all value creation projects requested by PE firms from BlueWave between Q1 2020 and Q2 2024. It beat out finance, technology, sales and marketing, operations, and strategy. Operations-related projects were the second-most requested type, at 14.2%.

Understanding midmarket portco execs

The effort to invest in human capital at the portco level is an important one — the friction between PE operator and portco executive often comes down to a lack of understanding. 

For example, Alix Partners’ 2024 PE Leadership Survey found that 26% of PE leaders and 11% of portco executives think a lack of strategy and vision is an obstacle to growth. Nearly half of PE executives chalk this up to leadership’s “lack of urgency and unfocused execution,” whereas portco executives reject this. They say the biggest cause is investors lacking operational expertise, with clashes in work style and lack of sufficient capital from PE firms also being two major concerns. 

Additionally, the survey found that 49% of PE leaders say their relationships with portcos are trusting, versus 38% of portcos — this discrepancy wouldn’t be too bad if it weren’t for the fact that 21% of portcos said the relationship was untrusting, versus just 8% of PE executives.

It’s important to understand the portco executive’s mindset — especially during the sale process, as it could tank the ship. The sale process is a stressful one for portco executives. According to the National Center for the Middle Market, in 2022, seven out of 10 owners said the sale process to PE was difficult to manage emotionally, with three in 10 saying it was extremely difficult. 

This could be because midmarket portco owners tend to be more concerned with the intangible aspects of a business. The report states that 76% of portco owners said it was an “extremely/very important consideration relative to the sale” to be able to stay involved with their company post-facto. Additionally, 53% of midmarket executives worried about family legacy, and 52% worried about maintaining their organization’s culture during the sale process. 

Pressure from both sides

It’s no wonder, then, that some midmarket companies are turning away from PE altogether.

“We would field those requests [from independent companies] when they came in, historically, through word of mouth… And as we saw an increasing demand for that, we said, ‘This is something that we should maybe be more intentional about going to market with,’” explained Johnson.

Johnson says BluWave has seen an uptick in independent businesses coming to the table, looking to get the operational expertise of private equity without having to bring in a third-party investor. 

“This is a lever that, from our perspective, independent companies can and absolutely should be pulling and leaning into,” he said. “There are so many levers and playbooks and things that private equity firms do that oftentimes these independent companies, either they don't have the experience or it's just not on their radar.”

Johnson says he sees a broad swath of non-PE clientele at BluWave, with independent midmarket firms in manufacturing, software, and healthcare sectors being key players.

It’s not just the portco side of things that demands attention to human capital — the pressure is coming from LPs, too. LPs care more and more about how private equity takes care of portco employees. Take this week, for example — the American Federation of Teachers publishing a bombshell report lambasting the GPs its member pension funds work with for its failure to follow proper labor laws.

As more LPs look to allocate to the midmarket space (according to the Rede Liquidity Index for 1H 2024, over half of allocators are looking to increase exposure to the midmarket and lower midmarket), it’s likely that even more attention will be paid to human capital in the sector moving forward.