A market study is not strategic due diligence

This one will be a short post, as I’ll simply take another quick stab at the popular yet erroneous notion that strategic due diligence is a synonym for “market study”.

A typical market study will provide you with high-level trends and forecasts regarding the demand side of a given sector. While this provides you with useful contextual information about an industry,  it provides you with nowhere near the decisional intelligence you need to assess the competitive positioning, capabilities and strategic outlook of a specific target company.

If you understand that investing in ETFs (exchange-traded funds) and investing in actual securities are two very different activities, then you already have a good intuitive grasp of what strategic due diligence aims to do: it aims to discriminate between players in a given industry.

The whole rationale of an ETF is to allow the investor to bet on the outlook of a given industry without having concentrated exposure to a specific company. The ETF investor takes a market risk, not a company risk. On the other hand, the individual stock picker goes beyond market risk and specifically takes a company-level risk, with the implicit assumption that his chosen stock will outperform peers in the same market. The decision-making methodologies have to be quite different.

In this regard, private equity investors are stockpickers (with the added component that they usually have significant influence on portfolio companies’ strategies). Furthermore, their typical deal size and the resulting portfolio concentration often makes them poorly-diversified stockpickers. It is therefore crucial for them to use the specialized set of tools and techniques to discriminate between players in a given sector. This is what strategic due diligence is all about. These are the very practices this blog aims to document, discuss and share. Hope you enjoy reading!