Private Equity Middle Market: Careers, Recruiting, Firms, Deal Size

Middle market private equity can be a difficult topic to discuss, as people find it difficult to classify what the term “middle market” actually means.

Some people assume that it refers to the amount of capital that a private equity (PE) firm raises. Other people assume that it refers to the average deal size of the private equity firm or even the type of portfolio companies it invests in.

In this guide, I’ll be discussing all of the factors that make middle market private equity unique and worthy of its own designation.

What Is Middle Market Private Equity?

Definition

When defining middle market private equity, I generally believe it’s best to define it based on the average deal size of a private equity firm. This makes everything slightly less confusing, as the other factors can have confounding variables.

So, there’s no exact cutoff, but a good definition for middle market private equity would be firms that acquire companies valued between $50 million and $500 million. These firms mainly focus on operational and growth improvements, but do also use leverage in deals.

Firms take on a lot of debt to finance their investments in middle market companies, and they generate returns through debt pay down.

Common characteristics

While overall deal target size is the best metric to classify a middle market deal, there are many more characteristics that can help us to do even better, such as:

Recruitment

Middle market private equity firms are somewhat less competitive to secure a position compared to mega funds. If you don’t have experience at an elite boutique bank or bulge bracket bank, you could still land a role at a middle market private equity firm.

Types of deals

Middle market firms make use of leverage in deals, but they make use of other return sources as well. These alternative return sources include margin expansion, bolt-on acquisitions, as well as revenue growth from new product lines and new markets.

Types of portfolio companies

Private equity investors at middle market companies generally choose to invest in smaller family businesses and privately-owned companies. This is because these are the most prevalent companies when the deal size is below $500 million. It’s relatively rare for companies of this size to already be publicly traded.

Location

This isn’t a strict requirement, but I find many of the portfolio companies acquired by middle market private equity firms aren’t too far away from the main headquarters of the firm. An example would be a middle market firm in San Diego only focusing on deals in California.

Private Equity Middle Market Categories

To better understand the middle market in private equity, let’s break it down into its distinct segments: Lower Middle Market (LMM), Core Middle Market (CMM), and Upper Middle Market (UMM).

1. Lower Middle Market (LMM)

Generally, folks would agree that Lower Middle Market firms usually invest in companies with an equity value between $10 and $100 million.

Plus, private equity firms in the lower middle market mostly generate value through multiple expansion and growth, rather than through leverage. This is because lower middle market firms struggle to finance their deals with debt due to their small size. When a company is smaller, lenders view them as more risky to lend to.

It’s common for middle market firms to focus on software private equity as these software targets have strong business models, are relatively easy to grow, and are more “financeable” by banks.

This segment is characterized by its high growth potential but also higher risk, as these companies often require significant operational improvements or strategic redirection. Investors in LMM often focus on:

• Multiple Expansion: Investors seek to improve the company’s valuation multiples by enhancing operations, improving profitability, or expanding market share.
• Growth Capital: These deals frequently involve infusions of growth capital to support new product launches, market expansion, or other strategic initiatives.
• Niche Markets: LMM firms may target highly specialized industries or geographies, where competition is less intense and the potential for value creation is high.

2. Core Middle Market (CMM)

The Core Middle Market typically includes companies with enterprise values between $100 million and $500 million. These firms are often at a critical inflection point, ready for significant expansion or a strategic shift. Investors in this segment might pursue:

• Operational Enhancements: Focused on streamlining operations, enhancing efficiencies, and scaling the business to prepare for entry into the Upper Middle Market.
• Bolt-on Acquisitions: Strategic add-on acquisitions are common, enabling firms to quickly scale or enter new markets.
• Diversification: CMM companies often have established business models and are looking to diversify product lines, enter new geographies, or acquire complementary businesses.

3. Upper Middle Market (UMM)

Once again, there’s no solid definition for upper middle market private equity firms. However, the industry at large generally agrees an upper middle market company usually invests in companies with equity valuations ranging from $500 million to $1 billion. These companies are often more established, with diversified revenue streams and robust operational structures. Investment strategies in UMM include:

• Leverage Buyouts (LBOs): Leveraging significant debt to acquire these firms, with the goal of restructuring and driving operational improvements for a future sale or public offering.
• Strategic Growth Initiatives: UMM firms typically focus on strategic growth, such as expanding into international markets or launching new high-margin products.
• Exit Planning: For many UMM companies, the investment strategy may include positioning the company for a sale to a larger private equity firm, a strategic acquirer, or even preparing for an IPO.

Comparative Overview of Private Equity Market Segments

Here’s a quick overview highlighting the key differences in key areas of the private equity middle market segments – Lower Middle Market (LMM), Core Middle Market (CMM), and Upper Middle Market (UMM):

• Deal Size:
  • LMM: $10 million to $100 million
  • CMM: $100 million to $500 million
  • UMM: $500 million to $1 billion
• Financing Structures:
  • LMM: Higher equity proportion, limited access to debt
  • CMM: Balanced equity and debt mix, greater lender comfort
  • UMM: Complex structures with significant leverage, common use of LBOs
• Growth Strategies:
  • LMM: Focus on multiple expansion, operational improvements, and scaling
  • CMM: Emphasis on bolt-on acquisitions, strategic partnerships, and diversification
  • UMM: Strategic growth initiatives and exit preparation, including potential IPOs

Middle Market Private Equity Investment Process

In middle market private equity, the investment process typically involves four key stages: deal sourcing, due diligence, valuation, and deal structuring. Understanding these stages in detail can give you insights into how middle market firms operate and make investment decisions.

1. Deal Sourcing

Deal sourcing is the first step in the investment process, where private equity firms identify potential investment opportunities. In the middle market, deal sourcing often involves:

• Networking: Building relationships with intermediaries such as investment bankers, business brokers, and industry experts who can provide leads on potential deals.
• Proprietary Deals: Some middle market firms focus on proprietary deals, where they approach companies directly without the involvement of a broker. This can lead to better pricing and more favorable deal terms.
• Industry Focus: Many middle market firms specialize in specific industries, allowing them to leverage deep industry knowledge to identify and pursue attractive targets.

2. Due Diligence

Once a potential target is identified, the firm conducts fund due diligence to thoroughly assess the investment’s risks and opportunities. In the middle market, due diligence is particularly crucial due to the variability and complexity of smaller companies. Key areas of focus include:

• Financial Analysis: Reviewing historical financial statements, assessing revenue streams, and evaluating profitability to ensure the company is financially sound.
• Operational Review: Understanding PE company operations, including supply chain, production processes, and management team effectiveness.
• Market Positioning: Analyzing the company’s competitive position within its industry and potential for growth.
• Legal and Regulatory Compliance: Ensuring the company complies with all relevant laws and regulations, and identifying any potential legal risks.

3. Valuation

Valuation is the process of determining the fair market value of the company. In the middle market, valuations are often more complex due to the lack of readily available market data. Common company valuation methods include:

• Comparable Company Analysis (CCA): Comparing the target company to similar publicly traded companies or recent transactions in the same industry.
• Discounted Cash Flow (DCF) Analysis: Projecting the company’s future cash flows and discounting them to present value using an appropriate discount rate.
• Precedent Transactions: Reviewing prices paid for similar companies in previous transactions to establish a valuation benchmark.

4. Deal Structuring

The final stage in the investment process is deal structuring, where the terms of the investment are negotiated and finalized. This includes:

• Equity and Debt Mix: Deciding how much of the purchase price will be financed with equity versus debt. Middle market deals often involve a higher proportion of debt relative to equity.
• Ownership Stakes: Determining the ownership percentage that the PE firm and the existing management team will hold post-investment.
• Contingencies and Earnouts: Including clauses that tie a portion of the purchase price to the future performance of the company, which can mitigate risk for the investor.

Private Equity Middle Market Investment Strategies

Middle market private equity firms often employ specialized investment strategies tailored to the unique opportunities and challenges of this segment. These strategies are distinct from those used in larger or smaller market segments, focusing on creating value through operational improvements, strategic acquisitions, and targeted industry plays. Here are some of the most common strategies:

1. “Buy Small, Sell Large”

One of the hallmark strategies in middle market private equity is the “buy small, sell large” approach. This involves acquiring smaller companies with high growth potential, improving their operations, and scaling them to a size where they can be sold at a significantly higher valuation. This strategy leverages the agility of smaller companies to make quick operational changes and capture new market opportunities. Once these companies reach a critical mass, they are sold to larger firms or taken public, often yielding substantial returns.

Example: A middle market firm might acquire a regional healthcare provider, streamline its operations, expand its service offerings, and then sell it to a larger healthcare network or a private equity firm focused on the upper middle market.

2. Bolt-On Acquisitions

Bolt-on acquisitions are another common strategy where a middle market firm acquires smaller, complementary businesses to enhance the value of an existing portfolio company. This strategy is particularly effective in fragmented industries where consolidation can lead to significant market share gains and operational synergies.

Example: A private equity firm with a middle market manufacturing company in its portfolio might acquire smaller suppliers or distributors to vertically integrate the business, reduce costs, and expand its customer base.

3. Niche Industry Focus

Middle market private equity firms often focus on niche industries such as software, healthcare, or specialized manufacturing. These sectors are attractive due to their growth potential, strong margins, and relatively low competition from larger PE firms. By concentrating on a specific industry, firms can develop deep expertise, allowing them to identify undervalued companies and implement industry-specific growth strategies.

Example: A middle market firm specializing in software might target companies developing niche enterprise solutions, helping them scale through new product development and market expansion, eventually positioning them for a strategic sale or merger.

4. Strategic Growth Initiatives

Unlike larger firms that might focus on financial engineering, middle market firms often prioritize strategic growth initiatives. This can include entering new markets, launching new products, or implementing operational improvements to drive organic growth. These strategies are tailored to the specific needs of middle market companies, which often require hands-on management and strategic guidance to unlock their full potential.

Example: A private equity firm might invest in a mid-sized consumer goods company with strong regional sales, helping it expand nationally by optimizing its supply chain, improving marketing efforts, and enhancing its distribution network.

5. Operational Turnarounds

In some cases, middle market firms specialize in operational turnarounds, where they acquire underperforming companies with the aim of restructuring and revitalizing them. This strategy involves making significant changes to management, operations, and business strategy to return the company to profitability. These firms often target companies with solid underlying assets but operational inefficiencies or strategic missteps.

Example: A private equity firm might acquire a struggling manufacturing company, replace its management team, optimize production processes, and implement a new sales strategy to restore profitability and increase its market value.

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Private Equity Middle Market Exit Strategies

Exit strategies are a critical component of the investment lifecycle of the private equity middle market.The choice and execution of exit strategies determine the returns for investors and the success of the firm’s overall investment strategy.

Here’s a closer look at the most common exit routes and how they differ from those used in other segments of private equity.

1. Strategic M&A Sales

One of the most prevalent exit strategies in the private equity middle market is the strategic sale. This involves selling the portfolio company to a strategic buyer—typically a larger company within the same industry looking to expand its market share, product offerings, or geographic reach. Strategic buyers often pay a premium for synergies, making this a highly attractive exit option for private equity middle market firms.

Key Differences: In the middle market, strategic sales are often driven by the need of larger firms to acquire innovative products or enter niche markets quickly. In contrast, in larger market segments, strategic sales may focus more on consolidating market position or acquiring large-scale operational capabilities.

2. Secondary Buyouts

Another common exit strategy is the secondary buyout, where one private equity firm sells its stake in a company to another private equity firm. This strategy is particularly relevant in the middle market, where companies may require further growth capital or operational expertise that the new PE firm can provide.

Key Differences: Secondary buyouts in the middle market often focus on companies that are not yet ready for a public offering or strategic sale but have outgrown their current ownership. In contrast, in larger market segments, secondary buyouts may involve more complex financial engineering and larger-scale restructuring.

3. Initial Public Offerings (IPOs)

Although less common in the middle market compared to large-cap private equity, IPOs are still a viable exit strategy. Middle market firms typically consider an IPO when a company has achieved significant growth, market leadership, and financial stability, making it attractive to public market investors.

Key Differences: In the middle market, IPOs may be pursued for companies with strong growth stories and market differentiation, often within niche industries. In larger segments, IPOs are more frequently used for well-established companies with substantial revenue streams and broader market appeal.

4. Recapitalizations

Recapitalizations involve restructuring the company’s debt and equity mix, often returning capital to investors while retaining ownership stake. This strategy allows private equity middle market firms to realize some returns while continuing to benefit from future growth.

Key Differences: In the middle market, recapitalizations are often used to de-risk investments while maintaining upside potential, particularly in companies with steady cash flows. Larger market firms may use recapitalizations as part of a broader financial restructuring strategy, often involving complex financial instruments.

Top Middle Market Private Equity Firms

Some of the top middle market private equity firms include:

L Catterton

L Catterton has been around since 1989 and has made 250+ investments in growing middle market businesses and high-growth enterprises.

Court Square

Court Square has one of the most experienced teams in the entire private equity industry, and the fact they have completed 240+ investments bolsters this claim.

Wellspring Capital Management

Wellspring Capital Management specializes in middle market private equity. The company seeks to create value in every portfolio company it invests in by providing ongoing strategic, financial, and operational support.

Alpine Investors

Alpine Investors is a prolific middle market private equity firm, having made 300+ investments in its 20+ year tenure. The firm focuses mainly on middle market companies in the software, business services, and consumer services sectors. It operates and has locations in Australia, Europe, Canada, and the US.

JMI Equity

JMI Equity differs from the other private equity firms listed here, as it invests in both lower middle market companies and run-of-the-mill middle market companies. This is because its investments normally range from $20 million to $200 million. Founded in 1992, JMI focuses primarily on investing in software or growth companies.

Altamont Capital Partners

Altamont Capital Partners is a private equity firm that invests in middle market businesses. It primarily invests in companies going through operational or strategic transitions. This is because Altamont is excellent at helping companies get through these changes.

Lovell Minnick Partners

Lovell Minnick Partners focuses heavily on partnering with growth-oriented companies. Its goal is to help middle market business owners scale their companies at an accelerated pace through investment. It has invested in over 50+ companies.

Why Work In Middle Market Private Equity?

You might be wondering why you should consider working for a middle market private equity firm, instead of a mega fund private equity firm.

Below, I will provide you with some advantages and disadvantages of middle market companies.

Advantages

Hours

Working for large private equity firms can be daunting, as you will sometimes end up working between 80+ hours per week. This will depend on your level within the firm and how busy the week is, but these hours are not uncommon if you are managing a huge private equity fund.

Your working hours will generally be more forgiving at a middle market firm, as you’ll be dealing with fewer, smaller portfolio companies. That said, you should still expect to work quite hard.

Less Hierarchy

Middle market PE firms tend to have much less of a hierarchy and will allow you to have more influence over a portfolio company and your deals from a young age. This can provide private equity investors with more experience.

Growth potential

Moving up the ladder in a middle market firm tends to be easier than in a mega fund firm. You can usually progress along the private equity career path within a few years if you put your head down and work hard, as there’s more loyalty to reward employers within smaller firms.

Disadvantages

Pay

Unfortunately, if you choose to work at a middle market firm, you won’t earn as much as associates working at mega fund firms. You could earn between 20 and 50% less than someone in the same position as you at a mega fund firm. However, this will ultimately depend on the size of your firm’s fund and its performance. Learn more about carry in private equity.

Reputation & exit options

Firms in the middle market sector aren’t as well known as mega fund firms, so it might be more difficult to find a job at a larger private equity firm further down the line.

Generally, it’s more possible to “trade down” from a large firm to a smaller one, rather than vice versa.

Deal types

In general, the complexity of deals is lower in the middle market because you can’t layer on as much debt or other crazy capital structures. Therefore, the deals tend to take on simpler structures.

Some people may consider this to be a benefit if they don’t like the technical part of the job. However, having less experience in these matters may be one consideration if you’d like to move to a larger firm one day.

How To Get Into Middle Market Private Equity?

Trying to land a middle market PE job is very similar to trying to get any other private equity job. You’ll need a degree from an excellent university, amazing grades, and typically some experience working in either investment banking or management consulting.

Many firms still use private equity headhunting firms, so you may interact with headhunters or apply directly for a position. Middle market firms tend to avoid “on-cycle” recruiting and will only hire when a position needs to be filled.

Even in middle market firms, positions are extremely competitive and you’ll need to prepare for a rigorous interviewing process. You will often be given case studies that you’ll need to take home to work on.

Check out my series on how to get into private equity.

FAQs

What deal sizes do lower middle market private equity companies work with?

Lower middle market companies usually invest in companies with equity valuations ranging from $10 million to $100 million.

Why is the private equity industry focusing on the middle market?

The middle market is so hot right now because there is a lot of money to be made in the sector. These less mature companies are easier to enhance and can provide an excellent return on investment. Also, new managers who raise first time funds typically target the middle market since they can’t raise a large enough fund to target larger companies in their first fund.