What makes an SME a great private equity investment opportunity?

The term ‘Small and medium sized enterprises’ or ‘SMEs’ was apparently first coined in the Industrial Revolution, so it is notable that James Watt’s steam engine manufacturing business Boulton & Watt, established in the late eighteenth century in Birmingham, might have once been labelled one of the first SMEs. It is often said that SMEs are the backbone of the UK economy, but I prefer to think of them as the beating heart, providing much of the energy and vitality the UK economy needs. 

There are some 5.68m SMEs in this country – dwarfing the number of large corporations (8,335 in 2025).¹ It’s a bracket that spans start-ups and well-established companies, from lifestyle businesses or “mom-and-pop”-style operations to those run by entrepreneurs (or entrepreneurial management teams) with aspirations to expand, increase market share, innovate, and create value. 

Thriving with so much potential, SMEs can make excellent investment opportunities. Indeed, 9 out of 10 UK companies that received private investment last year were SMEs, according to UK Private Capital, the private equity and venture capital industry body.² So which are the ones that would benefit most from private equity investment – and which offer the most compelling prospects for investors? 

Investing in UK SMEs: Critical business characteristics 

Here at Connection Capital, we have been investing in UK SMEs, and helping them to grow, for more than 15 years. We’re not prescriptive about sector or age of company, although those offering a niche product or service do tend to perform strongly. 

What we are looking for, aside from companies making profits of a minimum £1m, is that both revenues and profitability are growing robustly, preferably in the double-digits – and certainly materially faster than GDP. That way, as well as demonstrating the existing strength of a business, there will be scope for topline sales growth and margin improvements to cover growing overheads, and to exploit economies of scale as the business expands.

But there’s so much more to it than that. While firm financial foundations are crucial, what we’re really interested in is the ability to add value by pulling whatever levers are available. What is most important to us is the management team, and whether they have what it takes to take their business to the next level. Without them, there is no business, and there will be no growth. They must be ambitious and entrepreneurial, with the drive to move their businesses forward.

In many cases, the main constraint faced by an SME is a lack of access to capital to expand capacity, develop new products or service lines, or extend geographic reach.  Ambitious management teams tend to respond well to the focus and support of a private equity investor, that can help to accelerate performance and make the business more attractive to its next owner.

Strong SME management teams must be capable of spotting good opportunities in their marketplace, be agile enough to move quickly to seize them, and must be in tune with their customers and ready to adjust course if necessary (and appropriate) to give them what they want.

That’s not to say that management teams we inherit have to be perfect. We expect they will recognise that experienced private equity investors can help fill gaps in their skills or knowledge to drive growth. But as long as there is solid leadership and a positive, pragmatic attitude, with plenty of potential to execute growth plans and develop the business, we can work with that.

In fact, that’s one of the value-adding levers we can pull. We aim to bring far more than money, working with our portfolio companies by providing strategic advice and guidance, and professionalising the business through supporting with critical senior hires, system improvements or enhanced governance.

This is where the real value of the Connection Capital client base comes to the fore.  We will nearly always have expertise across our network that can assist a business to achieve its ambitions and it is a frequent source of non-executive Chairs that we introduce to our portfolio companies.

Mid-market private equity: The importance of deal dynamics

If operational improvements and an upward growth trajectory can be described as the meat in the sandwich, then the structure of the deal itself, in terms of the entry and exit, are its bread and butter. A successful SME investment relies almost as much on what happens going into and coming out of the deal, as it does on what goes on during the investment term. 

Therefore, the interests of all shareholders (incoming investors and existing business owners) must be aligned at the outset, management teams should remain properly incentivised and upside potential for both should be maximised (while protecting investors against downside risk). One way to achieve the latter is by investing across the capital structure (including providing debt as well as equity). At exit, both investors and management should be rewarded for building the business with higher multiples on higher profits. This larger, stronger entity is now capable of taking on more debt, making it a highly attractive acquisition target for a wider universe of potential buyers.

There’s no one-size-fits-all when it comes to evaluating what makes a good SME investment opportunity.  For us, the primary characteristics are sound financials, clear growth and value creation prospects, and an energetic, motivated and capable management team ready to bring a bold vision to life. Investors also have an important role to play in that company’s success by providing constructive support alongside much-needed capital. 

At heart, small and medium-sized businesses are all about people, and finding the right fit between leadership and investors is the key to unlocking value from the wealth of opportunities SMEs have to offer. 

The dynamics of SME private equity investing are very different to those of investing in large-cap companies. At heart, small and medium-sized businesses are all about people, and finding the right fit between leadership and investors is the key to unlocking value from the wealth of opportunities SMEs have to offer. 

And what came of Boulton & Watt, our pioneering Industrial Revolution SME? In 1895, it was sold to W&T Avery, the manufacturers of the type of weighing machine used in today’s self-service checkouts at another Industrial Revolution SME, Sainsbury’s. At Connection Capital, we aspire to invest in SMEs with management teams who have the strategy and vision today to be spoken of similarly in 250 years!

Important note

Investments in private equity are high risk and speculative which means there is no guarantee of returns and investors should not invest unless they are prepared to lose all of their money. Past performance is not a reliable indicator of future performance. This type of investment is typically medium to long term and illiquid so can’t be easily accessed until the exit point. The investor may not be protected if something goes wrong.

Sources

1. Business population estimates for the UK and regions, Gov.uk (2025)
2. UK Private Capital Report on Investment Activity 2024, UK Private Capital (2025)