Lower middle-market private equity firms like VSS Capital Partners are navigating a higher deal valuation environment through a combination of sound deal sourcing and strategic entry points in target company capital structures. “There’s no question we’re dealing with a frothy environment that’s likely to persist for some time,” VSS Jeffrey Stevenson tells us. “We address that in a few different ways.”

A record influx of capital to private equity and new fundraises is having some effect, even in the $2 million to $20 million in target company Ebitda range that VSS plays in.

“There’s still pricing pressure but less than at the higher end of the middle market,” Stevenson acknowledges. “Also, our strategy at VSS isn’t to bid the highest price for a change of control. We’re a structured capital provider for entrepreneurial companies looking for growth capital at an inflection point.”

Targeting entrepreneurs seeking their first institutional capital, VSS’ pitch to use less leverage and take minority stakes further insulates the firm from soaring valuations.

Recent market turbulence has stoked fears that private markets could be in for the mark down that public markets have been notching so far this year. But so far, the middle-market PE business model is somewhat volatility-proof. “What happens in the IPO market doesn’t directly affect us–maybe indirectly and slightly from a valuation point of view,” Stevenson says. “By the same token, the debt markets don’t have much of an impact on us because we’re not participating in the syndicated debt markets and don’t employ as much leverage as a typical leveraged loan transaction.”

Plus, recent public market volatility is a potential boon for lower middle-market buyers in the long run. Should private assets eventually get marked down as selloffs continue in technology and other sectors, small private equity firms’ value proposition becomes more attractive. Entrepreneurs get access to equity and debt capital while retaining control, and VSS gets potentially more reasonable valuations.

Brandon Zero