Digital Supply Chain Concentration Risks Facing Private Equity and Their Portfolios

As private equity firms double down on sector-focused investment strategies, thanks to today’s reliance on expansive digital infrastructures, a cyber breach at one external vendor or service provider in this complex digital supply chain can have devastating effects on an entire portfolio.

PrecilCorp, a leading manufacturer of specialised industrial sensors and control systems, fell victim to a sophisticated ransomware assault by a state-sponsored Russian hacking group. The attack encrypted the company’ design files, production systems, and supply chain management software, bringing its operations to a grinding halt. Unable to produce its cutting-edge components, PrecilCorp was forced to cease all deliveries to its numerous clients in the advanced manufacturing sector.

Despite not being an investor in PrecilCorp, private equity firm Hudina Partners, with several of its portfolio companies in the advanced manufacturing space heavily relied on PrecilCorp’s sensors and control systems for their automated production lines. Aumolox Motor, PharmatoPrec Solutions, and AirSpacelex Dynamics – all part of Hudina’s portfolio – suddenly found themselves unable to maintain their highly automated manufacturing processes.

As production lines ground to a halt, the consequences quickly escalated. Aumolox Motor faced significant delays in its electric vehicle production, PharmatoPrec Solutions struggled to meet demand for its precision-engineered medical devices, and AirSpacelex Dynamics experienced critical setbacks in aircraft component manufacturing. The disruption not only affected current production but also threatened future contracts and market positions for these companies.

Hudina and its portfolio companies, caught off guard by the widespread impact of this single third-party breach, saw the value of its portfolio decline sharply. The firm faced tough questions from its investors about its due diligence processes and its failure to identify the common dependency of multiple portfolio companies on a single critical supplier such as PrecilCorp, while its portfolio companies faced regulatory and legal battles for their inappropriate third-party risk management efforts.
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The not so fictional reality of supply chain cyber attacks

While this scenario is fictional, similar supply chain attacks are occurring at an alarming frequency, and with increasingly wide-ranging impacts.

Just take the ION Trading breach in 2023. ION Trading Technologies is a provider of digital solutions for electronic trading, pricing and order management, including facilitating the settlement of exchange-traded derivatives, to some of the world’s largest banks, hedge funds and brokerage firms. It counts more than 100 financial services companies among its clients. When ION was hit by a ransomware attack in 2023, this forced its systems offline, resulting in financial institutions suddenly having to manually confirm trades, causing ripple effects and reporting delays across the sector.
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Sector specialisation and the heightened risk for private equity firms

This first type of concentration risk, i.e. systemic risk, is particularly pronounced for private equity firms with sector specialisations. While the strategy offers significant advantages, it also comes with added cyber security risks that could threaten a significant proportion of a firms’ portfolio at the same time in case of a cyber security breach.

This is because organisations in the same industry often have significantly overlapping supply chains, i.e. sharing several critical specialised suppliers that are not easy to replace or substitute in the event of an attack against them that would render them unable to continue to provide their services.

Moreover, this is only one type of concentration risk facing the complex ecosystem of relationships between private equity firms, their investors, portfolio companies and their respective supply chains.

We will be exploring concentration and supply chain cyber security risks facing private equity firms and their investors more directly during our upcoming webinar with The Line_, a go-to resource for private capital fund operational professionals powered by Alpha Group that will take place on 29th October.

For more information or to register for the webinar, please see here.

This article was originally published by The Line_.