The more successful private equity becomes, the more scrutiny it attracts. In November 2006, the United Kingdom’s Financial Services Authority warned of the growing risk to the industry as private equity firms set their sights on ever bigger targets, in the process taking on ever higher debt. Elsewhere, the high fees and dividends that some firms are extracting within months of closing deals suggest that the clubby industry may have entered a period of excess. Some firms may well find that they have bitten off more than they can chew. But it would be wrong to assume that the challenge private equity firms pose to the public equity model is about to ease.

True, McKinsey research shows that three-quarters of private equity firms perform no better than the stock market over time. Even so, the top 25 percent of private equity firms do outperform the relevant stock market indexes. Moreover, they do so by a considerable margin—and persistently.

More important still is the source of their success. Top performance does not, as many imagine, come from unusual financial acumen. In our observation of private-sector deals worth more than $100 million, very few of the successes came about because firms paid...