Old lessons for private equity, new ones for traditional private and public companies
Trend by Eric Gustafson, Managing Director, and Ron Hind, Managing Director M&A Advisory Services
Looming defaults, severely-depressed valuations, over-leveraged acquisitions and a global credit crunch are just a few of the challenges facing private equity investors in the most uncertain economic market since the 1930s. No doubt, to weather the storm of this volatile economy, successful investors require a steady hand supported by seasoned executives that can maintain or create value within a private equity fund's company portfolio. Never has the need for successful leadership been greater.
" Over the past several years, private equity truly defined itself as an asset class deploying an unprecedented amount of capital. The lending environment allowed the [buying] frenzy to continue. Interest, for the most part, didn't wane despite skyrocketing valuations that, historically, would have been a show stopper. Today, many of these investors have to apply the same rigor, energy and focus to avoid default within their portfolio. Though disciplined investors began pulling back on capital deployment in the midst of lofty valuations, the violent collision of economic factors has shaken even the smartest investors," states Ron Hind, Cook Associates M&A Advisory Services (Cook M&A) Managing Director.
" The upside," Hind continues, "is private equity groups with dry powder and LP [limited-partner] credibility are at the forefront of a tremendous opportunity to create wealth. The number of solid, defensible target companies with sustainable margins, but broken balance sheets, will continue to grow. Investors who tend to be more ‘business builders' versus just financial engineers are staring at the cusp of an unbelievable opportunity. In terms of de-risking these situations, there has never been a higher premium placed on seasoned CEOs with deep industry expertise and the ability to communicate not just with equity investors, but lenders. These are chaotic times, but they're also times with the opportunity to create tremendous amounts of wealth. The ability to turn a business around in these types of economies is critical."
For the private equity investor, successful stewardship of portfolio companies requires strong leaders who have consistently outperformed within their industry. While management cannot predict or control the markets, they must exercise discipline and control of their businesses.
Hind discusses the key factors needed for successful leadership in this financial environment which include:
- experience in managing during an economic downturn,
- swift and effective decision-making capabilities; courage to adapt to bad decisions,
- aligned culture fit with both the portfolio company and private equity firm,
• disciplined cash management skills as companies deleverage
Experienced leadership
Hind explains, "Private equity has such low margin for error, which has always been true in a private equity environment, but today more than ever you must have [executives] who have done it before and who can do it again. It is simply the best way to de-risk your investment." Cook M&A linked Blackstone Private Equity Group with packaging veteran Colin J. Williams. Blackstone recruited Williams for the advisory board of Graham Packaging Holdings, acquired by Blackstone in June, 2008. Mr. Williams is a successful turn-around leader, an industry expert with years of experience.
According to Hind, Colin is a leader who can "look at distressed companies, understand how to value the businesses and understand what levers to pull, an understanding that only comes from 30 to 40 years of being in the industry. He can identify by talking to a line engineer because he has been an engineer in a packaging plant [and can identify] exactly what the problems are." Finding leaders with this type of breadth and depth in their respective industries is critical to turning around businesses in private equity portfolios.
Swift and effective decision makers
Eric Gustafson, a Managing Director of Cook Associates Executive Search, has extensive experience recruiting leaders for general management and C-level finance, marketing and sales roles. In addition to Fortune 1000 and private companies, he has recruited for the portfolio companies of many private equity firms such as Bain Capital, JW Childs, JP Morgan, Warburg Pincus, CSFB, and others.
For years in the private equity world and now in the traditional corporate environment, failure to make any decision is far worse than making the wrong one. External inputs to management, such as access to consultants, are down as they can't afford to retain them. Successful leaders must be multi-disciplined and have the courage to go ahead and make the decision with less information alongside higher stakes," states Gustafson.
Making swift decisions or modifying them if the initial decisions turn out to be wrong is characteristic of experienced leadership. Effective leaders must look at the probabilities of their business decisions, where every decision is taken with no less than 70 percent data, analyzed and assigned a probability of success or failure.
Assessing the two-tiered culture fit
Gustafson adeptly notes that integrating leadership into a private equity company requires a two-tiered culture fit. "In assessing a CEO's or CFO's fit into a portfolio company owned by a private equity firm, there is the operating company the person has to fit plus the relationship with the private equity group." An established private equity firm or portfolio company has a history of institutional knowledge and a clearly defined culture which may not be present in a seven-or-12 year old upstart firm formed during an up market. Successful executive search means doubling-down in assessing decision making skills.
Disciplined cash management skills as companies deleverage
Private equity reached historic levels of leverage in the last decade with banks financing a vast amount of debt. Survival of those highly-leveraged private equity funds will be difficult. "There are some [private equity] groups that we know who have an average leverage of three times of EBITDA (earnings before interest and taxes, depreciation and amortization). Those groups are in pretty good shape and are continuing to invest. There are other groups that we know that have a seven times EBITDA leverage and those companies are not terribly sustainable even with a great executive. The idea of having someone who does not understand that type of environment... or has not been through it before becomes a very difficult proposition for success," states Hind.
There is little room for mistakes in an increasingly competitive private equity environment. To minimize risk on private equity investments, leaders of portfolio companies must have experience managing during recessions; be swift and effective decision makers; fit with both the portfolio company and private equity firm culture; and exercise disciplined cash management as companies de-leverage. Executives with these characteristics should not only insure their portfolio companies survive this economic storm, but they also will create strong businesses able to seize new opportunities and poised to take advantage of a calmer, perhaps sunnier economy.
Gustafson summarizes, "What Ron and I have seen in private equity has taken root in traditional private and public companies. The level of interest by these companies has expanded in recruitment of executives, regardless of the position and function, who bring the private-equity-like decision making characteristics and aptitude to manage through cash-constrained business conditions. In the opinion of those of us who've been recruiting this talent for years, the demand for these individuals, and accurately assessing them, is here to stay."
Cook Associates, Inc., is a retained Executive Search and M&A Advisory Services firm. Our core business is creating value at the intersection where talent and opportunity connect, and we are uniquely positioned to help our clients capitalize on the brightest talent and best performing companies in the marketplace. Out client base ranges from multinational corporations to early stage entrepreneurial companies, private equity and venture capital firms. Brand name clients include American Express, The Blackstone Group, Dover Corporation, GTCR, Heinz, Juniper Networking, Levis Strauss & Co., Pitney Bowes, and Sirius Satellite Radio. For additional information, please, visit www.cookassociates.com.
Eric Gustafson is a Managing Director within the Cook Associates, Inc. Executive Search division. A member of the Consumer & Retail, Industrial and Technology practices, he has nearly twenty years of retained senior management search experience including as Senior Partner/Managing Director and practice leader in the New York City and Stamford, Connecticut offices of Korn/Ferry International. Eric can be reached at 203.604.6809 or via email at egustafson@cookassociates.com.
Ron Hind is a Managing Director with Cook M&A and is responsible for executing CEOVisions® projects. With a decade of experience identifying and recruiting senior talent, Ron brings strategic assessment capabilities to these assignments. He has a solid understanding of the professional and personal qualities of interest to private equity groups, and has established himself as a trusted advisor to CEO-caliber executives who are exploring the private equity community and seeking to validate their corporate vision. He can be reached at rhind@cookassociates.com.