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- Herausgeber: John Wiley & Sons
- Kategorie: Fachliteratur
- Sprache: Englisch
Establishing an effective partnership and achieving improved outcomes for investors and management teams during the hold cycle Private equity represents a productive and fast-growing asset class--building businesses, creating jobs, and providing unlimited opportunity for investors and management teams alike, particularly if they know how to work together in candid and effective partnerships. Restructuring the Hold demonstrates how investors and managers can best work together to optimize company performance and the associated rewards and opportunities for everyone, not just the investors. Through brief references to the parable of the Gramm Company, a middle market portfolio company, readers will follow the disappointments and triumphs of a management team experiencing their first hold period under private equity ownership, from the day they get purchased through the day they get sold. Restructuring the Hold provides the reader both general knowledge and more detailed better practices and frameworks relating to specific time periods during the hold. Within this book readers will find: * An examination of a typical middle-market private equity hold period * Guidance for newly acquired management teams on what to expect during the hold period * Descriptions of better practice operating cadence between investors and management teams * Examples of effective partnerships between investors and management teams * Discussions of topics relevant to typical hold periods, including organizational structures, operations improvement, selling pipelines and acquisition integrations With guidance from Restructuring the Hold, private equity principals and portfolio company executives can take steps toward greater collaboration and better outcomes. Through updated practices and strong relationships, they can partner effectively to improve portfolio company performance, which will lead to better outcomes for both investors and management teams.
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Veröffentlichungsjahr: 2020
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Table of Contents
Cover
Title Page
Copyright
Dedication
List of Figures
Foreword
Preface
About the Authors
Acknowledgments
Introduction
Core Audience
Organization of the Book
Chapter 1: Private Equity
The Asset Class
The Middle‐Market
The Investment Cycle
The Motivation
Chapter 2: New Ownership
The Ideal Partnership
Anticipating Management Sentiment
Key Investment Period Roles
Operating Partner Involvement
Core Values
Chapter 3: Month 1: Consternation
Onboarding Together
Confirming Portco Leadership
Teaming Authentically
Overcoming Resistance
Chapter 4: Month 2: This Might Be Okay
Baselining the Investment Period
Reporting Monthly Financials
Starting with Momentum
Identifying Value Sources
Chapter 5: Month 3: Guarded Enthusiasm
Generating and Aggregating Ideas
Evaluating and Prioritizing Opportunities
Profiling and Planning Initiatives
Suspending Strategic Planning Formalities
Finalizing the Value Creation Plan
Chapter 6: Quarter 2: A Bit Overwhelmed
Ensuring Leadership Coverage
Organizing the Value Creation Team
Managing the Value Creation Program
Targeting, Tracking, and Triaging Value Creation
Chapter 7: Quarter 3: Gaining Momentum
Managing with Performance Indicators
Standardizing Operating Cadence
Incorporating the Board of Directors
Overcoming Bumps in the Road
Chapter 8: Quarter 4: Ringing the Bell
Confirming VCP Results
Rewarding Success
Planning Strategy Pragmatically
Integrating Plans and Budgets
Investment Period Outputs
Chapter 9: Year 2: Improving Infrastructure
Organizing Effectively
Operating Efficiently
Sourcing Strategically and Spending Economically
Financing Internally
Chapter 10: Year 3: Expanding Beyond
Optimizing Profitability
Pricing Intelligently
Pipelining Systematically
Integrating Pragmatically
Chapter 11: Year X: The Exit
Exit Timing
The Exit Process
Exit Preparation
Enjoying the Rewards
Chapter 12: Conclusion
References
Index
End User License Agreement
List of Illustrations
Chapter 1
Figure 1.1 Private Equity Participants
Figure 1.2 Progression Through Multiple Investment Periods
Figure 1.3 Investment Cycle Overview
Figure 1.4 Investment Period Economics
Figure 1.5 Value Creation by Source
Chapter 2
Figure 2.1 PEG/Portco Partnership Types
Figure 2.2 First‐Year Management Sentiment
Figure 2.3 Private Equity Investing and Operating Responsibilities
Figure 2.4 Operating Partner Involvement over Time
Chapter 3
Figure 3.1 First‐Month Onboarding Calendar
Figure 3.2 Performance Evaluation Models
Figure 3.3 Effective Teaming Attributes
Figure 3.4 Change Management Phases and Components
Chapter 4
Figure 4.1 Baseline Information Starting an Investment Period
Figure 4.2 High‐Level Monthly Financial Reporting
Figure 4.3 Outcome Scenarios Based on Initial Momentum
Figure 4.4 Value Creation Sources
Figure 4.5 Relative P&L Impact by Source
Chapter 5
Figure 5.1 Progressing from Opportunities to Initiatives
Figure 5.2 Multifactor Decision‐Making
Figure 5.3 Initiative Profile
Figure 5.4 Traditional versus Pragmatic Strategic Planning
Figure 5.5 Value Creation Program Summary
Chapter 6
Figure 6.1 Leadership Coverage Matrix
Figure 6.2 Value Creation Program Team Structure
Figure 6.3 Program Management Levels
Figure 6.4 Value Creation Program Tracking
Chapter 7
Figure 7.1 Key Performance Indicators (KPIs)
Figure 7.2 Weekly Signal Report
Figure 7.3 Operating Cadence
Figure 7.4 Quarterly Board Meeting Plan
Figure 7.5 PEG Actions During Deteriorating Performance
Chapter 8
Figure 8.1 Confirming Value Creation Program Results
Figure 8.2 Incentive Compensation Models
Figure 8.3 Strategic Planning Tools.
Figure 8.4 Incorporating Changes into Budgets
Figure 8.5 Continuous Performance Cycle
Chapter 9
Figure 9.1 Organizational Structure Improvement
Figure 9.2 Operational Improvement
Figure 9.3 Strategic Sourcing Improvement
Figure 9.4 Working Capital Improvement
Chapter 10
Figure 10.1 Customer Portfolio Optimization
Figure 10.2 Price‐to‐Margin Waterfall
Figure 10.3 Sales Funnel, Pipeline, and New Baseline Additions
Figure 10.4 Acquisition Integration by Function
Chapter 11
Figure 11.1 Portfolio Company Sale Process
Figure 11.2 Investment Period Accomplishments Timeline
Figure 11.3 Management Proceeds
Guide
Cover
Table of Contents
Begin Reading
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Restructuring the Hold
Optimizing Private Equity and Portfolio Company Partnerships
Thomas C. Anderson
Mark G. Habner
Copyright © 2021 by Thomas C. Anderson and Mark G. Habner. All rights reserved.
Published by John Wiley & Sons, Inc., Hoboken, New Jersey.
Published simultaneously in Canada.
No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, scanning, or otherwise, except as permitted under Section 107 or 108 of the 1976 United States Copyright Act, without either the prior written permission of the Publisher, or authorization through payment of the appropriate per‐copy fee to the Copyright Clearance Center, Inc., 222 Rosewood Drive, Danvers, MA 01923, (978) 750‐8400, fax (978) 646‐8600, or on the Web at www.copyright.com. Requests to the Publisher for permission should be addressed to the Permissions Department, John Wiley & Sons, Inc., 111 River Street, Hoboken, NJ 07030, (201) 748‐6011, fax (201) 748‐6008, or online at www.wiley.com/go/permissions.
Limit of Liability/Disclaimer of Warranty: While the publisher and author have used their best efforts in preparing this book, they make no representations or warranties with respect to the accuracy or completeness of the contents of this book and specifically disclaim any implied warranties of merchantability or fitness for a particular purpose. No warranty may be created or extended by sales representatives or written sales materials. The advice and strategies contained herein may not be suitable for your situation. You should consult with a professional where appropriate. Neither the publisher nor author shall be liable for any loss of profit or any other commercial damages, including but not limited to special, incidental, consequential, or other damages.
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Library of Congress Cataloging-in-Publication Data
Names: Anderson, Thomas C., author. | Habner, Mark G., author.
Title: Restructuring the hold : optimizing private equity and portfolio company partnerships / Thomas C. Anderson & Mark G. Habner.
Description: Hoboken, New Jersey : Wiley, [2021] | Includes index.
Identifiers: LCCN 2020027480 (print) | LCCN 2020027481 (ebook) | ISBN 9781119635185 (hardback) | ISBN 9781119635215 (adobe pdf) | ISBN 9781119635208 (epub)
Subjects: LCSH: Private equity. | Mutual funds.
Classification: LCC HG4751 .A56 2021 (print) | LCC HG4751 (ebook) | DDC 332.6—dc23
LC record available at https://lccn.loc.gov/2020027480
LC ebook record available at https://lccn.loc.gov/2020027481
Cover Design: Wiley
Cover Images: © William Dodge Stevens/Alamy Stock Photo, © binkski/Getty Images
Author Photos: © Jovanka Novakovic
This book is dedicated to our families.
To my wife, Jean, whom I've loved since our high school days; and to our children, Benjamin, Caroline, Elizabeth, Catherine, and Samuel. Thank you for your unceasing love and support. I'd be remiss if I didn't mention Bear our black Labrador and constant family companion. – Tom
To my lovely wife, Pamela; my beautiful twin boys, Colin and Ryan; and my parents, Jill and Wayne. Like many of us, my family has been an integral component to every accomplishment I've been fortunate to achieve and supportive in every failure I have accepted. – Mark
List of Figures
Figure 1.1 Private Equity Participants
Figure 1.2 Progression Through Multiple Investment Periods
Figure 1.3 Investment Cycle Overview
Figure 1.4 Investment Period Economics
Figure 1.5 Value Creation by Source
Figure 2.1 PEG/Portco Partnership Types
Figure 2.2 First‐Year Management Sentiment
Figure 2.3 Private Equity Investing and Operating Responsibilities
Figure 2.4 Operating Partner Involvement over Time
Figure 3.1 First‐Month Onboarding Calendar
Figure 3.2 Performance Evaluation Models
Figure 3.3 Effective Teaming Attributes
Figure 3.4 Change Management Phases and Components
Figure 4.1 Baseline Information Starting an Investment Period
Figure 4.2 High‐Level Monthly Financial Reporting
Figure 4.3 Outcome Scenarios Based on Initial Momentum
Figure 4.4 Value Creation Sources
Figure 4.5 Relative P&L Impact by Source
Figure 5.1 Progressing from Opportunities to Initiatives
Figure 5.2 Multifactor Decision‐Making
Figure 5.3 Initiative Profile
Figure 5.4 Traditional versus Pragmatic Strategic Planning
Figure 5.5 Value Creation Program Summary
Figure 6.1 Leadership Coverage Matrix
Figure 6.2 Value Creation Program Team Structure
Figure 6.3 Program Management Levels
Figure 6.4 Value Creation Program Tracking
Figure 7.1 Key Performance Indicators (KPIs)
Figure 7.2 Weekly Signal Report
Figure 7.3 Operating Cadence
Figure 7.4 Quarterly Board Meeting Plan
Figure 7.5 PEG Actions During Deteriorating Performance
Figure 8.1 Confirming Value Creation Program Results
Figure 8.2 Incentive Compensation Models
Figure 8.3 Strategic Planning Tools.
Figure 8.4 Incorporating Changes into Budgets
Figure 8.5 Continuous Performance Cycle
Figure 9.1 Organizational Structure Improvement
Figure 9.2 Operational Improvement
Figure 9.3 Strategic Sourcing Improvement
Figure 9.4 Working Capital Improvement
Figure 10.1 Customer Portfolio Optimization
Figure 10.2 Price‐to‐Margin Waterfall
Figure 10.3 Sales Funnel, Pipeline, and New Baseline Additions
Figure 10.4 Acquisition Integration by Function
Figure 11.1 Portfolio Company Sale Process
Figure 11.2 Investment Period Accomplishments Timeline
Figure 11.3 Management Proceeds
Foreword
Restructuring the Hold is an invaluable read for anyone engaging with private equity for the first time, as well as for those who've had previous experiences with private equity. I'm a big fan of PE – but private equity done right. This book provides a roadmap for doing private equity the right way.
Over the years, I've experienced each of the primary types of business ownership structures, including a large public corporation, small startup enterprise, private family‐run business, and a private equity‐sponsored company. I'm convinced that private equity is the most efficient and the most rewarding for building great businesses. Let me explain why I think this by telling my PE story and explain how the concepts laid out in Restructuring the Hold are so relevant today.
After graduation, I joined a large multinational public company and gained a great deal of experience as a young professional. While I enjoyed the work, I became intrigued with the idea of self‐employment. After four years and two promotions, I resigned at the young age of 26 to start a carpet‐cleaning franchise. My friends and colleagues thought I was nuts.
During the next several years, I worked hard and expanded my franchise to include three different brands, each achieving top performance within the franchise holding company. At 37, I was invited to become president of one of the brands. I sold my businesses and moved my family to Waco, Texas, where the company was headquartered. I was soon promoted to COO and president of the overall multibranded international business. While technically a public company (with the onerous reporting and expectations of posting ever‐positive quarterly results), the founder's family still owned a controlling interest. Perhaps not surprisingly, the family had become somewhat risk‐averse following their early success and was increasingly hesitant to make good bets to further grow the business. It was the worst of both worlds.
Eventually, the family decided to sell the business. It was 2003, and at that time PE was not widely known in the franchising community. We were intrigued and listened to the private equity firm suitors, and after research and reference checking we sold the business to our first‐choice firm. Over the many years that followed and to this day, we've been private equity‐owned and have transitioned through three increasingly successful investment periods and currently are on our fourth. With each year, we've achieved impressive growth and increased profitability, enabling us to continuously provide better experiences for our customers, our franchise owners, and our employees.
Neighborly is now fully 20 times bigger (and better) than we were in 2003. But it was during this last full investment period between 2014 and 2018 where we achieved the fastest growth and created the most value – that was the investment period where Tom Anderson and his colleagues partnered with me and my team to drive the most positive change our company has ever seen. During those four years, Neighborly expanded exponentially through our implementing a broad value creation program of organizational improvement, operational efficiencies, organic growth, and add‐on acquisitions. Together during that time, we more than tripled the enterprise value of Neighborly and provided investors much more than that in the form of cash‐on‐cash financial returns.
Our team achieved truly extraordinary accomplishments by implementing many of the principles and practices described in Restructuring the Hold. Listed below are just a few of the accomplishments we made together:
Partnership
. Tom and I, as well as his colleagues and my leadership team in general, developed a very natural operational cadence that was simply invaluable. Together we established an efficient and effective – and enjoyable – working rhythm of remote and in‐person interactions, constantly communicating and (almost) always on the same page. Together we built the kind of partnership described in
Restructuring the Hold
. It felt to us like our equity partners were simply an extension of our leadership team in Waco.
Organization
. Early in the investment period, we worked together to carefully evaluate every leadership role with respect to our strategies and carefully made necessary adjustments over time through promotions, replacements, and other changes. We created new opportunities for the most capable and increased the size of the corporate team to enhance our franchisee‐supporting capability and capacity, adding over 30 percent to the ranks. Over the course of the investment period, we fully transitioned from what had still largely been a legacy family business to a full‐contingent professional leadership and support team capable of running a much larger business. Thank goodness, too, because we've continued our new growth trajectory to this day with that team.
Operations
. We jointly evaluated all aspects of our business and enhanced the most important and least efficient, for instance, transitioning from a large in‐house IT infrastructure maintaining old homegrown systems to an outsourced best‐of‐breed approach, and establishing an efficient online recruiting system benefiting our thousands of franchisees. We also knew in our hearts that building a new corporate office would be justified, and because of our trusting relationship, our equity partners were fully supportive, and the result has been more than what we'd hoped for.
Growth
. We utilized the same value creation process described in the book to jointly prioritize and implement dozens of growth initiatives in addition to operating and organizational initiatives. In the course of doing so, we canceled some in‐flight initiatives and business concepts that, in retrospect, were ill‐conceived, and created a plethora of new capabilities, including new branding and messaging, new lead generation and call‐center infrastructure, and an entirely new cross‐brand marketing approach focused on a new concept we created together, called “Neighborly.” In fact, from its success we changed the name of the company to Neighborly.
Expansion
. Our equity partners were not only supportive but enthusiastic about helping us grow aggressively through acquisitions. Where we'd made only one acquisition in the previous few years, during this investment period we acquired and integrated 10 add‐on companies. Internationally, our business had faced three years of increasing losses in Europe. Where other private equity firms might have simply forced us to shut it down, Tom and his colleagues worked with us on a new strategy, starting with simply to “make a buck” in Europe. Rather than shutting it down, we carefully “doubled‐down” – hiring great EU leaders, acquiring two new businesses, and achieving scale economies so that today our European business represents a very profitable and growing part of our story.
My management team and I have learned much from our private equity sponsors. The simple truth of the matter is that you cannot grow 20 times in size by continuing to execute what you currently know how to do. As you scale, different systems, different tools, and different methodologies must be deployed to sustain that growth. If that's not done, growth stalls, and that's the first step toward decline. Our PE sponsors have continuously helped us not only to avoid a stall but to actively sustain and accelerate growth.
Since becoming a PE CEO veteran, I have spoken with CEOs who have not had the same positive experience we've had. Now, perhaps we have been lucky, but we made much of our own luck – we were careful in checking out potential suitors, we worked hard to understand our sponsors' objectives, and most of all, we were committed to establishing successful collaborative partnerships. Together, we all achieved what we'd intended, and then some.
Tom Anderson was the PE operator I partnered with during that particularly impressive four‐year sprint I described. In Restructuring the Hold, he and his co‐author Mark Habner do a masterful and entertaining job laying out the high value‐creating concepts that he and I together honed and lived for four years. Fifteen years ago – at the beginning of my “Year 0” with private equity – it sure would have been nice to have had the benefit of reading Tom and Mark's book Restructuring the Hold. Who knows how much even further and faster we could have gone?
Mike Bidwell
CEO, Neighborly
Preface
“Just think of how much more we could have done if we'd known what to expect earlier!” is a phrase management teams have said to us time and again later in the hold period. “You should write this all down.”
And so we did.
But our reasons for writing this book go well beyond simply accelerating the understanding by portfolio company management teams of what the hold period could be like. We decided to write Restructuring the Hold because we wanted to make a broader impact across more companies, more management teams, and more individuals than what we could otherwise by working only with a handful of portfolio companies at any given time.
And we wanted that impact to be much more than improved financial outcomes. To be clear, investor returns are the endgame. You'll not find a single recommendation in the pages that follow that doesn't focus on optimizing financial outcomes. But with any luck, we've designed Restructuring the Hold to achieve much more than that.
This book is about a bigger mission than just the bottom line. It's about improving outcomes in the broadest sense. It's about helping business leaders – portfolio company leadership and equity partners alike – feel that important sense of pride in building something of considerable and sustainable value. It's about creating opportunity – better products and services, better careers and leaders, and better relationships. It's about marrying character and capability to establish constructive partnerships and (hopefully) life‐long friendships.
It's also meant to make the case for focusing on fundamentals. The challenges businesses face today are proliferating like never before. Global instability, domestic politics, environmental crises, and worldwide pandemics all generate serious obstacles for companies everywhere. But despite the changing economic climate, sound business practices remain constant. By focusing on the fundamentals, business leaders – and particularly those of middle‐market portfolio companies – are better prepared to not only weather these storms but actually thrive in the new economic conditions, no matter what circumstances they encounter.
We believe in leading lives according to strong moral codes. These perpetuate within companies as core values representing fundamental beliefs. Values represent what a company stands for, who they are, and how they act. Core values serve as a steadfast barometer for the entire team, consistently guiding behavior, decisions, and actions.
In the pages that follow you'll not only see us articulate our vision of purposeful, practical, and principled leadership during the hold period, but present our core values through the words of others and give voice to them in narrative form. To us, the characters that populate the novels of Ernest Hemingway and John Steinbeck personify those values and bring them to life. Both authors crafted individuals who embrace their own codes of authenticity, integrity, and compassion, illustrating courageous and empathetic souls as well as strong and stoic achievers. We also created the story of GrammCo to show how these core values manifest themselves in the lived experience of an imagined hold period. In starting each chapter with a quote from Hemingway or Steinbeck as well as a vignette from the story of GrammCo, we hope not only to persuade you of the importance of these values but show them in action. These are the values we aspire to emulate, and we hope that comes across in Restructuring the Hold.
About the Authors
Tom Anderson and Mark Habner are co‐authors for the book. Both have long been recognized as industry‐leading practitioners in the private equity operating space. Tom and Mark have worked together in various capacities in private equity for over 12 years.
Thomas C. Anderson
Tom serves private equity‐owned companies in very active hands‐on chairman and board director roles, helping CEOs accelerate sustainable growth and prepare for successful transactions.
From 2013 to 2020, Tom was an operating partner at The Riverside Company, a global private equity firm making control investments in growing middle‐market businesses. At any given time, Tom served as chairman of the board for three to five companies, typically for the duration of each hold from diligence through exit. Tom earned the reputation for developing strong collaborative partnerships with executive teams to plan and accelerate company performance and exit value.
Before Riverside, Tom was an operating partner with Sun Capital, serving interim leadership and EBITDA growth acceleration roles across portfolio companies in both the US and Europe. Prior to that, he was a director with the restructuring firm AlixPartners, where he led company‐wide transformation programs for private equity sponsored portfolio companies. These included growth strategies, merger integrations, and company turnarounds.
Tom started his career as an industrial engineer for First Brands Corporation. He graduated from Virginia Polytechnic Institute & State University with a BS in Industrial Engineering & Operations Research, subsequently earning an MS from Rensselaer Polytechnic Institute and an MBA from Georgetown University. Tom lives in Charlotte, NC, with his wife of almost 30 years. Together they have five children.
Mark G. Habner
Mark is currently CEO of BeckWay Group, an operating company dedicated to providing operating governance and EBITDA growth support during the entire hold period. BeckWay Group is retained by a small set of middle‐market private equity firms and their portfolio companies.
The BeckWay Group operating platform provides hands‐on operating leadership, cloud‐based deployment technologies, and hard‐to‐find talent acquisition capabilities. Embracing a strong set of core values, BeckWay Group works side‐by‐side with management teams to increase and accelerate exit value throughout the hold period.
Previously, Mark was a senior managing director at SSA & Company, an operations consulting firm, where he led the organization's five capability practices. Before that role, Mark was a partner with the Australian private equity firm RMB Capital Partners. He began his career with Booz, Allen, & Hamilton, a strategic management consulting firm.
Mark lives in the New York metro area with his wife and twin sons. He is chairman of the University of Tasmania Foundation (USA) and a member of YPO. Mark earned his bachelor of commerce and bachelor of laws (honors) degrees from the University of Tasmania in 1992. He earned an MBA with distinction from the Kellogg Business School at Northwestern University in 1997.
Acknowledgments
In addition to our families, we'd like to thank our friends and colleagues who supported us during the many months of this exciting endeavor, especially our writing coach and editor, Dr. D. Olson Pook, for his numerous enthusiastic reviews and constant encouragement, and private equity communications specialist Mark Wiskup for his early direction‐setting advice for how to get started.
I'd like to express long‐overdue appreciation to those who hired and mentored me early in my career, particularly John Strasburg and Joe Owen. A big thank‐you to each of my friends and colleagues over the years, including those most recently at The Riverside Company. My deepest appreciation to the executives with whom I've worked for their partnership and friendship, particularly CEOs John Sypek, Mike Bidwell, Chris Fitzgerald, Carl Will, Jeff Leone, Mike Sinoway, Girisha Chandraraj, Michael Saunders, Michael Fiore, and Linda Heasley. – Tom
I'd like to thank my friends and colleagues from RMB Capital, where I got my start in private equity, and the teams of our many portfolio companies and firms who provided the all‐important portfolio support services. Thank you to Phil Latham, Derek Prout‐Jones, Martin Keyser, Matt McLellan, and Mark Wilson for your patience, guidance, and partnership. I particularly would like to acknowledge my friend and mentor, Ken Shabanee. – Mark
And finally, we would like to thank our colleagues at BeckWay Group. They have built an organization with the highest values and integrity. It is a pleasure and honor to work as part of this team, and where we keep learning every day. Thank you to Colin Garner, Danyell Lance, and Scott Burke for being with us from the start.
Introduction
Private equity as an investment class has skyrocketed in recent years, both globally and domestically. If you're not directly or indirectly involved in private equity today, there's a good chance you soon will be.
Before the 1980s, private equity was a new and largely unknown phenomenon. Today it represents one of the largest asset classes available to institutional investors, private investors, and management teams alike. In the US alone, a few thousand private equity firms control over 50,000 companies through some combination of direct investment, board control, and operational involvement.
Over the years, private equity firms have acquired a reputation for being ruthless, possessing a single‐minded focus on their own profits at the expense of the companies and their employees they acquire. Even today, over 30 years after its release, we still hear plenty of references to the chart‐topping 1987 movie Wall Street. Michael Douglas's character Gordon Gekko sanctimoniously purchases and dismantles companies with the single goal of lining his own pockets. “It's not a question of enough, pal,” he lectures his idealistic young protégé, “it's a zero‐sum game: Somebody wins, somebody loses.” His philosophy is pithily summed up in the film's most memorable line: “Greed is good.”
Douglas's portrayal of Gekko is of course a caricature, but distrust over the motives of private equity still runs wide and deep, even among well‐informed and seasoned business professionals. The image seems universally ingrained: fancy‐suited, hard‐talking, ruthless investors buying, breaking up, and brokering companies for personal gain, brutally and heartlessly manhandling employees and their families without regard to the consequences of their actions. Many continue to doubt the intentions of private equity firms claiming to seek win–win outcomes in which everyone shares in a better and more profitable future.
The investing world has certainly spawned its share of Gekko‐like characters leveraging junk bonds or pursuing other means to aggressively finance disreputable deals. But in its short history, private equity has matured quickly, embodying more professionalism and proficiency today than ever before – and more competition, too. Gone are the days where firms could buy a company at a low multiple of earnings price, leverage it through taking on lots of debt, loosely monitor the investment through quarterly board meetings, and sell the company a few years later at a higher exit multiple – all but guaranteeing exceptional returns. To succeed in private equity today, investors and management teams must work together to improve and grow businesses rather than financially engineer them.
More and more investors are searching harder than ever to find and buy promising companies, and the billions of “dry powder” dollars available for investment only serves to intensify competition. To differentiate in a very crowded and oversubscribed field, fund variations continue to proliferate based on company size, industry, investment horizon, and asset quality. One area of particular interest to growth‐minded investors is the middle‐market, loosely defined as those companies with annual revenues between $10 million and $1 billion, most of which will be sold at least once during the next dozen years.
Due to interest and competition, private equity firms that target the middle‐market can no longer count on proprietary deal flow, transaction acumen, financial engineering, and multiple expansion to achieve even reasonable (let alone outsized) returns. It's now all about growing businesses: crafting strategies, building management teams, improving infrastructure, and actively driving value throughout the typical three‐ to seven‐year hold period.
The need for understanding how to successfully navigate the hold period is undeniable. Achieving growth in earnings (EBITDA, or earnings before interest, taxes, depreciation, and amortization) today requires active operational involvement from private equity and accelerated and innovative action from the portfolio company. Yet while a great deal of ink has been spilled over the necessity of increased hands‐on investor involvement and even more on management team effectiveness, very little has been said about the intersection of the two. What's missing in the conversation is an explanation about why it's important to have collaborative and constructive partnerships between private equity principals and portfolio company executives – and how to get there.
Restructuring the Hold: Optimizing Private Equity and Portfolio Company Partnerships illuminates an improved approach to private equity investing that centers on more productive and profitable working relationships and practices among management teams, equity partners, and boards of directors. Vastly different in concept and execution from the extremes of either the traditional hands‐off approach or the equally ineffective we‐tell‐you‐do method, Restructuring the Hold spells out how to develop a dynamic collaborative partnership based on trust and accountability between private equity principals and portfolio executives.
By examining how a truly collaborative partnership would develop and implement effective practices over the course of the hold period, Restructuring the Hold explains how management teams and their private equity partners can and should work together to achieve an efficient operating rhythm, accelerate sustainable EBITDA growth, and ultimately optimize exit value – benefiting investors and private equity firms as well as portfolio company management, company employees, and their families. Restructuring the Hold therefore serves four primary goals:
Elevate portfolio company expectations
for constructive partnerships with their private equity firm that leverages each of their complementary capabilities throughout the hold period.
Encourage private equity firms
to continuously up their game through embodying core values and better governing practices when collaborating with their portfolio companies.
Empower portfolio company executives and equity partners
to establish and execute an aggressive Value Creation Program based on attitude and capability that focuses on the hold period endgame.
Achieve accelerated sustainable earnings growth and optimize enterprise value
through authentic relationships, constructive partnerships, clear accountabilities, and better operating practices.
Built on a chapter by chapter explanation of the typical steps within the hold period, Restructuring the Hold illustrates how private equity and portfolio companies can form constructive partnerships and implement better practices to optimize the outcomes for everyone.
Core Audience
The lessons of Restructuring the Hold are applicable across the wide spectrum of private equity and other business sectors. It's relevant to anyone interested in how to establish more productive and more profitable working relationships and practices between and among management teams, private equity investors, and board directors. Whether you're a limited or general partner associated with a private equity firm, a banker at an investment or commercial institution, an individual investor in alternative asset classes, an executive at a portfolio company, or just someone interested in this essential business sector, Restructuring the Hold will reshape your thinking about how private equity and portfolio companies can and should work together to reconfigure outdated and ineffective approaches to hold periods.
The book is particularly suited for investors, executives, and managers associated and working with the portfolio companies of middle‐market private equity firms. If you find yourself in one or more of the following groups, Restructuring the Hold will help you create sustainable value in your businesses:
Sooners
. Executives and managers soon to be part of the private equity world because their companies will soon be sold to private equity. These folks wonder what they should expect and what's about to “happen to me.” Sooners don't know whether they should be excited or looking for another job.
Improvers
. Executives and managers already part of a private equity sponsored portfolio company. These individuals might want to better understand what's happening to them or might want to improve their game, their relationship with the private equity partners, and their careers as well.
Again‐ers
. Executives and managers who have had one or more previous experiences with private equity, resulting in either positive or less‐than‐stellar experiences. These are the ones interested in making their next go‐round not only financially successful but personally and professionally rewarding.
Board directors
. The board of directors for a portfolio company is interested in providing more insightful guidance to their executive teams during the hold and in advising management teams on how to best work within their new ownership structures to drive the best performance possible.
Investors
. Partners and other principals in private equity firms themselves, interested in establishing more personally, professionally, and financially rewarding partnerships with their portfolio company executives and management teams.
Professional service providers
. Accountants, attorneys, consultants, and other providers working directly with private equity portfolio companies who would benefit from having a deeper understanding of their customers and the opportunities and challenges that occur during the hold period.
Educators
. College professors, business school instructors, executive coaches, industry speakers, and other educators interested in helping their charges better understand the private equity space and prepare for and improve their business careers.
Emulators
. Executives and managers of public, family, or closely held businesses interested in leveraging the practices employed by collaborative private equity and portco teams to accelerate value in a compressed time frame and achieve a new trajectory.
Organization of the Book
Restructuring the Hold shows private equity principals and portfolio company executives how to work together to restructure their approach to hold periods. It is not about the bookends of private equity – the “before” of evaluating opportunities, transacting deals, and financing investments, or the “after” of hiring sell‐side investment bankers, building sales presentations, and executing portfolio company exits. It's a close look at the hold period – the time from when the private equity firm buys a company to the day it's sold – when most of the value is created. How that happens – the nuts‐and‐bolts of value generation – is what this book is all about.
Restructuring the Hold is organized into 12 chapters. After introducing the ins and outs of private equity and the principles underlying constructive partnerships, each of the subsequent chapters corresponds to a particular time period – critical milestones marking progress during the typical private equity hold period. If properly managed, the consternation of the first month gives way to optimism and guarded enthusiasm in the next two. Restructuring the Hold then looks at the dynamics of each of the next three quarters, where bumps in the road inevitably occur while growth momentum increases. This sets the stage for a discussion of years two and three, where internal infrastructure is improved, sales growth is accelerated, and external acquisitions are integrated. It concludes with a chapter devoted to the exit where the company is sold. Each chapter identifies challenges and goals for the time period under consideration and focuses on how management and private equity can work in concert to achieve the best possible outcomes.
The framework for each chapter consists of three primary components:
Narrating the hold
. At the beginning of each chapter, we check in with the story of Gramm Company, a fictitious but illustrative composite of a typical middle‐market portfolio company that recently has been sold to Patterson Lake Capital – a similarly fictitious forward‐thinking private equity firm keen to help GrammCo's management team grow the company during the hold period. Each vignette sets the stage for the content of the chapter, focusing on the frustrations and excitement experienced by a management team under new ownership and the steps that key principals from a private equity firm take to forge genuine partnerships during the hold period.
Explaining the hold
. Each chapter then looks closely at the typical challenges and opportunities facing the partnership during the time period in question. This part of each chapter looks specifically at how private equity firms and portfolio companies can leverage their constructive partnership and shared goals to overcome the distinct obstacles in their way at a given point in time during the hold period and implement effective practices that drive lasting gains in EBITDA value.
Picturing the hold
. Accompanying the subsections of each chapter are illuminating graphics that offer an illustrated framework of the business content discussed. These illustrations serve as helpful guides to the ideas discussed in the chapter and offer a snapshot of better practice frameworks that readers can apply to their own situation.
Through the combination of helpful illustrations, applicable better practice frameworks, and a very typical days‐in‐the‐life story, Restructuring the Hold offers a 360‐degree portrayal of how to successfully navigate the hold period to optimize outcomes.
Chapter 1Private Equity
“…it's our land. We measured it and broke it up. We were born on it,and we got killed on it, died on it. Even if it's no good, it's still ours.
That's what makes it ours – being born on it, working it, dying on it.
That makes ownership, not a paper with numbers on it.”
– John Steinbeck, Grapes of Wrath
The Gramm Company (GrammCo) designs and manufactures heavy‐duty all‐terrain service vehicles (ASV) for rugged and remote deployments, primarily serving the North American pipeline, transmission, and forestry industries. Headquartered in Denver and employing around 300 people, the company retains a fabrication plant outside the city as well as service depots in Houston, Calgary, and Las Vegas. After 20 years founder Russ Gramm stepped back from the day‐to‐day, handing the reigns to Dianne Franklin three years ago.
Originally a mechanical engineer from Poly Tech, Dianne spent her formative professional years in Big Oil. An entrepreneur at heart who loves hiking and camping, it didn't take much for Russ to convince her to leave the fancy glass corporate buildings of downtown Houston to move to Colorado and serve as CEO of a middle‐market company with $165 million in revenues enjoying 15 percent net profit margins.
Patterson Lake Capital is a private equity firm based in Chicago specializing in middle‐market acquisitions. With $750 million currently invested across seven portfolio companies, Patterson Lake is particularly active in the industrial and business services space. Among its small but dedicated staff, Patterson Lake has an investing partner and an operating partner specifically associated with the GrammCo deal, each well‐respected and in the prime of their careers. They love what they do and do it well – finding valuable middle‐market companies and helping them grow.
Operating Partner Shed Cooper started as an engineer in the aerospace industry out west, and after working his way through b‐school he moved east and progressed through several successful executive roles in the automotive space, then served five years as CEO of a national distributor before transitioning to private equity. Shed has been at Patterson Lake for seven years now.
Olivia Charles Gleason – Ocie – has been with Patterson Lake for almost twice as long as Shed. Ocie joined the firm after cutting her teeth at a well‐known Wall Street I‐bank. Though she attended business school in Boston, she's become a committed Midwesterner and loves Chicago. Like Shed, she's married with kids and has figured out how to balance raising a family and traveling for work.
Throughout this book, we'll regularly check in with the happenings at GrammCo and Patterson Lake Capital as their worlds quickly come together. We'll watch as they form an authentic collaborative partnership and note the intentional steps they took to get there. We'll see them grow and optimize the enterprise value of the company despite the challenging headwinds facing private equity. Most importantly, we'll see how they navigate together the various ups and downs of the investment period, growing their own capacities and abilities and the company's bottom line in ways they never would have imagined.
The Asset Class
Although this book will not investigate the entire investment cycle and inner workings of private equity, it's helpful to start with a brief overview. A snapshot of the private equity asset class not only presents the opportunity to introduce and explain the terminology we'll be using but also provides a useful framework for understanding why this book's focus is on the operational side of the investment period.
Private equity is the idea of investing capital to acquire an ownership stake in an existing established business, with the expectation of realizing future profits when the company is sold to another party. Private equity is different from venture capital, which is a term most often used for capital applied to accelerate new startups or early‐stage businesses. By contrast, the term private equity has typically been used to indicate an ownership stake in more established organizations. It's worth noting these distinctions have blurred somewhat as both venture capital and private equity have become increasingly competitive and investors seek investment opportunities in both markets.
The Players in Private Equity
Limited partners
(LPs) are the individuals and institutions (e.g., pension funds, endowments, insurance companies, sovereign wealth entities, etc.) who provide investment equity. LPs are the investors in the fund, which is managed by a private equity group (PEG). In other words, they provide the capital that the private equity firms use to invest. LPs are typically not involved in the day‐to‐day activities of the general partner. They simply select the private equity firms and funds in which they want to invest, monitor performance remotely, and expect sufficient returns on their capital. For larger private equity firms, the limited partners are often large institutional investors, while for smaller firms, they might be high‐net‐worth individuals or family funds. Often, a private equity firm will raise their funds from dozens of limited partners, including both institutional and private money.
Private equity group
(PEG) is the catchall term we will use in this book to refer to the terms
general partner, private equity firm, buyout
firm,
and
private equity fund
synonymously. While there are differences in definition and scope among these concepts such that the term PEG is not a perfect fit, those differences need not concern us here. What is consistent is that the PEG decides (within prearranged bounds) where to invest the limited partners' money. It does this by accumulating portfolio companies and monitoring and influencing those investments over time to optimize performance. The PEG decides when to sell or “exit” each company in its portfolio so that they can provide sufficient returns to the investors.
Portfolio companies
are purchased with LP equity and augmented with debt capital as determined by the PEG. Each portfolio company (or
portco
) in the PEG's portfolio represents an individual investment. The PEG monitors and manages each investment to optimize returns to the limited partners. The LPs may have investments in specific portfolio companies, in the broader portfolio of companies, or both. Either way, each company in the portfolio is critical to the performance of the entire fund. If fund performance is poor, meaning that one or more portcos underperform, the PEG will have a hard time attracting future capital from LPs, thereby risking the PEG's ability to continue investing and operating.
Professional services firms
such as accountants, attorneys, and consultants are employed to guide and support portfolio company performance improvement. Typically, it's the portco that retains the service providers, but the PEG will have a say in their selection and provide guidance and steering to those providers.
Commercial banks
provide the debt capital (the leverage on investment equity), enabling the PEG to invest in bigger opportunities and more of them. While the PEG will certainly play a big role in bank selection and relationships, each portfolio company will incur the debt on its balance sheet. Servicing that debt through high monthly interest payments is often a fresh hurdle for companies new to the private equity world. Throughout the hold period, the portco and PEG will work to pay down the debt, reducing monthly interest expense and also increasing the future net exit value when the company is later sold.
Participants in private equity and their roles are summarized in Figure 1.1.
Figure 1.1 Private Equity Participants
Private Equity Groups: Firms, Funds, and Process
There are many PEG variants in the private equity space. Many firms are small, having fewer than a dozen people focused on a single specific sector, but others are quite large with hundreds of employees investing across multiple sectors. Regardless of its size and focus, most PEGs typically have four core functions and organizes themselves accordingly:
Fundraising
. Responsible for investor relations (IR) and courting limited partners. The PEG raises a new fund every few years, during which time the IR team is particularly busy.
Investing
. Responsible for investment and exit decisions, as well as for structuring and securing sufficient equity and debt funding for each deal. The investing team typically has the most people in the PEG, ranging from new associates to partners with lengthy tenures.
Operating
. Responsible for operational oversight of the portfolio companies. The PEG's operating team is usually quite small, consisting of very experienced practitioners, typically former CEOs and executives or senior expert consultants.
Administrating
. Responsible for overall fund administration, accounting, and reporting on investment performance to the limited partners. Compliance requirements are certainly not insignificant, and fund administration is an important but behind‐the‐scenes player.
Risk and Return
The process of raising and operating a fund spans all these functions. A PEG will begin by explaining to prospective limited partners its investment strategy (including sector, industry, size, or geography focus) and seek to convince the limited partners that investing in their fund is a better bet for higher returns than investing in other funds. A recent trend is for PEGs to operate as independent sponsors, which means that rather than raising a general fund that targets a particular sector, they seek funds from limited partners on a deal‐by‐deal basis.
Funds vary in size, with $50 million on the smaller side to $1 billion or more representing a larger fund. The firm then deploys the raised equity, leveraging it with debt capital to buy new portfolio companies (and any additional supporting acquisitions) over the next few years. The PEG works with its portfolio companies during each hold period to build and grow the businesses and then harvests returns by selling companies after typical portco hold periods of three to seven years. Successful PEGs provide top quartile (or at least sufficient) returns to their LPs, allowing them to raise additional funds and begin the cycle again.
As an asset class, private equity has many characteristics that increase its risk profile. Lower‐ and middle‐market portfolio businesses often had been privately held and therefore lack a history of broad and deep scrutiny. Nor is the investment liquid – once purchased, there is not a readily accessible market to sell, and there is limited visibility regarding timing and potential future valuation at time of sale. Selling or exiting the investment, therefore, requires significant and unpredictable time, effort, and cost, yet returns are anything but guaranteed. The time horizon for the investment is also not insignificant – several years where the investor's money is locked up in the fund.
Offsetting the increased risk profile is the opportunity for superior returns compared to other asset classes. Because of the risk, LPs require higher returns than they would for lower risk or more liquid investments. The corresponding rate of return may be in the double digits, likely double or more the rate they might receive from other less risky investment opportunities. For instance, a reasonable return for an LP may be two‐times cash‐on‐cash after a reasonable hold period (receiving back twice what they invested).
Measuring Success
For startups or turnarounds, cash is king, but in the private equity space EBITDA rules. Earnings before interest, taxes, depreciation, and amortization is a useful, simple, but admittedly inexact proxy for operating cash flow and overall performance. It's used to support evaluations of company core business performance without including further complicating factors associated with financing, tax treatment, and accounting regulations. EBITDA is a PEG's primary indicator of the overall enterprise value for any given company.
Another indicator of overall enterprise value is referred to as the multiple. To arrive at a purchase price for a company, the buyer and seller agree to a normalized EBITDA as well as a multiplier to arrive at the purchase price. Although the objectivity of EBITDA is arguably debatable, the appropriate multiple associated with a company is far more subjective. Determining the multiple is an inexact science but certainly involves evaluating the general growth prospects of the industry, specific growth prospects for the company, and overall risk profile. All other factors being equal, higher growth potential and lower risk means higher multiples.
Challenges and Headwinds
The dramatic proliferation of the private equity asset class, and therefore the inevitable maturing of the class, has led to an intensification of both external and internal challenges over the past several years.
Lots of suitors, lots of money
. More and more capital, particularly big institutional capital, is now targeted at private equity. Competition for big lucrative deals has driven larger private equity firms to increasingly look down market in search of attractive (if not proprietary) deals from smaller companies. Proprietary deals have become even more scarce, and auctioned deals are increasingly being bid up. The resulting supply–demand imbalance has served to drive purchase prices up, and multiples on EBITDA paid for companies have increased from low‐ to mid‐single digits to often well into double digits, depending on the specific sector. It's simply costing more money to buy companies – particularly good ones.
Performance requirements
. Because of competition and higher prices, portfolio company performance improvement and real growth over the investment period is even more critical. Higher purchase prices translate directly to the need for higher portfolio company performance to achieve the same return that investors enjoyed only a handful of years ago. No longer can PEGs rely on financial engineering and multiple accretion to provide sufficient returns. The pressure to improve portfolio company performance and accelerating growth has never been higher.
Lower fees, higher scrutiny
. Since the early days of private equity, the model has been such that the PEG receives two forms of compensation from the LPs – management fees and carried interest, or
carry
(the fee the PEG receives based on realized investment returns above a certain hurdle rate to the LPs). Management fees and the effective carry component paid by LPs to the PEG have consistently shrunk over the years as the private equity market has matured and competition increased.
These challenges point to the biggest opportunities in the private equity space. Having paid a premium for the portfolio company in today's competitive market, PEGs need to maximize value like never before. It should come as no surprise that the place where the biggest gains can be achieved is in restructuring the hold period – improving how PEGs and portcos work together to grow EBITDA (through both commercial and operational actions), increase the exit multiple (through enhancing portco infrastructure and enabling future opportunities), while continuously paying down company debt. A collaborative partnership between private equity firms and their portfolio companies represents a critical differentiator in achieving future success and outsized returns for LPs, PEGs, and management teams alike.
The Middle‐Market
The middle‐market represents one of the most important and also dynamic segments of the US economy. It also underscores the essence of the American character: large, growing, and everchanging. It is for these reasons the middle‐market is not just an important but also a value‐laden investment space. It represents a significant opportunity for investors and management teams to still achieve the growth necessary to realize significant gains in future valuation and the returns investors seek.
Defining the Middle‐Market
To better understand the world of private equity investing, PEGs and service providers segment the space in a variety of ways. The logic for segmenting is to help identify organizations that may have similar needs and constraints, making it easier to target and service those companies. One way to segment is by industry – industrials, consumer products, healthcare services, and so on. Another is by relative company health – growing, mature, underperforming, troubled, and such. A third widely used classification relates to size in terms of annual revenue of the company.
The term middle‐market is one common size segment, but there is no hard-and-fast definition as to what a middle‐market company is. Depending on whom you ask, the middle‐market can include companies ranging anywhere from $10 million to $1 billion in revenue. Because that range is quite large, you'll often hear people segment the middle‐market into thirds – lower, middle, and upper‐middle‐market – based on company revenue (illustrated in Figure 1.2).
Private equity firms and service providers working in the middle‐market space will often specify their focus area. Some will pursue a wide lens, targeting the middle‐market generally, whereas others have a specific target like “underperforming manufacturing companies in the lower‐middle‐market.” When we speak of the middle‐market throughout this book, we're specifically referring to PEG‐owned companies focused on improvement and growth; not steady run‐for‐cash (lifestyle) businesses, but companies that are going somewhere, having started smaller with the intention of growing bigger.
Figure 1.2
