March 27, 2016
Interviewed by: David Snow
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Tales of Tough Transitions that Added Value

Three private equity veterans tell anecdotes of tough human capital repositionings that ended up adding tremendous value to the deal. Experts from 3i, The Riverside Company and ADP tell the following stories:
  • The “chief bottle washer” founder who loved customers too much
  • The CFO who resisted change
  • The son who agreed to be sunsetted
Three private equity veterans tell anecdotes of tough human capital repositionings that ended up adding tremendous value to the deal. Experts from 3i, The Riverside Company and ADP tell the following stories:
  • The “chief bottle washer” founder who loved customers too much
  • The CFO who resisted change
  • The son who agreed to be sunsetted

Tales of Tough Transitions that Added Value
Optimizing Human Capital in Your Portfolio Company

David, Privcap: Let’s talk about the various plans that one might have for a founder to try to grow the business. It’s not always, you’re the CEO and things are as they used to be. When one potential outcome is you’re the CEO, but we’re going to supplement a lot of what you used to do with other key talent, does that sometimes not go well? Does the CEO sometimes think that he or she has all the skills necessary to grow the company and there doesn’t need to be much at the top that changes?

Richard Relyea, 3i: That’s a tricky situation to get into. If you haven’t identified that as a risk and an issue going in, that could be very challenging. One of the mechanisms to help you get aligned in terms of transitions in the leadership is an agreement about phasing out that person’s role over time. So, a period by which they would be moving into a different role—into a board role or out to more of a pure investor role. If you can get that, if it’s a situation in which that works, it’s right for the business and that’s an agreement you can reach, it’s amazing how much more commercial or how more aligned your decision-making tends to be about what resources are needed. Because if they know that their baby—where presumably, in the instance you’re describing, they still have a lot of capital at work—needs to have a different set of leaders in place, they’ll be very good about thinking about what the needs of the business are and it’ll be a much better conversation about bringing in the right people than it is if they have the perception that they’re going to stick in the role forever and you’re just a temporary part of their business’ development.

Michael Thompson, The Riverside Company: A lot of times, particularly in an industrial environment as you all know, you have an industrial leader who’s built a business who started off as chief cook and bottle washer and was out to those customers as well as fulfilling orders. Those customers go, “Man, I love him. He’s great. It’s an awesome company.” But that may not be so good going forward because, at some point, you have to transition those relationships to other people prior to getting to the next sales cycle of that business, otherwise your new people are coming in going, “Wow, this is going to be a huge amount of risk if we take out the CEO, who doesn’t want to do it a third time, and go put somebody in that doesn’t have those relationships.”

Meanwhile, the CEO is saying, “I really like calling those people and being a part of the sale process. That’s what I’m good at and that’s what I’ve grown into.” Those are tougher conversations, but I would also say they’re more frequent than one might imagine.

Snow: You’re saying that, for some of these businesses, the founder could be someone who’s really good at the product or really good at being a salesman. Yet that’s not what the company needs to get to the next level.

Thompson: I can give you a specific example in our portfolio: a business that was sold, based on just that premise. The CEO was outstanding, an innovator. Product development. He really was never a CEO, but he had that title and it was so important. Now, all of a sudden, his importance in this organization is so embedded in the product development, yet we would like him to be a CEO. We want to bring in somebody else on product development, but you bring somebody else in product development and they aren’t going to be as good. So, we actually transitioned that business, which turned out to be a great result because we transitioned it to a strategic partner—not a financial partner—so they had some of those complementary resources. And it fit quite nicely. But I would say that that comment you made can be a rationale or an impetus between, behind somebody selling a business. [It’s a] tough struggle.

Snow: Can you share some anecdotes of a story unfolding the right way or a story unfolding the wrong way based on the attitude of the founder and the roadmap that he or she has been presented with by the private equity firm?

Chris Capko, ADP: I’ll tell a quick story about working with one of our private equity partners that’s very aggressive with their portfolio.

Snow: By aggressive, do you mean doing add-ons?

Capko: No, aggressive with the way they manage their portfolio. A lot of firms will make maybe recommendations from the operating team and this one maybe mandates the use of certain—whether it be software, third-party vendors or benefit providers. We did a portfolio optimization project and part of what we do is to look for and identify the gaps in the back office. It’s all about how you get to that end game and whether you have the infrastructure to do that. We identified a lot of gaps and, at the time, we had a great conversation with the CFO, who was not really into making any changes.

Go back or flash two years, they’re going to sell the company—a rapid sell, maybe a three-year sell, but they doubled from about $100 million. They went up to almost $1 billion. At the end of it, we got feedback that said “You know what? If we had never filled those gaps two years ago, we would have never gotten the multiple that we got when we sold.” He said it wasn’t my mindset. It went against what I was thinking, but looking back now, it was necessary to make those changes in order to achieve that.

Relyea: One of our highly successful investments in the last several years involved buying a wonderful industrial business from a husband and wife whose son was running the business at the time. Getting an aligned vision and helping them to understand what we could do with the business under our ownership in terms of the resources we could bring internationally, and the appetite to invest in the business, caused them to want to not only choose us as the next owners of the business, but to roll over a significant amount of their ownership in the business. Because we had a clear transition agreement with the son, it allows us to put in place the right management team for the right phases of the different stages of our thesis. The son stayed on as the CEO for a number of years—he was the right person to take it from one point in the business’ growth to the next point in the business’ growth. He was the right person to help us to put in place the right leadership team and the right CEO for the next phase of its growth.

Thompson: We have a business where the CEO is an industry icon. Everybody knows him. Everybody likes him. We’re very aggressive at add-on acquisitions as a growth platform. He happens to have the title of President and CEO. So, I think it’s a natural conclusion to say, “Let’s let you be a CEO and continue to integrate with the external environment vetting out new add-on opportunities, making sure you’re at trade shows, more visibility in public relations, more visibility with the industry trade organizations, and bring in a President.” That president then provides us a natural transition to phase next when we go to sell the business, but you still maintain your CEO title. Then, we get very specific as a board in terms of what initiatives each of those individuals work on. We make sure we have a communication process that doesn’t alienate either, but allows us to focus on the president who’s performing the day-to-day operating of the business. That’s an easy way to do it and it’s often available to go do that. So, we have a specific example of where that’s what we’re doing.

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