The era of private equity (PE) funds simply using complex financial engineering to repackage businesses is long past. Since the global financial crisis, the race to source new and creative solutions that demonstrate tangible business value has exploded. The importance of creating streamlined operations for PE portfolio companies has come to the foreground.

The fundraising environment remains challenging and PE funds are struggling to win back the trust of their institutional investors. As a result, PE funds have increased their focus on operational due diligence and operational excellence. The performance of their portfolio companies is under increasing scrutiny and funds are looking directly at their operations teams for the answer.

An effective way to excel in buyout investing is by improving the operations of portfolio companies in an aim to reduce the required investment horizon. And while all PE firms seek to maximise the value of their portfolio companies, there are many different models or routes to this end.

This increased pressure means that a fund’s operations team has become critical to their success. Most have restructured their teams and increased capability by hiring operating partners in some shape or form. There are several different types of operating partner models. But which is the right one?

Your knead for a raising agent

PE houses often vary in their preference and proportion of assistance they bring in during a transaction. They can choose to work with industry specialists, functional experts or take an ‘in-house’ generalist approach. There are pros and cons to each scenario. Each can offer significant value depending on the situation and bring differing strengths throughout the transactions lifecycle.

Sous-Chef

Industry experts are usually former C-suite executives, who know a specific subject matter inside out. They sit on the board and drive the strategic direction of the particular portfolio company in question or take on more ad hoc consultative and advisory roles.

Whilst former executives bring with them a powerful network and an abundance of knowledge, they can create more problems than they solve. Some find it hard to change from a leadership role to that of an advisor. A position of this nature requires significant consideration to be given to correctly structuring and aligning incentive schemes.

Unless they are involved in the day-to-day running of the company, it’s debatable how much influence this type of operating partner can have on a value creation programme. A clear understanding of the duration of their position (e.g. investment period only or post transaction appointment) will save both parties time, ‘face’ and money.

Saucier

Funds may also choose to bring in former executives or teams with functional, rather than industry, expertise – such as supply chain management, procurement or IT. These operating partners are not attached to a specific portfolio company, but are brought in when there is need for their specific expertise.

Functional experts bring with them the latest thinking and processes, but can be prone to operating in silos. Implementing a value creation programme requires a holistic view on the company, meaning operating partners must take a view that reaches beyond their functional expertise. Strong project management is often required to coordinate and manage these partners – otherwise you can suffer from too many cooks in the kitchen. 

Private Chef

Over the years, the dependence of a PE house on ‘in-house’ generalist resources has been turbulent. This model uses the skills and knowledge of an individual or team as a permanent change or general business consultant, and assigns them to different portfolio companies.

In-house generalist resources can be sourced from industry, though it’s more common for them to have developed their experience from a consulting background. This experience can often provide them with knowledge of different functions or industries, strong PMI skills and operationally focused support mechanisms which have been thoroughly tested in the market. This model excels in implementation of the new thinking, innovation and process transformation from across many functional areas. However, as a ‘fixed’ resource, this operating partner model can suffer from a lack of scale and deep industry experience.

A la Carte

A capacity to scale the Private Chef model for the natural peaks and troughs of a transaction means a combination of models can be established as a viable and attractive option. Some funds may only have one type of operating partner throughout a transaction. However, most funds will operate some form of hybrid model and bring in experts at different stages depending on the situation and maturity of the transaction. 

A Recipe for Success

Operating partners are essential throughout the PE lifecycle. Prior to a deal, operating partners can identify value creation levers. They can assist in the decision making process, and help to determine the company’s value through detailed knowledge of operating frameworks and systems. Early insight helps the portfolio management plan what the key priorities should be in the first few weeks after acquisition, saving time and money. The operating team can start building up relationships with the management of the portfolio company and once the company is acquired, they can start the turnaround programme straight away. Operational excellence is key to achieving superior investor returns and often newly acquired portfolio companies need to go through a transformational change programme in order to achieve operational excellence across the company.

It’s clear that transformation is not just about cutting costs. It’s also about creating real business value across the spectrum of strategic, operational, sourcing and compliance issues that arise during change programmes.

There is no doubt that the times of ‘deal-teams only’ are over, and operational experts will continue to strengthen their position during the acquisition and turnaround process.

So what is the model that works?

Private equity funds should look for a blend of experience across industry and functional expertise with a proven track record of delivering change. Private equity funds need advisory teams that can identify value through operational due diligence. They need teams that can execute and deliver transformation across the organisation against the rising tide of pace and pressure in this environment. Monitoring is required to ensure that the right mix and blend of operational partners is achieved throughout programmes, so the different strengths of each partner can be maximised. A trusted and flexible team of partners, which has a proven track record of turnaround experience are best placed to create sustainable value for the portfolio.