August 26, 2021
August 26, 2021
With paraphrased content from Alix Partners March 17, 2020, Survey Report and Other Sources
The importance of culture and its impact on private equity strategy and returns has been a growing development over the past few years. As PE investment returns have lagged those of the stock market in the US, firms are feeling pressure to improve and deliver stronger results. This fact combined with some high-profile private company debacles, in large part due to cultural toxicity and leadership miscues, underscores the urgent need for PE sponsors and portfolio companies to prioritize a focus on culture.
A new survey by the global consulting firm Alix Partners found that PE firms and portfolio companies rated human capital, a key component of culture, as the top factor in predicting the success or failure of a PE investment. In addition, survey respondents in both groups — private equity investors as well as operating CEOs — chose “senior leadership team alignment” and “talent management” as leading factors in value creation.
TALKING THE CULTURE TALK, WITHOUT WALKING THE CULTURE WALK
Once a PE firm invests in a business, performance expectations intensify, as the sponsors usually seek to improve the management and operations of the company. To meet those expectations, the portfolio company management team and the rest of the workforce may have to modify how they do things on several fronts, such as establishing new organizational structures, collaborating in unfamiliar ways, and delivering results with greater speed. PE firm and portfolio company survey respondents agreed that it’s critical to consider the culture when building a company strategy. However: Only 13% of PE respondents conduct a formal evaluation of culture.
CRITICAL ROLE OF THE CEO
The right corporate culture at a portfolio company is essential for generating the results expected by the company’s PE sponsor. And a portfolio company’s culture depends to a great degree on who’s at the helm. After all, the term “culture carrier” exists for a reason. Both cohorts in our study rated a world-class management team as the number-one predictor of a strong exit for a portfolio company. What’s more, a ‘disruptive or derailing personality’ was cited as the number one factor to avoid when onboarding a new CEO post-deal.
Interestingly, the majority of our survey participants also said they believe that a portfolio company’s culture can be transformed by promoting from within versus hiring an outside CEO. Either approach has pros and cons. For instance, outside CEOs bring proven track records based on the experience they’ve gained at other companies, but they lack deep knowledge of the portfolio company and its culture; for leaders promoted from within, the opposite is true.
Ted Bililies, PhD, global leader of the Organization & Transformative Leadership practice at AlixPartners, said, “This year’s survey findings make it clear that leadership and culture are critically intertwined, and that adept management of corporate culture plays a central role in private equity investment success. We identified several imperatives that portfolio companies and their PE sponsors must meet to maximize IRR. These include the ability of portfolio companies to quickly and effectively execute the strategy which in turn hinges on identifying leaders who possess a unique blend of skills. Recognizing that a strong culture with the right CEO and talent are vital to growth in their portfolio companies, investors would do well to invest time educating themselves and taking specific actions at the outset of an investment.”
Dr. Bililies added, “We’ve all seen the headlines announcing household-name companies that paid a high price for allowing a toxic culture to take root and sabotage the company’s future. PE firms and portfolio company management must take swift action to avoid these pitfalls or risk losing shareholder value, disrupting growth, and damaging reputation and brand. PE investors have been picking up on this development because they see how a portfolio company’s strategy toward a liquidity event hinges upon its culture. Strategy without culture = nothing.”
70% to 90% of all acquisitions are failures, according to a recent Harvard Business Review article entitled M&A: “The One thing You Need to Get Right”. Private equity sponsors will benefit greatly by carefully considering how to blend the best of both entities. Our research over 25 years indicates a much higher percentage of success can be achieved by taking the following steps:
Is your organization focused on the right things when considering, executing, and/or integrating a new acquisition? We have seen dozens of very successful integrations and would love to help you navigate these treacherous waters. Allen Austin’s Organizational Health Index and our proprietary diagnostics contained therein could make the difference in your next deal. Give us a call. We’d love to be your thought partner.
Consultants in Retained Search & Leadership Advisory
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