A New Age for Operating Executives: Partnering with Private Equity in the New World Order

By Eric Menke

In my 20+ year career in private equity I have had the opportunity to observe the metamorphosis of middle market U.S. private equity from a small alternative asset class with fewer than a hundred funds and less than $10 billion in assets to a booming industry with more than 3,000 funds and more than $200 billion dollars available to be deployed.

According to Pitchbook, the middle market saw record activity in 2017--

• A record $20.2 billion was invested in 2017 via 662 transactions, up from $17.9 billion in 2016.
• A total of 363 add-on deals were done in 2017—55 percent of the total deal activity—worth a total of $5.9 billion, another record.
• Nearly $84 billion worth of capital was realized in 2017 from exits, almost double the $48.2 billion exited in 2016 but down from the 2015 peak.
• About $16.7 billion was raised across 86 funds in 2017, compared to $16.9 billion raised with 102 funds in 2016.

One of the many beneficiaries of this trend are former operating executives. With a plethora of PE funds and capital flooding the market, the environment has never been better for former operating executives to connect and partner with private equity funds in their acquisition mandates.

Following the Money

The flood of institutional money seeking higher returns in alternative assets in nothing new. The low yield environment of the past nine years has put many pension and endowments acutely behind their annual targeted returns. This has driven them to pursue ever larger allocations to alternative assets like private equity. Along with this stampede into the sector has come a “regression to the mean” as more funds are now competing for the same deals. The number of new investment banks focusing on M&A for private equity has boomed. The number of intermediaries trafficking in small company opportunities has equally exploded. Technology has also contributed to the frenzy as online platforms have popped up to create even greater efficiency and competitiveness in the space. All of these trends have made it harder for PE firms to compete, find a meaningful advantage, and generate above average returns. Enter the new paradigm for operating executives.

A New Age is Dawning for Former Operating Executives

Private equity groups have been leveraging the knowledge and insights of operating executives since the early days of the industry. While sector-specific funds have used industry executives to build expertise for years, generalist funds (which still make up the majority of funds) have been relatively passive in utilizing outside operating executives, especially pre-investment. With the proliferation of capital and funds and the leveling of the playing field with the increase in deals going through auction processes, generalist funds are now very aware of their need to seek a new “edge."

Given this set of circumstances, the environment has never been better for operating executives to gain the attention of private equity groups and become a more highly valued resource and partner than ever before.

All Former Executives Are Not Created Equal

While the timing has never been better for former executives to garner the attention of PE groups, there are a number of criteria that funds are looking at more closely. Among them are:

1) Time away from the industry –If you have been out of the industry for more than ten years, most funds will cast a more jaundice eye towards your background and usefulness to them as the common view is that most industries have navigated significant change over the last ten years.

2) Former role—Were you a hands-on executive with real P&L responsibility? Were you a corner-office type that seldom got their hands dirty? Did you do many/any acquisitions in your former role? If you have not completed any acquisitions in the past and were not a roll-up your sleeves executive who can evidence this type of prior work, you will not be as attractive to PE funds.

3) What are you willing to do—This is a big one--Are you willing to open your rolodex of contacts, truly utilize your personal network, and make introductions to actual decision makers in a proprietary process? If you can be convincing in expressing this level of commitment, you will garner real attention from the private equity community.

4) You have a proprietary view on a set of companies, a sector, or a process—In other words, do you know where the treasure is buried? If you can:

a. Articulate an investment thesis that you think is overlooked by PE in your sector of expertise;

b. Point to a list of companies that you have proprietary knowledge of (and contacts with) and that fit with this investment thesis; and

c. Can point to a process that is ripe for innovation or disintermediation;

then you will be in an excellent position to attract significant interest from PE groups to have conversations and explore relationships.

The Secret to Actually Getting in Front of PE Groups

With the non-stop flurry of deals coming to market and PE funds under pressure to put their war chest of capital to work, the window is wide open for former operating executives to get the attention of private equity—provided you approach PE groups with the right strategy and tactics. I have personally witnessed many extremely accomplished industry execs fumble and bumble their way through the courting process and ultimately lose the interest (and confidence) of equity groups.

Many executives do not fully appreciate how little time PE professionals have to entertain bringing in outside personnel. When your moment comes, not only must your message be right on-point, but it must be delivered quickly, compellingly, and drive to a quick decision on the part of the PE fund. Many investment funds love to keep executives “warm and in the wings” just in case they come across something for which they need insights. Your job, in the courting process, is to impress upon them that you can add meaningful value right away, but you are not just going to simply hang around just in case they find an opportunity.

Here is a roadmap for how to identify and communicate with a PE group:

• Research, Research, Research—There are many industry resources today that publish recent deals that have been done, by what funds etc. Here is a link to 100 PE blogs and websites-- https://blog.feedspot.com/private_equity_blogs/
• Size Matters —You should focus on funds that are investing in companies in the same size range or smaller than the size companies you have worked for. Smaller funds love to work with execs with big company experience (which helps lend them credibility in an industry), but larger funds do not care much about your background if the companies you have run are smaller than the companies they are acquiring. So, if you have run a $50MM or less company, do not go courting KKR.
• Focus Where They Are Not -- Focus on funds that have not done deals in your industry, but that have acquired companies with similar business models (manufacturing, business services, etc.) The reason being is that funds that have already done deals in your specific industry of expertise have a) already been courted by dozens of industry experts, and b) have likely already “gotten smart” on your specific industry.
• Do not, do not, do not…send a cold email blast or letter—That is very “2012”. Here’s the way to do it in 2018:
• Identify a handful of PE professionals in target funds that you have researched. These contacts should be the VPs or Principals, not the Managing Partners. The reason is simple—Partners are too busy and are not really incentivized. Principals and VPs, on the other hand, are looking to stand out in their funds and are often intrigued by the idea of sourcing a knowledgeable industry exec that might help them source a proprietary deal.
• Reach out to these contacts one-at-a-time on LinkedIn. Try an InMail message like this: “His Steve. I am a XX year executive in the XYZ industry and am entertaining potentially teaming with a PE group to pursue a focused acquisition strategy in a certain sub-sector of my industry. I came across your group and thought I would see if there is a common interest in discussing what is happening in my industry and the acquisition strategy I am contemplating.”
• Quite obviously you will need to have developed, ahead of time, a viewpoint on your industry in terms of what is transpiring and why it should be interesting for PE groups to explore it further with you.

When Your Moment Arrives

In my next segment I will cover how to handle yourself when your “15 minute window” arrives to converse directly with a PE group.

Shōri Capital partners with operating executives in the services, consumer product and manufacturing sectors to build national platform companies that scale through buy-and-build strategies.

If you are a current or former operating executive with an interest in working to build a company of national significance in your sector of expertise, we would welcome the opportunity to talk with you about how we might work together.

Please feel free to contact Eric Menke, Partner, Shōri Capital at (415) 939-5995 or emenke@shoricapital.com