Prepared for the PE glare

There are just too many FDs who don’t cut it,” a private equity (PE) general partner told me. “We end up replacing the finance guy in about half the deals we do.” That’s a worrying piece of anecdotal evidence if your CEO or chairman pops their head around your office door and asks: “MBO?”

So let’s start with a fundamental truth. PE is different. “You often have FDs who have been doing a great job – as part of a bigger corporate, say, or with a family owner,” says EquityFD founder Sarah Hunt, who specialises in placing finance execs into PE-backed businesses. “But they can look weak under the glare of PE ownership. It shines a light on their deficiencies. A PE house will be asking questions no other investor might.”

Steve Darrington agrees. As a former portfolio company CFO in New York and now CFO and partner at Phoenix Equity Partners here in the UK, he’s seen both sides of the equation. “The best predictor of survival is having been FD in a PE-backed business before... and surviving,” he says. “It’s certainly a learning experience when you do it – and there are always one or two things that FDs will never have been exposed to before.”

There are other factors, too. “The FD is almost always the most easily replaced of the senior management team,” warns James Wheeler, founder of specialist headhunter Pilot Partners. “An FD’s training means his or her skills are readily transferable and there are always good quality FDs available on the market. Less so with the CEO.”

And he adds that the current climate isn’t helping FDs to make it through the process. “Right now, many PE firms will be buying unloved business from a corporate host or a bank releasing a so-called zombie company,” he says. “The starting point for the incumbent FD in these situations is weak.”

That also means many non-PE-backed companies are now facing pressures in precisely the areas that put PE FDs into the spotlight – particularly cashflow and working capital. So whether it’s a fund manager or even a family owner, the dangers are remarkably similar for those outside the PE arena.

A big issue for many businesses now is debt – getting enough and managing it. For PE firms, it’s a fundamental part of the business model. Jeff van der Eems, CFO-turned-COO at PE-owned United Biscuits, explains why it’s so critical. “A good CFO should know what drives the business, the pressures on it, the choices management have to make and the implications of those decisions,” he says. “But the margin for error in any of those areas, under PE, is much less given the leverage in place.” If you miss an interest payment, or break your covenants... the whole world comes crashing in.

And while most FDs are used to reporting a bad year, but having time to fix the P&L for the next results, a general partner’s tough questions about their cash forecast week in, week out can come as something of a shock.

Which brings us to reporting. A divisional or family-business FD generally gets a bit of slack in the reporting process, within reason. With PE? Not so much. “You need to know everything that’s happening and be able to articulate it as KPIs that give the backers proper insight,” says Paul Hinder, former FD in both quoted and PE spheres who now advises several VC-backed businesses as a “non-exec CFO”.

“They want to see data, trends and outcomes,” he continues. “You create confidence by being able to immediately answer any question the backers come up with – whether it’s on the P&L, the sales pipeline or progress on new products. That means being close to operations, suppliers and customers, too.”

“An FD also has to be able to look forward,” says Peter Hodson, director at NVM Private Equity. “Can they give us clarity on forecasts and show command of the key drivers around margins, costs, investments – all the financial expressions of operations?”

As van der Eems puts it: “Successful CFOs in PE tend to like being operational. They get excited by business decisions and facing less bureaucracy. Under PE ownership, it’s much easier to take risks – that’s certainly been a big plus for me personally.”

Which highlights the importance of personality. “The most useful question an FD can ask is: why did you become an accountant in the first place?” says Hunt. “Was it to help run a business? Or was it to be technically proficient and work in the background? If it’s the former, PE ownership is fantastic. Your input will be hugely valued by the PE guys, mostly accountants themselves.”

Even at the smaller end of the market, these attributes are well-regarded. “The FDs you cherish are the ones who can interpret the numbers and then, critically, act on that interpretation,” says Hodson. “We’re looking for someone who takes the pressure off the MD and the commercial teams, who can create time for them to generate growth.”

What if you’re an FD who fits into Hunt’s second category, the technical, back-office type? “Frankly you shouldn’t take it on – the reputational risk is too great,” says Wheeler. “Better to get out with a big cheque early on than end up with a ‘FAILED FD’ badge afterwards.”

And if you think it is what they want? “Speak up, and be clear about what you need to ensure you can deliver for the investors,” says Hunt – a warning that trying to make do with outdated systems or a lightweight team is a big mistake. “You have to own the situation. There’s no point feeling hurt afterwards when they’ve been asking the tough questions. Get stuck in early, show what you can do and stake your claim to be an active member of the team.”

Every FD these days understands the value of communication. But not all of them are good at it. And the ones who aren’t are unlikely to cut it in PE situations. “PE houses never come to us and ask for someone quieter than the guy they’re replacing or someone without opinions,” says Hunt. “Too much communication is never a problem.”

It’s partly about efficient reporting. “Delivering timely, accurate information is the buy-in,” says Darrington. “If you don’t do that, the underlying assumption will be that you don’t understand those key issues of time and leverage. Perception is vital.”

“Trust is the big issue – you have to win your backers’ confidence,” agrees Hinder. “The key to that is no surprises. And when something does come up that’s off-plan, you need to be able to articulate exactly what the effect is going to be and how it might be fixed.”

Hodson agrees. “We’re not there day-to-day, so we need to trust the FD,” he adds. “They can win that confidence by accuracy and making sure the information arrives when it should. Mistakes or late communications certainly dent our confidence in them.”

Right now, that might also apply to other types of owners – a nervous family chairman, for example. So taking a leaf out of the PE book and talking all the time is well advised. And maximise the formal meetings, too. “My tip is keep the investors as close as you can,” says van der Eems. “We have 11 board meetings a year, which is quite a lot – but it’s extremely useful. It means the PE guys are always in the loop. It’s much better if they’re well informed.”

Leverage piles on the pressure; knowledgeable investors ratchet up the intensity; and it’s personally demanding to be a PE FD. But the good news is that almost everyone agrees how important they are to a successful deal.

“It’s a bit like insurance – a good FD gives you real comfort there’s a safe pair of hands and if things do go awry, you’ll hear about it quickly,” says Hodson. Darrington adds: “When we see a good one we always hold on to them. There isn’t an endless supply of FDs who are driven, accurate, able to deliver solutions and to both stand up to, and partner with, a CEO. It’s that cocktail that makes them rare.”

So what’s the big question for FDs with a sniff of a deal, then? “Do you really want to put your neck on the line?” says Hunt. “Maybe the PE deal is the time to leave. Get advice from people you trust. And don’t, whatever you decide, feel that you’re a failure or a coward if you don’t think it’s right for you.”

And with reticent banks, flat growth and markets in flux, adapting those lessons about debt, communication and operational commitment looks like the ideal curriculum for every finance chief.

Divisional finance director Peter Hatherly co-led the £141m buyout of the Simple, Lil-lets and Dove businesses from Smith & Nephew in 2000, backed by ABN Amro. In 2004, he was involved with PE again, this time in a £225m secondary deal with Duke Street. The business was sold to US giant Alberto Culver in 2009 for £240m.

His lessons – about leverage, investor communication and the prominence of the FD role at a time of financial and economic strain – are a valuable checklist for every FD at the moment, even those outside the PE sphere.

“I’m fortunate to have worked with a couple of PE houses now – and I think the big lesson for me was that it’s not your standard corporate FD role,” he says. “Being an owner-manager is different from being an employee. Here are 10 lessons I learned.”

1. You have a pivotal role – so learn fast. You’re going to be a main contact between the PE house and management team. So tap into the experience of lawyers, other advisers and the PE people – ask “what do I need to know?” Get familiar with the due diligence and learn everything you can about covenants and deal paperwork. There’s lots of dull legal stuff – but it matters.
2. Ask to see the plan. It sounds obvious, but understanding in detail what your business means to the PE house is the foundation for your relationship. There will be a number of investment committee papers from the outset. Stay on top of the regular updates. Explain the drivers of the business in a way that will shape them. That also ensures that you have a mutual understanding of the context and timing for exit.
3. Investor-directors are your friends. They’re not to be taken lightly. Meet face-to-face regularly – and outside board meetings. PE firms’ core skill is raising funds, not running businesses, so make it easy for them to understand your company and its key levers. That means you have to know the business backwards and be a great communicator – not every accountant’s strong suit.
4. Understand their role. They have a duty to their investment committee and tight timetables, too. Work out how you can help them manage that relationship. If they talk knowledgeably about your business in that committee, they’ll be more comfortable.
5. Work with your banks. Those relationships are almost as important as the one with the PE house. Get intimate with the legal documents – particularly the covenants and positive and negative undertakings. Look at the deal summary surveys on market practice that some advisory firms publish to ensure you have the right arrangement with your bank.
6. Help with fundraising. The PE model is in flux right now – it’s no secret that several notable funds are in run-off. But if your backers are looking to raise new funds, having knowledgeable and positive FDs to talk to investors can be useful. It’s a great way to cement the relationship – and open up new contacts.
7. No surprises. From the start of the deal, communicate clearly and often. If bad news is in the offing, let them know as soon as possible – and deliver it with a solution attached. PE people are often accountants so they’ll know what’s up sooner or later. But don’t overwhelm them. Explain risks – and how the management team would deal with them.
8. Be proactive. As FD you can often see opportunities that aren’t obvious to the investors. For example, in 2009, we saw the time was right to do a deal. We knew our backers’ objectives on timing and value, so even though they weren’t sure, we had a constructive debate – which resulted in a successful exit.
9. Control the board meetings with the chairman. Take the minutes. Bring in key people from the company to do presentations. It gives confidence to investor-directors. Control the agenda. You want to discuss the key matters – not get into a forensic analysis of the board papers. PE people are details-focused, so the more you answer their questions outside the board, the better the discussion in it.
10. Recognise your wider responsibilities. The numbers are important, but you’re a key part of a partnership with the CEO. You need to show you’re adding value across a whole range of areas. And you have to be united with the CEO, too. The point is to convince the investors they have backed a great team.

Download PDF version:

• Finance & Management magazine, Issue 203, October 2012 (pp.16-19)

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Further reading on potential challenges for those in FD and CFO roles — both in the context of PE-backed businesses and more generally — is available through the resources below.