Follow the Leader

WRITTEN BY

Jen A. Miller

ILLUSTRATIONS BY

Dan Bejar

When middle-market private equity firms invest in a business, they’re not always doing the deal first and then thinking about management afterward. Instead, many are creating pools of talented leaders known as “executive networks,” from which PE firms can hire people into leadership positions—whether that’s a CEO, board member, chairman or other C-suite role—before a transaction closes and, in many cases, learn about new investment targets. Middle-market firms are finding that this approach gives them an edge, especially when identifying opportunities that aren’t public yet, and a jump-start in growing portfolio companies from the day the deal closes.

The reliance on strong leaders has become a way to generate value in a business, particularly one that is already operating efficiently.

There are also nuances to leading a private equity-backed business, including the fast pace at which executives are required to operate. Having the right executive team ready to go is critical in today’s fastpaced dealmaking environment, but also because some companies are still struggling to emerge from the COVID-19 pandemic and require the right leader to get back on track.

Here’s how middle-market firms are using their executive networks, finding the right leaders and compensating talent for the value they bring to portfolio companies.

As more money has poured into private equity, sponsors are under pressure to find high-quality targets and deliver a return on investment. Talent can give firms a competitive edge both in making deals and growing portfolio companies as soon as they’re acquired.

Middle-market firms are often expecting operating partners to take a more hands-on role in building executive networks in order to find the right talent to lead portfolio companies, even if the firm doesn’t have a dedicated chief talent officer.

That’s the case for Five Points Capital, a private equity firm based in Winston-Salem, North Carolina. In March, it hired a new director of business development to help build out the firm’s executive network, to supplement the work done by Brent Kulman, Five Points’ managing director of business development, over the past 16 years. Those networks, in turn, have helped Five Points zero in on potential deals within its chosen industry niches.

“We have historically taken a broad approach to investing in the business-to-business services sector, but this effort would be to identify more narrowly defined categories within B2B services, and try to find investment opportunities that may or may not be on the market in those sectors,” Kulman says. “Using those executive networks will also help us to diligence opportunities we find through intermediary channels and better identify value-creation levers.”

The need for a more robust executive network is especially key right now given the competitive state of the market and a shift toward specialized sourcing. “The days of investment bankers taking a broad approach to marketing businesses are behind us,” Kulman says. “By bringing on people into an executive network and sharing those relationships with the intermediary community, it helps us to get looks at deals that are not going to be broadly marketed.”

Instead of making a deal before finding the right talent to lead the business, many middle-market sponsors are using their executive networks to pick the right leader first. In many cases, those executives also identify potential acquisition targets. These networks can give private equity sponsors a leg up on opportunities, especially in an incredibly busy M&A market. Plus, they can enter their bid with a management team already in place, which may give them an advantage over other interested buyers.

Post Capital Partners, a private equity firm based in New York, built its “Executive First” investing strategy with the goal of leveraging the expertise and

Principal, Huron Capital

connections of its executive partners. “The central idea is that the most important driver of value creation in a business we invest in is the quality of the senior leader,” says Mitch Davidson, managing director and co-founder of Post Capital.

The firm finds executives first, then potential targets. These executives might have a business in mind, or they can help Post Capital evaluate a company. Importantly, they “have a track record of success and either can develop a vision or a strategy for where they think there’s opportunity in the market,” Davidson adds.

This approach works particularly well for Post Capital because the firm tends to invest in smaller companies and is “almost always the first institutional capital in a business,” he says, adding that the businesses are “usually ready for that next level of institutional leadership and market knowledge and structure.” Having an executive already identified, who can meet with the potential company as part of the dealmaking process, can help the owners feel more comfortable with selling their business.

Since its founding in 1999, Huron Capital, a PE firm based in Detroit, has had an executive-led market entry initiative, which it branded “ExecFactor” in 2013. “It allows us to proactively search in attractive industry subsegments we’ve underwritten with an executive we’ve identified to build a business one add-on at a time,” says Michael Zukas, principal at Huron. “We go to a business owner with a fully developed thesis, with conviction around the market that they play in, and with the capital and resources needed to take their business to the next level.”

Having the right executive is a “way to differentiate and helps us drive clarity in terms of the types of opportunities we are looking for before even knowing which company we’re going to pursue first,” Zukas says. It can also put business owners at ease knowing they will be partnering with

a private equity firm and executive with shared values and a shared vision for growth.

In August 2021, Chicago-based PE firm GTCR launched its new Strategic Growth Fund to support “The Leaders Strategy,” an investment approach that is centered on GTCR’s thesis of finding and partnering with executive-level leaders to identify, acquire and build market-leading companies. The fund closed in January with $2 billion of limited partner capital commitments.

John Kos, managing director of GTCR, says The Leaders Strategy is especially important when buying companies that don’t already have a management team, like corporate carve-outs or businesses with a founder who “wants to transition out either immediately or shortly after the transaction.”

An executive network also gives GTCR an advantage in an active dealmaking environment. “We’ve made our initial platform acquisition with a team that we really trust,” Kos says. “Then we can go out and aggressively compete against people who don’t have that team.”

Finding executives for a network is all about marketing, say middle-market PE investors. That means identifying potential candidates, putting out feelers and spreading the word that the firm is seeking talented individuals to join its executive roster.

Kos says that he is often looking at strong enterprises and determining who the great managers are and who are the “number twos” looking to become number ones. “I’m proactively reaching out to people that I come across and just having conversations about their career in their industries and whether they might be interested in doing something like this,” he says.

Walter Florence, managing partner of Chicagobased PE firm Frontenac, says that in addition to reaching out to executives directly, the firm “never misses a chance to ask our friends in investment banking who they know.” He adds that some of the best CEOs tried and “failed” at retirement and are looking to get back to building a business.

“For many public company CEOs, the job becomes more about governance, corporate structure and external relations, and it is no longer about building great teams to deliver great products and services for customers,” Florence says. “Deals and companies in the lower middle market are smaller. You would be surprised how many executives had told us the most fun they have had in their career was running that smaller $50 million - $200 million division where they were empowered and could get their arms around all the issues and opportunities and really make a positive impact. Those are the executives that we want to work with.”

In 2014, Olivier Amice became CEO of Whitebridge Pet Brands through a deal with Frontenac, which happened six years after he was first introduced to the firm.

Amice previously had a long career working at Royal Canin, a pet food company, and resigned from the CEO role in 2008 when the company was bought by a consumer packaged goods company, which changed the culture. “I wanted to stay in the pet industry, working for a brand in a more entrepreneurial environment,” he says.

In 2010, Amice was brought in by PE firm HKW to lead FURminator, which makes pet tools and grooming supplies, after HKW acquired the company. He took on the CEO position because “18 months after they made the deal, they were not happy with the trajectory of the company,” he says. He stayed until 2012, when the company was acquired by Spectrum Brands.

Amice first met with Frontenac in 2008, and in 2010, he worked with the firm to evaluate a pet distribution company. (Frontenac ultimately passed on the deal.) In 2013, Amice looked at an opportunity with Frontenac to expand into pet products for one of its portfolio companies. Then in 2014, “we came across a pet treat opportunity and agreed to pursue it together,” he says. That led to Whitebridge Pet Brands.

By then, Amice and Frontenac had been working together for six years. He credits the firm’s long-term executive relationships with continuity in portfolio company leadership. “Their approach reduces the

significant risk of needing to change the CEO in the first two years that you often see in deals,” he says.

While Amice sees why becoming part of an executive network is an attractive opportunity— and one that has worked well for him—it’s not for everyone, especially when it comes to leading smaller companies. “You need to be more hands-on than in larger companies, you need to understand and be comfortable with the lender’s constraints, you need to be comfortable with the pace given the sponsor’s timeline,” he says.

He adds that a successful partnership requires the leader and sponsor to be on the same page in terms of their values, their perspective on management, and how they react to rough patches. “In my case, Frontenac and I had a long relationship before I became CEO of one of their companies,” Amice says. “We both knew we were compatible and complementary.”

And it worked out: In 2021, Frontenac exited

Whitebridge, having grown the company’s revenue by 10x, according to Amice.

JOHN KOS Managing Director, GTCR

Just as the type of company and role varies for each member of an executive network, so too does compensation.

“It depends on the objectives of each individual,” says Kulman of Five Points Capital. “In some cases, they’re looking to become the CEO of a business. In other cases, they may be people that have been CEOs of a business and don’t want to do it again, but want to actively be involved at a board level.” If they’re joining a board, or taking over as CEO, they’ll be compensated like a board member or CEO. If they’re investing their own money, they can also reap the rewards of success.

At Huron, “every CEO is unique to the situation,” says Zukas. “They’re not hired just because they develop a great ExecFactor idea. They must be seasoned leaders with the vision and capability to execute the value creation plan.” The firm offers executives upside potential through equity ownership and a competitive cash compensation package that scales with the platform. Huron also rewards executives who exceed their companies’ performance targets.

At GTCR, executives also invest their own money into the business “so when we buy stock in the company, we buy with them and they buy the same stock we do,” says Kos. “We give them a portion of the upside that they generate through the carried [interest] pool.” It’s like options they don’t pay for, he adds: “They get the payout if they generate returns for investors and themselves.”

Financial returns and compensation are part of what make the investor-CEO partnership effective, but success also requires both parties to feel good

about the arrangement, and even be willing to do it again.

During an interview on ACG’s GrowthTV, Michael Pfeffer, Davidson’s co-founder at Post Capital, described a successful partnership as one where each party can give the other a strong recommendation after selling the business. “To me, that’s the best determinant of success,” he says. “And I’ll go one step further: Can we do it again?”

By bringing on an executive they’ve worked with previously, private equity firms can save time, energy and money, and reduce the risk that comes with an untested leader. Instead, they can hire someone they know well and work with them again—and again, and again. //

JEN A. MILLER is a freelance writer and author of “Running: A Love Story.” She lives in New Jersey.