Private Equity Firms - White Knights or a CEO’s Nemesis?

Author: Gail R. Meneley

The dramatic growth in private equity investment has created a new dynamic for CEOs.  When outside investors capture a majority interest in a company, the ability of the CEO to influence outcomes is often greatly diminished. Frequently, CEOs and private equity investors find their interests at odds since private equity (PE) firms often focus on a three- to five-year investment horizon, while the CEO often has longer term, strategic interests. Given the nature of the LBO/investment lifecycle, CEOs may feel compelled to maximize short-term returns at the expense of making smart, longer term investment decisions for the company.

Managing competing interests isn’t easy, but doing it successfully is critical to a CEO’s tenure.  I worked with the CEO of a multi-unit retailer. For the first several years, results were outstanding. Then the economy started to weaken, the business faltered, and a private equity firm bought a significant stake in the company.  The CEO realized that underlying assumptions built into his company’s business model were wrong, and developed a long-term strategy and turnaround plan that required additional investment.  New shareholders viewed investment as counter to their business interests and blocked the plan. Ultimately, the CEO lost the battle—and his job.    

Let’s be clear: Outside investors and CEOs are not always on opposite sides of issues.  Investors also serve as “white knights” that bring capital to turnaround a failing business and provide funding for growth and innovation. The key is to be perfectly clear about everyone’s business interests and expectations at the front end, rather than being surprised when the pressure is on.   

Unfortunately, I see more CEOs who didn’t take the time to fully understand investor expectations, and who didn’t realize that “long term” means different things to different people. They believed that once they established relationships with the investor group that they would be able to convince them of the wisdom of taking a longer view.  Whether it was naiveté or a failure to conduct appropriate due diligence into investor behavior, they never fully understood the underlying differences between their respective business models and priorities—particularly in a recessionary economic environment when other parts of an investor’s portfolio might be underwater requiring them to generate greater overall portfolio returns. 

CEOs are charged with balancing the shorter-term interests of a private equity investor with the longer-term interests of other corporate stakeholders. They must remain clear about the ultimate goal, principled in how the organization achieves it, and pragmatic about the fact that despite their best efforts, it is sometimes impossible to balance those interests.    

Savvy CEOs should take steps to protect themselves and their careers should the relationship with such investors become too difficult to navigate. This includes negotiating clear, comprehensive separation agreements to ensure that compensation and transition needs are adequately met in the event that a compromise can’t be reached.       

While the infusion of capital can be a positive thing for a company, it also brings a new level of complexity and a new set of challenges for a senior business leader. The key is to be fully aware of those challenges, have executive contract protections in place, focus on constructive dialogue, and watch for signs that the relationship is working…or not.  If it isn’t, pull the ripcord, and embrace the challenge that a new opportunity will present.

Gail R. Meneley is a principal and founder of Shields Meneley Partners, the premier consulting and transition firm for C-suite executives in North America. For more information, please visit www.shieldsmeneley.com.