Despite the recent steep decline in private-equity deals, the job market for CFOs at portfolio companies promises to brighten later this year.
A possible easing of the credit crunch could provide more funding for private-equity acquisitions, resulting in top-management shake-ups at many newly acquired companies. At the same time, the tough economic environment could prompt private-equity firms to replace finance executives at portfolio companies that fail to perform as expected.
In late April at the Milken Institute Global Conference in Beverly Hills, Calif., two executives involved in private equity offered glimmers of hope that more debt financing will be available later this year. Leon Black, founder of Apollo Management, was quoted as saying, “We’re well on our way” to a recovery in the credit markets; and David Solomon, co-head of investment banking at Goldman Sachs, reportedly said, “Things feel better.”
Indeed, banks and brokerage firms have reduced their U.S. leveraged-loan volume to $93 billion at the end of April from a peak of $237 billion in July, according to Standard & Poor’s, which could open the door for new loans. On the other hand, S&P also warned that curbed investor appetite for buying leveraged loans in the secondary market is forcing up interest rates on such loans.
While acknowledging that private equity’s search for CFOs “has gotten a little quieter” this year, Christopher Langhoff, a consultant at executive recruiting firm Russell Reynolds Associates, said private-equity firms still need new CFOs, particularly for their smaller portfolio companies.
“We’re seeing quite a few CFO searches this year for companies with annual revenues of $10 million to $20 million,” said Langhoff.
Private-equity deals have recently skewed toward smaller companies largely as a result of tight credit. The average private-equity acquisition in North America totaled $101 million for the first quarter of this year, compared with $475 million during the same period last year, according to Mergermarket. The number of acquisitions declined 44 percent, to 138 deals from 249.
Small companies, often harder hit by rough economic seas, are more likely than large ones to switch CFOs in the months ahead, Langhoff said. But he added that he expects to see an across-the-board uptick in private-equity CFO searches thanks in part to the poor economy.
“With the sheer magnitude of private-equity transactions the past 18 months, a natural evolution will work itself out,” said Langhoff. “A honeymoon period will end, and they (private equity firms) will decide that some guys and gals are keepers, and others are not. And given the economy, such as it is, poor performance will hurt some teams. Private-equity owners will not hesitate to make changes.”
Private equity’s sensitivity to performance underscores the fact that CFOs at portfolio companies face different kinds of pressures than do those on the public side.
While finance executives at portfolio companies escape the tyranny of quarterly earnings reports and the burden of regulatory compliance, they often must focus laser-like on cash flow, needed to service the substantial debt that private equity firms incur.
“Private-equity owners ideally want somebody who has already had private equity experience,” said Walter Williams, a partner at the executive search firm Battalia Winston International. “But second, they want somebody who has worked in a financially leveraged company, private or public. That means private-equity owners want people who are operationally oriented as opposed to accounting oriented, somebody who can focus on how to improve operations to free up cash, whether that means selling assets, getting rid of non-performing product lines, or downsizing the organization.
“In a highly leveraged environment,” Williams added, “you have to deal with a sense of urgency, to make decisions and move on. It’s not for the faint of heart.”
As for remuneration, according to Williams, a CFO at a portfolio company might earn 20 percent to 40 percent less in total annual cash compensation than a CFO at a similar public company — commonly, a similar base salary minus an annual bonus. But he said private-equity CFOs can earn a payout of 5 to 10 times their annual salary when the company is sold or following an initial public offering, typically anywhere from 18 months to five years from the date of acquisition by the private-equity owner.
“The payoff could be a lot higher if the CFO joins very early in the cycle and the company grows a lot before the sale,” he said, “or it could be lower if the company is sold quickly or if growth or cash flow stalls.”
Working for a portfolio company takes a different mentality than at a public company, a mentality that does not necessarily suit every CFO, according to Williams.
“I worry that somebody who has worked for a big company for 20 years can make the transition to a smaller, entrepreneurial company,” he said. “Some people not in the private-equity world don’t understand that you’re not working up the corporate ladder; you’re working for a specific goal.”
Brett White, CFO of the Silicon Valley tech company Meru Networks, is typical of CFOs who are focused on the transaction that produces the hoped-for payoff, otherwise known as the exit.
“I was brought in to bring the company public,” said White, who joined Meru, a provider of wireless, data-networking infrastructure, in January. Following the IPO, anticipated in about a year, White said he will probably stay at Meru until he is fully vested in his stock options, commonly a four-year period.
White’s resume exemplifies the kind of well-rounded experience that private-equity firms often seek in a portfolio company CFO. Beginning in 1989, White spent 10 years at Oracle, rising from finance manager of an international division to the company’s vice president of finance. At the international division, White was involved in setting up stand-alone Oracle operations in emerging markets such as Brazil, Chile, and India — often on an initial outlay of about $250,000 per startup.
“Under the umbrella of a big company, I had a lot of experience building small companies,” he said. “That was very helpful.”
After leaving Oracle, White moved on to the CFO position at two more publicly traded high-tech companies and then worked as CFO of a private tech company for two years before joining Meru.
White said that “it takes a certain kind of person who can take the risk and build a company.”
“In a public company,” he said, “you usually have a larger and more experienced management team. But if you’re the CFO at a smaller startup, a lot of what the company does will fall on your shoulders. You’ll probably be one of the most seasoned, mature people there. There’s a lot of pressure to get things right, because the business can succeed or fail based on decisions you make every day.”