In one of their more comical endeavors, Kramer and Newman of Seinfeld fame decide one day to reverse the peepholes on their apartment doors, allowing anyone who so chooses to have a clear look inside. Kramer boldly proclaims, “If somebody wants to help themselves to an eyeful, we say ‘enjoy the show!’”
If only it was that easy for PE deal teams trying to get a peep into the capabilities of an investment target’s management team and even the organization itself.
Gaining even a cursory assessment of the leadership team talent is one of the most important priorities during due diligence. Ideally, deal teams want to determine whether the existing team, specifically the CEO, will be capable of delivering on the investment growth thesis and, if not, to what degree changes will be needed.
Unfortunately, generating a true and complete picture is difficult. More than 80% of our PE clients complain of their inability to engage in much other than generic management review meetings. In those meetings, management teams are typically wary of disclosing much, fearing the deal team might not like what they see and begin plans for sweeping changes. Firms in “sell mode,” along with their investment banks, often even refuse to let their management teams be interviewed. Investors who push too hard can be seen as overly intrusive, running the risk of losing the deal to competitive buyers.
Such was the case with a recent healthcare deal. While our PE client pushed for more management interaction pre-sale, they were concerned about appearing overly intrusive and losing the deal to competitive buyers, so they opted not to push too hard. Instead, they relied on a proven founder CEO and a management team with excellent credentials and industry experience. The investment thesis was then predicated on a strong management team with seasoned leaders. What the PE firm didn’t know—what a pre-deal assessment would have uncovered—was the significant dysfunction between the CEO and COO and a very silo’ed management team. Within 12 months of the transaction, the company’s growth plan stalled and the resulting valuation declined significantly.
There are direct correlations between the management team and organization capabilities and business performance and value creation. While talent issues do not typically stop a deal entirely, it is important to start assessments as early as possible. These are some of the techniques deal teams can employ to learn more about the acquisition target during diligence:
Invest in the partnership
From the beginning, spend time building your relationship with the target CEO. PE deal teams should telegraph their intentions and desired outcomes and keep portfolio management teams apprised of their processes. Building trust and operating with transparency is critical. It will be crucial once the deal closes and the time to institute change arrives.
Show your value as experts in scaling organizations
Understandably, PE is often seen by management teams as a threat. Neutralize this fear by ensuring that you are seen as adding value that will help the organization grow and allow executives to develop professionally. Sell your firm’s expertise in identifying and developing talent strategies and offer the resources you possess to help the business grow.
Ask the right questions
Management presentations during diligence are heavily focused on financials, business performance, projections, etc.—the Q&As often follow suit. Use this time wisely to ask about the team. Attempt to arrange one-on-ones with key members to better understand team dynamics and inquire about individual experiences, skills, motives, agility to grow. Gauge the level of commitment you will have from these individuals in helping the company achieve its goals.
Set the stage for what should happen after the transaction
As experts in value creation and organization scaling, PE must ensure that the portfolio management team understands what will happen in the first 60-to-90 days following the close of the deal. There will initially be a growth strategy and value creation plan co-created with the management team followed by a capability review to determine whether the talent required to be successful resides in the organization or must be sought after. This organization assessment will result in the creation of the human capital playbook needed to deliver on the agreed strategic plan.
Due diligence will always be a precarious dance between buyer and seller. The expectations need to be established and realistic from the beginning. PE investors need to lean in on the process and communicate early and often. Talent is often the greatest lever to creating enterprise value. It can be a nemesis too. Deal teams need to start as early as possible. The clock is ticking!
Dan Hawkins is Founder and President of Summit Leadership Partners, a consulting firm advising boards, investors, CEOs and senior leaders on delivering peak organization performance.