Staffing tensions between PE firms and portfolio companies persist

Let’s say you’re a chief financial officer at a PE-backed company.

It’s a new gig, the product of a resume filled with years in upper-level management positions at various multi-billion-dollar public companies.

In your previous positions, you grew accustomed to abundant resources at your disposal, including a stable of savvy colleagues.

But in your new position, things are quite different. There aren’t enough qualified people in critical roles, and the PE owner’s hyper-focus on the bottom line is tempering additional hiring.

You find yourself at an impasse: You need to bring on more talent, but you’re facing pressure from the PE firm to hold off on any additional spending as the asset class grapples with debt coming due in a high interest rate environment.

Your situation isn’t uncommon. Last month, a survey from advisory firm BDO showed that almost half (47%) of portfolio company CFO respondents reported that their companies are understaffed in critical roles, and 49% of fund managers and operating partners reported similar understaffing.

‘Do more with less’

While it’s impossible to generalize PE firm behavior, there are some overarching characteristics that could contribute to portfolio companies’ talent problem. Namely, many PE funds are driven by a focus on EBITDA, which places an emphasis on improving portfolio company margins and ultimately fund returns, and often prioritizes cost-saving strategies.

The implementation of these strategies can include the elimination of certain roles, especially during periods of inflationary wage increases. As PE funds face higher borrowing costs due to impending debt maturities, they’re placing pressure on portfolio companies to dial back spending.

“Most of the private equity owners are squeezing their portfolio companies pretty hard to generate revenue and profit to beat their projections,” said Alan Johnson, president at Johnson Associates, a compensation consulting firm. “So there’s not necessarily a lot of leeway to hire a lot of people.”

This method of portfolio management can result in a disconnect between the priorities of fund managers and those of the executives running the portfolio company. At the fund level, managers—tasked with cost reduction and efficiency mandates—crunch the numbers and scrutinize every additional expense, including hires, at the portfolio company.

Meanwhile, on-the-ground executives running the companies approach the task from an operational perspective, asking themselves, “How can I get done what I need to get done while keeping the company running?” said Jim Clayton, BDO’s national PE advisory leader.

This dissonance is evidenced in the survey, in particular, with larger funds: While over half of portfolio company CFOs owned by funds over $15 billion said their organization was understaffed, over a quarter of fund managers said the same organization was actually overstaffed.

Also, portfolio companies owned by larger funds (with over $15 billion in AUM) felt the effects of understaffing more acutely than smaller and mid-sized funds: 60% of CFO respondents at companies owned by these larger funds said key roles are understaffed.

CFOs’ challenges at larger funds could be a product of their prior experience. When selecting a C-suite executive to run their portfolio companies, larger PE funds tend to hire CFOs with a resume of leadership positions at bigger companies, said Stephanie Davis, leader of Korn Ferry’s private equity and technology practice.

Often, these CFOs are accustomed to working with a wider swath of resources at their disposal and may balk at private equity’s “do more with less” approach, she said. CFOs coming into a PE-backed company from a larger corporation may have a harder time working under resource constraints compared to CFO from a smaller corporation.

CFOs coming from smaller organizations are likely more accustomed to working for a nimbler operation, Davis added.

Private equity’s main squeeze

Despite tension between the PE owner and its portfolio company, Davis said the staffing issues haven’t culminated in many CFOs leaving their positions.

“Unless the situation is an absolute nightmare, we see those CFOs sticking through to the end with those companies. So while we hear about the challenges they’re facing, it’s not enough for them to leave those companies,” Davis said.

Still, the economic environment has changed, and the infamous tension between portcos and fund managers has been exacerbated by high interest rates.

As a result, PE fund performance has lagged: PE’s one-year horizon IRR strategy hit -1.2% overall, according to PitchBook’s 2023 Global Fund Performance report.

Larger funds valued above $1 billion (also the funds that own the portfolio companies with the largest amount of understaffing) saw the largest performance dip of any size bracket.

In your new position as CFO, you find ways to work under these constraints: contracted employees, interim executives, doubled up workloads, extra hours. No more free lunches and in-office yoga sessions.

But you worry about burnout and turnover and the long-term impacts of manning an extra-lean operation.
For now, you roll up your sleeves, get your own coffee, and wait for the tide to shift.

Featured image by Drew Sanders/PitchBook News