Succession isn’t just a portfolio problem, it’s a PE firm problem too

It is no coincidence that the first part of the word succession is, literally, success. 

Leadership continuity is such an important part of an organization’s long-term sustainability that the strength of a succession plan can ultimately determine whether a business thrives or fails. Unfortunately for the private equity industry, the mass exodus of baby boomers from the work force, coupled with widespread talent shortages within areas such as technology and extended hold periods, has made it more difficult than ever to ensure adequate succession and leadership planning within portfolio companies.

Many baby boomers are reaching what has been dubbed the “Peak 65” retirement period. An estimated 10,000 to 11,000 baby boomers will turn 65 every day between 2024 and 2027 (4 million annually), with the surge expected to continue through 2029. And it is a trend that private equity firms are grappling with first-hand in many of their portfolio companies.

“Succession has become a substantial diligence item for portfolio companies. While in the past it may have been ‘hey, we’re looking at the CEO and the CFO,’ now there is another level where we have to say ‘okay, we have to look at potential succession for plant managers and the folks below, particularly in manufacturing and industrial companies,” says Mike Burke, the founder of private equity firm Sky Peak Capital, whose firm focuses on investments in lower middle market industrial businesses, specifically high tech industries such as aerospace, defense, medical devices and semiconductors. 

“It’s put an additional strain on the due diligence process to really dig even deeper, and it elongates diligence timelines,” says Burke, adding that PE firms have to engage recruitment firms earlier than they did in the past. The issue is on investors’ radar as well. “LPs want sponsors with more specialization, because you have to have a deeper roster of folks that you can pull from. If someone is a generalist sponsor in the middle market or lower middle market and is just relying on the same recruiters that everyone else is using I think it’s going to be really tough to differentiate. The best people are going to come from prior experience and knowledge with individuals,” says Burke.          

The struggle to find qualified candidates for portfolio companies is being felt by private equity firms across the board. There is an acute awareness that solely relying on headhunters, or tried and true recruitments methods that previously worked, is no longer sufficient. 

Why traditional recruitment pipelines no longer work

“We used to be able to start a search and go out and find multiple profiles that fit most of the criteria, with people who have been there and done that before. But that is no longer the case, especially in the lower middle market,” says Julie Stacey, head of talent for Blue Point Capital Partners, adding that the firm has become more proactive and begins its talent planning during the diligence stage to identify where making additions to the team will help achieve its growth goals faster post-close. 

“We try to take a much more proactive approach of mapping out what the human capital needs are going to be so that they are aligned to the growth that we develop within the first six to twelve months post-close on a deal,” says Stacey.

Faced with an increasingly difficult recruitment environment for senior talent, some PE firms are shifting the way they approach staffing leadership gaps within portfolio companies. 

Kelly Ford, a general partner at Edison Partners who manages investment in fintech and enterprise solutions, says that her firm hires in advance, unlike many that hire after a fund has been raised. 

“Tactically, for us, we’ll hire ahead of the next fund, so we’re ready to hit the ground running,” says Ford. Separately, she notes that, within certain industries and focus areas such as technology, her firm’s portfolio companies can face extreme imbalances in demand and availability for specific skills. 

One example she points to is the role of chief product officer, which is integral to a technology company’s success, but where there is a sizeable learning curve that makes it difficult to plug such roles without deeply experienced people. 

“It’s really hard to recruit for this role… there are absolute best practices that stand the test of time in companies, and if early career folks who now, technically, qualify for a chief product officer role did not learn from somebody with proven methods they are not going to be well equipped to introduce such disciplines and methods to a growth stage company that needs it,” says Ford. 

“My fear is that when the baby boomers, and even my generation (Ford is a Gen Xer), start to retire, if they haven’t invested enough into this product management, product leadership and product planning function, it’s going to become a lost art. And it’s already a science and such a critical function for the business,” she says. 

One way that some PE firms are trying to deal with shortages of such critical talent for portfolio companies is by creating formal programs to train people themselves, instead of just relying on recruitment. 

“We’re putting more emphasis on training and trying to let more junior individuals be in more senior level leadership and strategy meetings. We’re trying to encourage and understand who can move from the manufacturing floor into a leadership role and, ultimately, into a c-suite role,” says Sky Peak Capital’s Burke, adding that in the high-tech manufacturing environment “You really do have to build from within.” 

As part of its training efforts, Sky Peak Capital has also been partnering with universities to tap specialized engineering talent at the earliest possible point. Blue Point Capital Partners has also been doubling down on leadership development by trying to identify strong potential up and comers earlier and giving them the right coaches and mentors earlier than they otherwise would have had such training opportunities. 

“We try to take a much more proactive approach of mapping out what the human capital needs are going to be so that they are aligned to the growth place that we develop within the first six months of a post-close on a deal,” says Stacey. 

PE firms are also taking unique steps to make themselves more appealing to qualified candidates, such as Edison Partners’ decision to move its headquarters from Princeton, New Jersey to Nashville, Tennessee.

“One key thesis for relocating was the live, work, play dynamic and how such an incredible population of young talent either wanted to be here in Nashville or were already here,” says Edison Partners’ Ford, noting that in a post-COVID world it became clear that younger talent was less willing to commute to Princeton from places such as Manhattan or Philadelphia in the same way that people were before the pandemic. 

Succession challenges within PE firms themselves

Of course, succession challenges aren’t limited to leadership within portfolio companies, as many PE firms are struggling with succession planning and leadership continuity within their own organizations as well. One area that has been particularly impacted within PE firms is sponsor benches. 

“There isn’t a shortage in young, early career talent for PE. Where I think some of the challenges are in terms of shortages for PE talent is in the operating partner and value creation resources,” says Edison Partners’ Ford, noting that she constantly receives feelers from recruiters who are seeking operating partners or executives to lead value creation teams with the right experience gained from having worked inside portfolio companies as operators. 

“When folks commit, they want to understand that they’re backing a manager that intends to be loyal and engaged over multiple funds… because of the baby boomer dynamic, I think it’s top of mind for LPs,” she says, adding that LPs want to understand succession plans for PE firm leadership that contemplate at least a fund or two out. 

Another factor that has compounded the problem is the increased amount of time that funds need to hold portfolio companies before they can exit. With the average hold period having risen to seven to 10 years in the post-pandemic world, up from an average five to seven years before COVID, burnout among operating partners –the individuals at the heart of efforts to help turn around portfolio companies’ own leadership— has become an issue that many PE firms are grappling with. 

“We see people wanting to take time off, or they want to be really selective about what’s next after an exit, and they’ve earned the right to do so,” says Blue Point Capital Partners’ Stacey, noting that this forces PE firms to be more selective and realistic about the investment opportunities they can pursue. 

“We just don’t have the luxury of saying candidates must have had experience in a successful private equity-backed company that’s gone through an exit. If those people want to do that again, they’re typically moving up to a larger opportunity. Or they’ve decided that was hard, and it was a lot, and now they want to have a little more control over their time and involvement,” she says. 

One way that some firms are addressing the challenge of staffing both operating benches and senior leadership within portfolio companies alike is through phased retirement, where instead of just completely stopping work, older leaders and executives are easing into retirement by taking on lighter work roles and assuming senior advisory roles –a trend that industry experts say has exploded within the past decade. 

“Everybody is looking for operating partner resources because a lot of PE firms are facing a dynamic where our operating partners are in the last stage of their careers,” says Edison Partners’ Ford, noting that more and more executives are using advisory roles as an off-ramp to retirement.