So You Want to Be a PE CEO?

Running a private equity portfolio company comes with unique challenges and a high level of stress. Before you take the plunge, make sure you’re cut out for the job.

by C.J. Prince

Ben Breier never expected to be running a company backed by private equity. In 2014, he became CEO of public company Kindred Healthcare just as it was completing a $1.8 billion hostile takeover of home health provider Gentiva. He helmed a successful merger that included finding $100 million in synergies while retaining 99 percent of the Gentiva team, then went on to deliver year-over-year growth and a spot on Fortune’s list of “Most Admired Companies” every year. Yet, the stock price remained volatile, slumping from a high of $25 in 2014 to around $11 by mid-2016.

“After the Gentiva deal, we were suffering from several years’ worth of reimbursement and regulatory changes in other parts of the business,” says Breier. “That had done some real damage to our earnings and had driven leverage higher than what we expected or wanted. Our balance sheet needed to be reworked.”

Enter private equity. Approached by a PE firm in 2016, Kindred’s board opted to initiate a competitive bid process. The result was a complex hybrid deal in which TPG Capital, Welsh, Carson, Anderson & Stowe and insurance company Humana teamed up to buy Kindred, breaking it up into two companies, one spun off and owned by Humana and the other owned by the private equity firms and run by Breier. It took nearly 18 months to hammer out, but the deal to take Kindred private was finally done in December of last year. “I like to say it was partly inspiration, partly desperation and a lot of perspiration until we finally got there,” says Breier.

I’m not sure it’s better or worse, but it’s different. It’s the proverbial devil you don’t know.”

—Ben Breier, CEO Kindred Healthcare

While due diligence was thorough and Kindred’s shareholders agreed the $810 million deal seemed right, Breier, as a public company CEO who had never led a PE portfolio company, had his own trepidation about the new structure. “You have people putting in a significant amount of capital, and they have a determination around wanting to get returns on that invested capital. I’m not sure it’s better or worse, but it’s different.” He knows the pressure to deliver will be considerable and, with a new kind of owner, the future unknown. “It’s the proverbial devil you don’t know.”

A Short Shelf Life

Breier’s concerns aren’t exactly unfounded. Turnover among private equity CEOs is notoriously high. According to AlixPartners’ 2017 annual private equity survey, 73 percent of CEOs are replaced during the investment life cycle, and 58 percent are gone within two years. Even CEOs brought in by the PE firm don’t have an especially long shelf life. “The hard fact is that, half the time, when we do change the CEO, nine months later that person is not standing,” says Mike Lorelli, operating partner for mid-level private equity firm Falconhead Capital. “Those statistics frighten off some people, but that’s probably a good thing because the people who are scared off are probably not right for the job.”

In an effort to figure out what makes a successful PE CEO candidate, search firm Russell Reynolds analyzed 75 PE buyouts to identify the characteristics shared by both the most successful and the least successful CEOs. For starters, while industry experience was key, PE experience mattered a lot less than one might think: of the top 25, only one CEO had led a portfolio company before. “So you look at background and you can see from the data that the successful ones have a long track record in the industry. They’ve had P&L in the industry. They’re more focused on high growth and less on cost takeout,” says Mark Adams, a consultant who works with Russell Reynolds’ board & CEO advisory group, as well as the private equity and global insurance practices.

But while there are some hard commonalities, a lot of the differentiators relate to style—good communication and collaborative skills, an “even-keeled demeanor,” the tendency to be “humble” and the ability to empower others. Lorelli, who has run four PE portfolio companies, adds that there is a big demand for leaders with traditional CEO backgrounds “because they know when it’s done right, when it’s done with precision, when it’s done to huge scale.”

Perhaps the greatest determinant of success in the role of PE CEO is the ability to honestly self-evaluate and approach the opportunity with a cool head. “It always sounds so enticing when someone says we have this company, and we just invested and it’s going to be three years of growth and a great payout—it all sounds great,” says Lenny Castiglione, CEO of PE-owned OB Hospitalist Group. To evaluate the deal, he adds, “You have to take emotion out of it.”

To begin the self-assessment, consider the following questions to help you determine whether running a PE portfolio company should be your next act.

Q: Can you be satisfied executing your sponsor’s strategy?

A: In most cases, PE investors have an investment thesis that plots the path from point A to point B and need a good steward to take the company there. “The exit strategy has been baked into the deal,” says Matt Brubaker, CEO of FMG Leading, a strategy and human capital advisory firm, and operating partner at WindRose Health Investors, a New York-based private equity firm. “So you’re not really formulating a strategy, in the traditional sense. If you have a deep appetite to do that, it would be very frustrating.”

The exit strategy has been baked into the idea. So you’re not really formulating a strategy, in the traditional sense. If you have a deep appetite to do that, it would be very frustrating.”

—Matt Brubaker, CEO of FMG Leading

He adds that the CEO does have to be strategic about how to get there. But at the end of the day, if your view conflicts with your investor’s view, you’re probably not going to win—and even if you do, it won’t be worth the fight. “If all your energy is spent trying to convince the investor they’re wrong, you just end up out there tilting against the machine instead of fixing the fundamentals, which is ultimately what they hired you for.” Soon enough, you’ll be gone.

The “my way or the highway” modus operandi won’t be true of every PE company, says Castiglione, whose company was owned by Ares Capital until it was purchased last year by Gryphon Investors. “The smart PE firms realize they have a ton of financial technical expertise; that’s what they know how to do. But they don’t know how to do operations or strategy or human capital,” he says. “The good ones hire CEOs who know how to do that.”

He adds that the key is to know what is expected going in—where their role ends and yours begins—so you can be realistic about what you’ll be satisfied with.

Q: Can you cope with being micromanaged?

A: This depends both on the individual PE firm’s style and your own perspective, as one CEO’s micromanagement is another’s collaboration. In almost all cases, you will have a lot more interaction with your board as a PE CEO than you did with even the most involved public company board. “If you’re super collaborative, that can be a lot of fun,” says Brubaker, “but if you’re testy, that can be a real challenge.”

Lorelli says the level of micromanagement will depend on the PE firm. “There are all kinds of PE firms. Some are very empowering, and some are micromanagers. I personally don’t do well when I’m being micromanaged. If you’re going to make me CEO and you hire me to do the shoveling, then get out of my way and let me finish shoveling.”

At the same time, the PE firm lives and dies by its track record with investors, and it has to return that value or it will have a hard time raising the next fund, says Lorelli. A little micromanagement isn’t out of line. “They’re mindful of their scorecard, what their internal rate of return is, because people are going to be looking at them versus the IRR of other private equity funds,” he says. “At the end of the day, the PE company owns the business and [has] more electoral votes than you do. You have to be comfortable sharing your pillow, or it won’t be a good marriage.”

Castiglione recommends speaking to at least five CEOs who have worked for the PE firm you’re considering to get a picture of how heavy handed your new partner may be. At the same time, be realistic about the level of communication required. Castiglione holds monthly financial meetings and quarterly board meetings, but he speaks to his PE partners and board weekly. “That’s not just because they demand it, but because they’re capable of giving great advice and input,” he says. It also helps set expectations and ensure his investors won’t be surprised by anything that comes up. “That’s just what you do with good business partners—you engage with them,” he says. “Nobody likes surprises.”

At the end of the day, the PE company owns the business, and [has] more electoral votes than you do. You have to be comfortable sharing your pillow, or it won’t be a good marriage.”

—Mike Lorelli, Falconhead Capital

Q: Can you make decisions in warp speed?

A: This won’t be unfamiliar territory to any CEO, but particularly for PE companies, which have promised a given return on a specific timeline, the wins need to come swiftly. There is precious little time to waste on strategies that aren’t working or people who aren’t working out. Firing fast isn’t easy for anyone. A study of more than 3,000 CEO and C-Suite members by ghSMART and the University of Chicago found that 43 percent of CEO candidates had a repeated pattern of either hiring poorly or not removing underperformers quickly enough.

“You agonize because you have loyalty, personal feelings, you like the person. Those are good reasons,” says Lorelli. “But when you’re agonizing, 11 times out of 10, you look back and say, ‘What took me so long?’”

He adds that PE CEOs need to be comfortable making decisions when they only have 50 percent of the information they’d like. “By the time you have 75 percent of the information you need to feel comfortable making the decision, it is too late to make it, and one of your competitors has just outdistanced you by getting there first,” he says. “So you have to have a real comfort level with your own instincts. The stomach is really the most wonderful microprocessor.” At the same time, you can’t unilaterally make big decisions to change direction—you need both input and buy-in from your PE partners. The ability to take that all in, have those conversations quickly and change course is critical. Rash decisions can also be disastrous. “It’s always a fine balance between being impulsive and being in analysis paralysis. That’s the heart of it,” says Faisal Hoque, founder and CEO of Shadoka, which manages a portfolio of technology companies. “You need data, but you also need to be a risk-taker whereby you can make faster decisions. The ability to balance those two factors—that’s experience.”

Tricks of the Trade

Know the deal.

To avoid surprises, understanding the equity structure is critical, including details of loan covenants and investors’ preferred returns—and their potential impact on your piece.

Go fast on tech.

Make transformative tech investments early to reap benefits as soon as possible. In the timeframe a PE CEO is working in, installing pricey new platforms later doesn’t make sense—and may meet resistance from investors.

Go fast on people.

Lose the change-resitant C-players and grab game-changing talent quickly—even if it means making above-market offers. “You have to be very decisive,” says Marc Krigsman, CEO of ad data firm SQAD, backed by Clarion Capital Partners, “because the first couple of years are when you will have access to the resources and capital that the PE firm has to put to work.”

Manage what matters.

Be sure you’re focusing on the same things as the investors. “EBITDA trumps all when you’re dealing with PE firms,” says Kurt Schneider, founder and CEO of 4D Brands and former CEO of the PE-backed Harlem Globetrotters. “That’s a mind shift. The sooner you understand that, the sooner you’re aligned.”

Watch the exits.

If the company is sold at an above-market deal, the CEO may be rewarded on a performance-driven scale, such as multiple of invested capital and/or internal rate of return. Understand all the scenarios and what they may mean to you.

—Patrick Gorman

Q: How many hats can you wear?

A: This is an issue primarily for smaller companies but can apply to any size company in a turnaround. When money is tight and support is minimal, CEOs will look more like scrappy startup founders, juggling multiple roles and managing hundreds of details. That’s where the stereotypical Type-A CEO personality comes in handy, says Lorelli. “Actually, we don’t have a Type-A personality—we have a Triple-A personality. We make the Type-As look like Type-Bs.”

Before moving over to PE, Lorelli had twice served as division president at PepsiCo. The switch from consumer beverage giant with plenty of administrative support to CEO of Water-Jel Technologies—where he introduced lean manufacturing and oversaw a three-point gross margin improvement and 20 percent working capital reduction—was a very big change, indeed.

“When I had to go to Staples to get something, I would walk the halls and yell out ‘Staples! Anyone need anything? I’m going now!’” he recalls. “You really have to be a roll-up-your-sleeves guy.” Those who can work without a staff and who can do double duty as CEO and COO will have a better chance of successfully leading a portfolio company to exit. “You have to be able to, in the same paragraph, work at 50,000 feet and then fly down in your helicopter and chop hedges,” he says. “Because you’re operating at both altitudes all day long.”

Breier doesn’t want to guess at the chances he’ll still be CEO of Kindred a year from now. But he is optimistic, largely because he believes he chose PE partners who provided both a compelling case for shareholder value and also share Kindred’s values and goals of solving the problems of the aging American population. The pressure might be intense under new private ownership, but Breier argues it can’t be much worse than what public companies face today.

“I always thought looking out three to five years to create shareholder value was in my job description as CEO. But the world of activism and hedge fund–driven ownership has gotten so overblown that it puts a lot of stress on boards and on CEOs like myself to think far more short term than mid- to long term,” he says. “In this day and age, God forbid you miss a quarter—they’ll take you out back and shoot you.”

Compared with the public company firing squad? Breier figures the devil he doesn’t know might just be the better bet.

C.J. Prince is a regular contributor to Chief Executive and other business publications.