For startups, high-growth ventures, and entrepreneurs, the provision of funds to foster and accelerate growth is one of the most critical success factors. Private equity (PE) funds represent a natural source of financing for companies pursuing risky and capital-intensive strategies. Their capital enables portfolio companies to transfer the financial risk in the case of a failure of business to private equity firms. In exchange, PE-backed company founders give up a portion of their equity, while the PE representatives get control rights as board members.
When it comes to venture capital, a VC firm is focused on funding startup enterprises, while private equity investors support already established businesses through expansion and growth. They also back management teams to buy out founders either in part or in whole.
To invest in an enterprise, PE investors raise capital from limited partners, creating a fund that’s known as a private equity fund. PE firms expect adequate returns to get compensated for these financial risks they’re taking with a PE investment. However, money doesn’t guarantee success because the finance function of PE-backed companies has several failure points that can be detrimental to the business. Improving the odds for private equity-backed companies requires better planning and execution from the financial side.
Identifying Failure Points in the Finance Function of a PE-Backed Company
According to a 2019 Deloitte report, the turnover rate for CFOs in PE-backed organizations is 80% over the lifetime of their hold. After acquiring the target company, the CFO is expected to be the ears and eyes for the new management, work on shorter timelines, and communicate financial reports and results at a much faster rate than before. Doing all that while being a leader and managing changes can be challenging or almost impossible for many.
What do we mean when we say that a company hired the wrong CFO? It means that he or she:
- Lack of initiative and communication skills
Once the company has been taken over by private equity fund managers, the role of the CFO changes in many ways. PE investors expect their CFOs to communicate better, be accessible for ongoing conversations, and be more open and less judgmental during the process. Also, CFOs must be more active in communication, be focused on conveying what’s relevant to the PE firm, and learn to adapt their style of communication to that of the PE investor.
- Lack of adaptability and urgency
By stepping up to the needs of the PE firm, CFOs prove themselves irreplaceable. They must know the numbers and be able to efficiently and quickly communicate them to the PE firm. That requires them to think in terms of weeks and quarters and then explain the finance data into terms that the private equity firm needs to hear.
- Lack of professional skills
With the company being in fast-growth mode, the CFO must be focused on the numbers to produce timely analysis. They need to focus on earnings before amortization, interest, depreciation, and taxes. Most PE-backed portfolio companies also need to implement an ERP system and use it properly, which takes more resources and time to set up and manage. This will back up the CFO with the most relevant metrics, numbers, and variables.
- Lack of team management skills
The CFO’s role is to empower and strategically lead their team regardless of the new business structure. But even those CFOs who have proven their team management skills can run into obstacles in PE-backed businesses because the management team’s infrastructure can be in flux. CFOs need to brush up and adapt their leadership skills and empower the leaders within the company.
- Lack of commitment and loyalty
A private equity firm is focused on building a strong organization that will keep growing, so the CFO’s commitment to the company’s growth is non-negotiable. Chief Financial Officers of PE-backed organizations fail because they lack loyalty to the new board and ownership. Having a CFO who believes in the mission rather than the ownership and board will have them take on new responsibilities to help the company prosper.
- Finance and accounting staff hiring process
Trying to hire the right people and train them quickly is another failure point in the finance function. In PE-backed companies, the existing management infrastructure can be in flux. The CFO (who is often an outsider) has to determine which people can lead the team under which circumstances and empower them. Any mistakes in the assessment process could lead to failure in the department, and the CFO must always remember that skills and experience are worth more than job titles.
A company needs people who can contribute, believe in its mission, and help transform the enterprise. But to delegate and empower finance department employees the right way, the company should also teach people from other departments to speak finance to help finance be more productive. When everyone understands the company’s financial position, shifting the culture towards transformation can be achieved more efficiently and smoothly.
- Researching, selecting, and implementing software
Finding the right, comprehensive software solution for a company’s business requirements is only the beginning. Software implementation, integration of disparate systems, and training take time. If it’s not conducted correctly, then the company has a failure point that can decrease data accuracy, department efficiency, create data silos, and break the business.
Low-growth businesses can survive with a combination of Excel spreadsheets and desktop accounting software. But in a high-growth company that will soon grow in complexity and revenue, you will need more than a simple general ledger to support your operations. The financial management platform you choose needs to be flexible, scalable, and right-sized for today. On the other hand, it needs to be modular enough to future proof your company’s future operations with capabilities such as:
- Digital procure-to-pay capabilities
- Management of contracts and renewals
- Multiple currencies
- System-driven revenue recognition
- Multi-entity support
Furthermore, the software system should be able to sync and integrate with the CRM (Customer Relationship Management), order management system, and other business-side operational systems in order to maintain a centralized database and a single source of information.
- Financial reporting
PE-backed companies need timely and accurate financial reports that verify that all monetary transactions are being processed properly. Also, the management needs reports to make data-driven decisions and make sure that all compliance needs are met.
Understanding the company’s cash flow and balance sheet is CFO’s primary responsibility, and these numbers are more complicated in the case of a PE backed company. Some private equity firms (PE) demand weekly (or even daily reporting), and such emphasis on cash flow is more demanding than in most company environments.
Developing insight occupies much of the CFO’s time. They need to get into the tiniest details of what creates costs and ensures value creation at the private equity-backed company to reveal what matters most in its operating leverage. Of course, pre-existing reports won’t help them understand the business, and the financial information won’t be obvious. The CFO will have to build a viable level of clarity while launching improvement initiatives and running the current operation.
Every PE firm must focus on optimizing its portfolio companies’ finance function through a 100-day plan, and the CFO typically has to deal with that. This financial plan is necessary, and it has to cover everything related to optimizing F&A processes and upgrading software so enterprises can detect which processes and systems are slowing them down.
However, the CFO doesn’t have 100 days to focus on creating and implementing the plan. That’s where outsourcing your finance function comes as an excellent and cost-effective solution. Finance as a Service provider like Consero can help you optimize your F&A function in the first 100 days after the private equity investment. We help CFOs and CEOs develop and execute a unique 100-day plan tailored specifically for your portfolio company and allow the CFO to deal with the strategic work. With Consero, the entire procedure will only take a part of your CFOs time.
Consero and PE-Backed Companies
Consero is a FaaS provider led by experts in the field of finance and accounting. We have experienced private equity professionals who can take over the strategic CFO role in your portfolio company, provide necessary tools for centralizing your database and process automation, and help your department deliver accurate financial reports to the CEO.
Many PE firms have leveraged our FaaS in their 100-day plan and have accelerated the timeline to getting an F&A function that’s fully optimized. The portfolio company requires new organizational structures, developing transformational processes, and sharing new kinds of knowledge to grow. Having the right systems, processes, and people in place will help the portfolio executives focus on strategic guidance and develop and implement long-term strategies that will support company growth.