What is your take on the trend by private equity firms to sell their portfolio companies to other private equity firms? Isn’t that passing the hot potato?
No. You have to look into the specifics of each deal. When you see one mega-firm selling to another mega-firm, yes, that looks like a hot potato. But we have now sold four or five companies that have gone from us, to larger market firms, and then to a mega-firms. A great example is Bright Now! Dental, our dental services company. We sold to it to Freeman Spogli & Co., an upper-middle-market firm. And then they sold to Welsh, Carson, Anderson & Stowe. So, it’s now a bigger company. It’s just going through a life cycle. Intelligrated is another great example. We reached an inflection point in this company’s maturation where it could have had a better sponsor than us for where it’s going next. Since Intelligrated now had international opportunities, it made sense that it went with a global private equity firm. And, of course, you’ve got to return money to your limited partners.
What is the most important thing LPs look for besides a history of returns?
They look for a differentiated competitive position. Something that’s supporting those returns from a business model or strategy perspective that’s providing some sort of competitive advantage, maybe an X factor they believe will allow those returns to be recurring. Also, more than ever, they’re looking for a team of people. The business I entered in 1989 was a star-system industry filled with “deal cowboys” doing their own thing off the Rolodex. The market inefficiencies were such that that was enough. That’s no longer true. LPs are trying to figure out what makes teams really work. It’s hard. And I think some LPs do a really good job of it, and others don’t go as deep as they should.
What types of LPs do you most like working with?
The LPs we most like working with are more experienced, smarter, more fact-based, and more willing to roll up their sleeves. They are people who have been investing in private equity for two or three cycles. In other words, it’s not their first rodeo. There’s just no substitute for experience. From the perspective of the quality of the questions asked, we do really well with folks that have active co-investment programs. Those are some of our best LPs.
How has the private equity community in San Francisco evolved in the last few years? You have TPG Capital, Kohlberg Kravis Roberts & Co., Hellman and Friedman, Francisco Partners, Golden Gate Capital and others. Is PE growing in San Francisco?
San Francisco has had most of those firms for 15 or 30 years. Most of the newer names you mentioned are tech-related, for natural reasons. But why would this industry have so many more pure private equity firms than Los Angeles? I suppose it’s just a nice place to live. There’s a creative energy here, because of the tech industry. There’s a bias towards innovation that’s in the air. Mostly, the private equity community is pretty collegial. There is minimal poaching of people. On the other hand, you may get to know some of these people on the soccer field because their kids play soccer with your kids. Just seeing the way another private equity guy treats the coach, or acts towards the other parents, and is known as a ‘great guy’ with the LPs. That’s when you’re like, ‘That person’s known as a good guy? You’ve got to be kidding me.’
What is the most unusual aspect of your background that really serves you well in private equity—something that not on your official resume?
I went to public high school in Fresno, California, and played team and individual sports. The things you learn from playing sports matter a lot when relating to the owners and managers of the kind of small businesses that we seek to buy. I was fortunate to be on the city championship soccer team, and I was the city champion pole-vaulter. But I enjoyed soccer more. People who have played in team sports learn at early ages things can often take years to learn in organizational structures. So team sports are a wonderful way to learn how to really play properly and purposefully. In football, of course, not everybody can be the quarterback. So it’s important to accept your role, keep your ego under control, and perform to the best of your ability.
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