Top 5 Succession Planning Traps for PE Firms

Today’s capital-rich marketplace is not only fueling more deals, but it is ultimately increasing the need to work harder to retain or hire away management talent. Successful private equity firms understand that such an environment poses a challenge to the businesses in which they invest, particularly if they are dependent on one key talented individual. Many know that having an effective succession plan is critical to continuing success and preserving the value of their portfolio companies. However, too often, private equity firms do not make succession planning a priority. Having a formal succession plan isn’t only necessary for a private equity firm’s portfolio companies. It is equally important for a PE firm itself if it wants to retain up-and-coming talent, raise successive funds and maintain its reputation and investor trust.

In all cases, it is important to commit to succession planning early enough to implement it effectively and keep it on track in face of the day-to-day push to do more with less. Following are the top five key succession planning traps and tips for getting the process right.

1. Over-relying on one person

We call this the “shooting star syndrome.” A company’s value or ability to succeed shouldn’t depend—or be perceived to depend—on one person who could suddenly be gone or wish to exit. Fostering an environment that invests in training and mentoring and communicating potential leadership options helps prevent skill and talent gaps, and offers the powerful side benefit of key employee retention. A company leader looking to exit a business in four or five years would do well to commit to a leadership/succession plan and begin the process by targeting key leadership positions, identifying key candidates that could take over these positions, assigning roles and responsibilities for filling current and future competency gaps and creating a strategy for developing leaders over a specific, reasonable period. There is a delicate balance to sharing credit for an operation’s success, while acknowledging contributions of specific individuals.

2. Not planning

A formal succession plan is important for a PE firm to retain up-and-coming talent, raise successive funds and maintain its reputation and investor trust.”

Jeffrey St. Amour, PricewaterhouseCoopers

Informal leadership succession plans do not ensure that the company founder or senior management will be able to exit as desired. A formal plan to tell key personnel you value them, they might someday have the opportunity to run the company and that you’re willing to invest in them is an incredibly powerful message and retention tool. Without communicating the founder’s exit plan, high performers could sense there is no planning being done, they don’t think the founder is ever going to leave and they could be open to outside considerations and offers.

Establishing a clear plan of action for extensive knowledge transfer to the company’s future leaders is a critical step toward ensuring that they will have sufficient training and development time to be ready for their new roles. Such a plan promotes leaders based on competencies that support a company’s long-term business strategy. Planning when you will leave doesn’t mean you can’t change your mind. However, it puts your company in a stronger position for transfer when the time is right. It is important to review the progress of the succession plan annually so that development plans can be updated, and potentially new people can be added to the succession pool.

3. Not identifying successors

It is important to identify and train potential successors to fill skill competency gaps. Often, founders wear many hats—overseeing management, marketing, recruiting, lobbying and a host of other duties. When thinking about successors, they tend to look for people like themselves, but those people often don’t exist. The key is to break down responsibilities of current leaders into the skills required to perform them and then look to fill these competencies—not to seek one person with specific personality traits. A business could more readily find someone with outstanding marketing skills and another person with a flair for running operations than it could find one executive who excels at both. Steps to take in identifying and training potential successors for a top executive include the following:

• Analyze potential leaders’ competencies and identify a pool of future leaders per each targeted leadership position. For example, there could be two highly productive people within the company to look at for possibly replacing the chairman/CEO, three people to look at for replacing the CFO and four people to look at to replace the VP of sales.
• Measure these candidates’ competencies and conduct a gap analysis between the succession pool’s competencies and the competencies of each leadership position. It is often beneficial to use input from senior management and succession pool candidates when conducting the competencies gap analysis.
• Anticipate additional competencies required to run the business going forward. For example, future company leaders may require more sophisticated technology skills, international business experience and foreign language skills.
• Set up a development plan for each person in the candidate pool to help close the gap between the candidate’s existing and desired competencies. For example, the future CFO of a company planning to do business internationally must understand foreign finance and other business cultures. Failing to understand the business climate, business protocols and the art of buying and selling in other cultures when trying to enter new markets could mean making mistakes that are hard to overcome.

4. Overlooking outside talent

In the case of one privately held company, succession plan assignments were constantly postponed due to day-to-day priorities. People in the succession pool interpreted this lack of follow through as a lack of commitment to leadership succession.”

Jeffrey St. Amour, PricewaterhouseCoopers

Available talent and timing constitute major reasons for looking outside of the business for future leaders. In looking at a company’s internal candidates, if the founder or other key executive wants to leave in two to three years but determines that the competency gap assessment indicates that there is nobody to take over within three to four years, the company owes it to itself to at least look at outside candidates. Let’s say it is necessary for the current CEO to move on in two years and there is a candidate in the CEO talent pool with four out of seven necessary competencies that is following a plan to develop the remaining competencies over a four-year period. It is not in the best interest of the candidate or the company to rush such a plan, particularly if managing the load of day-to-day operations coupled with development responsibilities sours the candidate on the desire for the position. In addition, it is just good business to know the talented leaders in your marketplace and what they can offer your company. If you do look at outside talent, make sure that you provide the executive search firm with a list of the desired competencies for each position.

5. Failing to commit

It is critical for senior management to commit to a succession plan. Employees are being asked to do more with less, and in the effort to focus on the avalanche of day-to-day details, development plans for the future can go by the wayside. But, businesses need to commit to the succession strategy so that the founder can attain his or her exit strategy and the people in the succession pool can be properly prepared for leadership positions. Two common reasons for veering from the succession plan could be that the founder or senior management doesn’t stay committed because of the focus on the day-to-day workload rather than on future planning, or that the person in the succession pool may be discouraged or driven away by the challenge of balancing a mounting daily workload with a personal life in addition to the development plan. In the case of one privately held company, succession plan development assignments were constantly postponed due to day-to-day priorities. People in the succession pool interpreted this lack of follow through as a lack of commitment to leadership succession. Unfortunately, two members of the succession pool left the company before the lack of follow through could be corrected. There are plenty of ways to sabotage great leadership development plans. The challenge is for senior management to remain totally committed to development plans that are realistic both in their time concentration and their length.

Private equity has embraced the challenge recognizing the constant need to build deeper management teams. A proactive approach to the challenge emphasizing it as a strategic business process and planning task will save the heartburn of a reactive scramble to fill a key role later so everyone can continue to focus on increasing corporate value.

This article was co-authored by Fentress Seagroves, who is a Transaction Services Partner and PCS Practice Leader with PricewaterhouseCoopers in Atlanta. Jeffrey St. Amour is a Partner with PricewaterhouseCoopers’ Global Human Resource Services group in Philadelphia.