Traditionally, succession planning has been about passing the business torch to the next generation of internal managers. However, alternative approaches, such as private equity (PE) investments, have become more prevalent. Private equity investors bring not only capital but also valuable management expertise and industry connections that can be vital for businesses poised for growth or undergoing significant changes. While the benefits of private equity investment abound, such investment also comes with unique challenges.

The Private Equity Advantage

Investment from private equity offers substantial benefits including the following:

• Capital boost and value enhancement: Private equity firms infuse substantial capital into businesses, facilitating technological advancements, market expansion or debt restructuring. For example, a PE firm investing in a growing local restaurant chain could allow the chain to open new locations in high-demand areas. This investment often leads to an increase in business valuation, crucial for owners aiming to maximize returns.  
• Strategic expertise: PE investors often possess deep industry knowledge and experience. This expertise is crucial in navigating a business through transitional phases, ensuring the company’s success and growth post-succession. For example, an automotive parts manufacturer has fallen behind its peers in the industry largely due to not keeping up with technological advancements and processes. A PE investor with deep experience in manufacturing invests in and collaborates with the company to streamline operations and adopt lean manufacturing techniques so it is better positioned in the face of its competitors.
• Expanded networks: Involvement with a PE firm opens doors to broader networks, including potential clients, suppliers and future leaders. This can be pivotal in repositioning the company in its marketplace. For example, a logistics company with PE investors is able to gain access to international suppliers by leveraging the PE firm’s extensive international network of contacts.

Challenges to Consider

PE investment comes with certain challenges that need careful consideration before moving forward with a PE investor.

• Potential loss of control: With PE investment, business owners often face a loss of control over their company. PE firms’ investment comes with the tradeoff of PE gaining significant influence and control in business operations. PE’s control can clash with the original owner’s vision. For example, a family business with a relatively informal hierarchy may bristle at adjusting to corporate management styles with strict chains of command implemented by a PE firm.
• Short-term focus: A common criticism of some PE firms is that they prioritize short-term gains over long-term stability. This often leads to decisions that aren’t in the best interest of the company’s long-term health. For example, a PE firm may push for rapid cost cuts that impact employee morale.: The introduction of a PE firm can lead to significant cultural changes within a company, potentially impacting employee morale and the company’s original ethos. For example, a company that prides itself on a family-type and friendly atmosphere is likely to have difficulties with a PE investor placing new executives within the company that shift the management to a more aggressive competitive culture.
• Cultural shifts: The introduction of a PE firm can lead to significant cultural changes within a company, potentially impacting employee morale and the company’s original ethos. For example, a company that prides itself on a family-type and friendly atmosphere is likely to have difficulties with a PE investor placing new executives within the company that shift the management to a more aggressive competitive culture. 

Weighing the Impact of PE in Succession Planning

Private equity can be a powerful tool in succession planning, offering financial strength and strategic direction. However, it is crucial to navigate this path carefully, considering both the advantages and pitfalls. Understanding the nuances of private equity will help position businesses for a successful transition, ensuring their legacy continues to thrive in the new business era.