Private-Equity Firms Put Focus on Talent Before Backing New Deals
Originally published in The Wall Street Journal, February 2022
In today’s tight labor market, employee retention and other human-resource issues are taking center stage in private-equity due diligence.
By Laura Cooper
Some private-equity firms have walked away from investments in companies with high turnover rates or other employee challenges.
Private-equity firms are looking harder than ever at how well companies are positioned to retain and attract talent when considering new investments, as waves of employee turnover continue to ripple across nearly every industry.
Analyzing company talent has long been a part of deal due diligence at private-equity firms, but industry experts say the issue is now coming up much earlier in the process. The conversations are focused on employees at large, rather than just senior management roles, particularly when it comes to employee turnover.
The shift makes sense: Private-equity firms make money by helping companies grow and eventually selling them to a new buyer. In many service industries, where people and their expertise are critical, losing manpower can mean falling revenue, rising talent costs and a potential problem for returns in the future.
Dr. Matt Brubaker
“The Great Resignation was like the great wakeup call,” said Matt Brubaker, the chief executive at private-equity-focused advisory firm FMG Leading. His firm works with sponsors to aid in talent issues during the transaction process and beyond.
The Covid-19 pandemic spawned a wave of resignations across companies of all sizes, both public and private. In November, U.S. workers quit their jobs at a record rate, while job openings stayed close to their highest-ever levels. The total number of employees quitting hit 4.5 million. In December, the number of workers quitting fell slightly to 4.3 million.
The ripple effects of these departures are prompting some private equity firms to pass on certain opportunities to invest in companies that lack an adequate human resources department or a clear plan to retain employees, private-equity professionals, bankers and advisers said. In other cases, firms end up offering a lower price for such companies.
Talent was flagged as a key issue by both private-equity and portfolio company executives who were asked about their priorities during periods of disruption in an April 2021 survey from consulting firm AlixPartners. Among survey respondents, 69% of each group ranked human capital as a top priority during disruptive times. Operational efficiency came in second, with 44% of sponsors listing it as a top priority and 49% of portfolio company executives doing so.
Private-equity firms are acutely aware of how expensive it is to hire and train new employees. Certain industries like retail, behavioral health, home health, business services and hospitality have been grappling with particularly high turnover rates, Mr. Brubaker says.
“The Great Resignation was like the great wakeup call.”
The current hiring situation is forcing companies to prove that they can adapt, that they can retain the people they have and alter business models to do more with fewer people, said John Neuner, a managing director at investment bank Harris Williams, where he is the co-head of its mergers and acquisitions practice.
“With HR and talent, it was the last half of diligence,” Mr. Neuner said. “Now it’s, ‘Let’s talk about this on the front end. Walk us through turnover.’ People want to understand what the Great Resignation looks like.”
Frazier Healthcare Partners, a private-equity firm focused on healthcare investing, shifted its focus to human capital before the Covid-19 pandemic inspired widespread turnover, largely because many companies it owns, including healthcare services companies, rely heavily on recruiting skilled labor.
“In some ways, people are a little late to the party,” said Andy Caine, a partner at Seattle-based Frazier who focuses on human capital and environmental, social and governance issues.
He said that the private-equity firm has walked away from deals with companies that didn’t pay a living wage and from those that the firm didn’t feel could recruit and retain talent in a competitive market. He added that the firm closely examines labor pools, questioning if there are enough qualified people to do the jobs at a greater scale, and if the company is sufficiently staffed to grow.
Firms increasingly are turning to consultants and advisers to help analyze prospective portfolio company employee data to identify potential challenges. Consulting firm Bain & Co. has seen an uptick in the use of its talent analytics tool, called Aura, in the last two years, according to Richard Lichtenstein, an expert vice president in Bain’s private-equity consulting practice.
The analysis his team undertakes for firms includes employee satisfaction surveys, employee churn studies and whether companies have the right employees for the jobs they need completed. The group conducted around 400 talent analyses in 2021, compared with roughly 300 in 2020, and Mr. Lichtenstein said he expects that number to increase this year.
“At this point the concern is not, ‘Is there cost savings?’ It’s, ‘Can we hold onto people and have the right people?’” he said.
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Write to Laura Cooper at laura.cooper@wsj.com
Read the original article in The Wall Street Journal here.
About the Author:
Matt Brubaker, Ed.D, is CEO of human capital advisory firm FMG Leading and an expert in human capital dynamics in rapidly scaling companies. His client work focuses on enterprise-wide change initiatives, C-Level development, and building high-performing, strategically-aligned executive teams. A recognized thought leader on the subject of human capital strategy, Dr. Brubaker’s work has been published in Harvard Business Review, Forbes, Chief Executive Magazine, Fast Company, and Private Equity International.