“Unprecedented.” That’s a common description for the upheaval surrounding the coronavirus. However, this pandemic represents a familiar concept for private equity firms: Crisis management. Read on to discover what specific steps firms can take to make portfolio companies more resilient amid widespread uncertainty.
Private equity firms understand the best crisis remedy comes from planning and implementing a comprehensive response, through effective communication with LPs and portfolio company leadership. That latter group poses the biggest challenge because each portfolio company represents a complex network of interrelated groups — including employees, clients, and vendors. By organizing a response team to help guide strategic adjustments, private equity firms can provide the support portfolio companies need to navigate rough, rapidly shifting terrain.
HOW A CRISIS CAN IMPACT PORTFOLIO COMPANIES
When a crisis hits, portfolio company leadership teams face enormous pressure. They must determine the best way to prioritize critical actions for their company’s success — including workforce protection and managing financial risk. What’s more, a portfolio company’s sector can greatly affect crisis vulnerability. For example, in the current pandemic, consumer demand plummeted for travel and hospitality, and so did revenue in those industries. Regardless of how a crisis affects revenue, the portfolio companies’ overarching priorities are typically coordinated by a central team to ensure consistent messaging and strategy execution.
WHAT ACTIONS TO TAKE WHEN PORTFOLIO COMPANIES FACE A CRISIS
To help portfolio company leadership respond effectively in the midst of uncertainty, here are five actions private equity firms can take.
1. BUILD A CRISIS MANAGEMENT “WAR ROOM.” This will most likely be managed remotely — the idea is to have a central hub of information that’s continuously updated for decision makers, such as a dashboard with cash flow indicators. The war room enables the private equity firm to collaborate with the portfolio company’s CFO and other executive team members. According to a McKinsey report, many private equity firms are using the traditional “red–yellow–green” traffic-light system to help categorize which businesses are most in need of support. To quickly identify companies at risk during a global pandemic, McKinsey recommends evaluating six indicators:
- Risks to employees’ and customers’ health, safety, and productivity: Does the portfolio company have policies and procedures to minimize the risk of infection?
- Financial/ liquidity risk or customers seeking financing: Are counterparties exerting pressure to extend accounts receivable terms? Do customers have liquidity constraints?
- Geographic considerations: Are operations, customers, or suppliers based in today’s riskiest areas?
- Short-term revenue and delivery risks: Is revenue affected by social distancing or disease prevalence?
- Longer-term risks and opportunities: Will changes in patterns of global trade, travel, and logistics offer opportunities or threats?
- Less tangible risks and opportunities: Is the company or its business model susceptible to reputational or cultural risk? Does the company have sufficient redundancy in its critical functions?
2. DEPLOY CASH IN EMERGENCY AID AND FIND WAYS TO PRESERVE LIQUIDITY. Many private equity firms have seen their portfolio companies experience negative cash flow in recent months. To aid portfolio company liquidity, capital calls have increased. According to a survey of LPs from the Institutional Limited Partners Association, private equity investors reported a 58% bump in capital calls between mid-March and mid-April. A McKinsey report also indicated that private equity firms had requested 13- to 26-week cash forecasts from portfolio companies to manage liquidity better.
To help decrease expenses and preserve liquidity, STRAIT client, Satori Capital, a Texas-based multi-strategy investment firm, assisted several of its portfolio companies with renegotiating lease terms. As a result, one portfolio company was able to save more than $100,000 in payments for the next 12 months of its office lease.
3. CONDUCT REGULAR CHECK-INS. Private equity firms may have previously held calls with portfolio companies monthly or even quarterly. That’s changing to a much more frequent schedule with firms holding weekly or daily check-ins. The discussions have become more focused on granular data to assess business progress and whether swift action is needed to mitigate risk.
4. PROVIDE EXPERTS IN AREAS WHERE COMPANIES NEED ASSISTANCE. The management teams at portfolio companies face an array of complicated, high-stakes decisions during a crisis, including layoffs and modifying business lines. Private equity firms can help guide those choices by providing expertise in operations. That could mean offering assistance to companies addressing supply chain disruption, or manufacturers trying to shift production toward in-demand products.
To help their portfolio companies receive PPP loans and tax deferrals during the pandemic, Satori Capital engaged with top national lawyers to ensure compliance with the quickly changing regulatory landscape. Thanks to that assistance, one of Satori’s portfolio companies obtained more than $2 million in PPP funding. This allowed the company to retain employees that might have otherwise been furloughed.
5. SEEK WAYS TO SHARE LESSONS-LEARNED BETWEEN PORTFOLIO COMPANIES. It’s always useful for portfolio companies to learn from each other. That’s particularly true during a crisis when businesses are looking for proven methods to address challenges such as managing remote workforces quickly. To that end, private equity firms need to create ways to share best practices across the portfolio. That can take the form of virtual meetings with cross-portfolio councils of CFOs and other executives for collaborative problem-solving sessions, or an online knowledge repository.
6. FIND WAYS TO SIMPLIFY LEADERS’ WORKLOADS. STRAIT client, Clavis Capital Partners, a private investment firm focused on control investments in the industrial sector, emphasizes that during a crisis, private equity firms should focus on removing as much as possible from leadership teams’ to-do lists. This allows those leaders to use their time and energy strategically and focus on key issues. To help streamline the workload at its portfolio companies, Clavis helped take on cash flow, liquidity issues, and banking discussions in collaboration with the company CFOs.
DON’T UNDERESTIMATE THE IMPORTANCE OF EMOTIONAL SUPPORT
Clavis Capital Partners points out that during a crisis — particularly one as devastating as a global pandemic — portfolio company leaders will be anxious, exhausted, and scared. Those leaders also need to put on a brave face each day and provide stability for their organizations. That can be an overwhelming burden. Clavis believes providing an optimistic, encouraging, supportive presence is one of the most critical contributions private equity firms can make. The firm does this by checking in with teams multiple times a week, focusing not only on financial issues but also on leaders’ mental health. That could include asking questions like, “How’s the family doing?” or “Any issues with the team?”
When talking with those leaders, messaging and attitude matter. Clavis notes that if you’re anxious on a call, the leadership team will start to feel the same way. When talking with portfolio company leadership, Clavis consistently delivers an optimistic message. The firm observes this approach has helped portfolio company leaders cope with the crisis and stay positive. Here are the three points they emphasize when communicating with leadership teams:
- This will pass.
- Some of your competitors won’t survive it.
- There will be opportunities that emerge from this situation, and we will be able to take advantage of them.
TO STAY AGILE IN A CRISIS, BE CONSISTENT
To help portfolio companies stay resilient during a crisis, it’s essential to have constant communication and current, detailed information. A consistent, analytical approach will reassure portfolio companies as well as investors. It will demonstrate a private equity firm’s ability to adapt quickly, not only to the current crisis, but also to make the most of the risks and opportunities that emerge in years to come.
Looking for additional ways to identify and mitigate operational risk? Reach out to a member of the STRAIT team to learn more about our institutional-grade solutions for private funds.