Private Equity (PE)-backed companies have a high churn rate of Chief Financial Officers (CFOs); this is not something that we see with other C-suite roles in the private equity space, so why should it be the case for CFOs? Marcus Shah, Head of Private Equity at Eton Bridge Partners, spoke to a number of Operating Partners and Investment Directors within mid-market PE firms to investigate.

CFO churn is clearly endemic across the private equity sector with one Operating Partner at a mid-market firm admitting that no CFO endured the full investment lifecycle (from initial investment to exit) across its portfolio. Although it should be noted that on average 60% of those hired by the PE firm post-investment did fulfil the entire lifecycle.

Three key points came out of the discussion:

• Private equity CFOs face higher levels of stakeholder scrutiny than other functional leaders.
• A different CFO skillset may be required as the PE-backed company grows and becomes more complex.
• There has been an increase in scrutiny of the finance function due to the economic backdrop.

The private equity CFO is subject to particularly intense scrutiny

More than any other functional leader, the private equity CFO is called upon to deliver to a ‘data-hungry’ Board. “Pressure on the function is high; performance is very transparent in comparison to other functions,” says one mid-market firm Operating Partner. If things go awry, stakeholders want to hear from the CFO as it’s a function they feel familiar with; “Finance is the thing that people understand the best,” the Operating Partner notes. Another factor is that increasing salaries have increased expectations on the CFO role.

Slip-ups in the finance function can be particularly damaging. “If the product road map is pushed out 6 months, then it’s not ideal but not necessarily material to the business as it’s more in the future; if the cash forecasting is wrong or there is a covenant breach, then that is an immediate, material issue,” says one Managing Partner at a mid-market firm. Scrutiny on the CFO has increased as higher interest rates have made financing more expensive and value creation more challenging. It should also be noted that everyone cited the Chief Revenue Officer (CRO) role facing a similarly high level of scrutiny, and in turn we do see a high churn rate there too.

Increasing growth and complexity may drive the need for a new CFO

The CFO who starts with a PE-backed portfolio company when it’s making £50m revenue in a single jurisdiction may not be the right person when that company has grown to a global business turning over £200m. Growth in PE-backed companies is faster than in other types of organisations, and the PE firm may feel it requires the skillset of a new CFO. As one Portfolio Director puts it; “It’s hard to start in small and end in large.”

As the investment timeline progresses, the business can outgrow the CFO; “Different phases need different skillsets,” notes one Operating Partner. Typically, it tends to be Year 2 or 3 that the change is made as it can be too disruptive to swap the CFO less than 12 months before a planned exit. The Principal at one firm pointed out that it’s not always the PE firm that makes the call; the new CFO hire can be due to the incumbent leaving or there not being a CFO previously in the business.

Another factor can be that the intense job pressure of running a global business requires either more travel or longer hours due to time zones and some ‘A’ team CFOs just aren’t prepared to make the sacrifice when they’ve already seen success. “’B’ quality can be willing but less capable,” says the Operating Partner; that can lead to a hire that doesn’t work out in the longer-run.

More scrutiny on the finance function in tougher markets

In the boom times, it was far easier to raise capital, meet forecasts and achieve exit values, so even a poor or average CFO could do a good job. That’s not the case today; the CFO needs to be a strong performer. Anything less than excellence will be quickly discovered and dispatched. “Previously, companies grew, and poor reporting was often overlooked; now an increasing percentage of companies are not hitting their investment case and there’s more scrutiny,” notes one Managing Partner.

Other functions can be harder to criticise as their deliverables are more opaque; “Something like a Chief People Officer (CPO) is less tangible, it’s harder to call out with the same level of cadence,” notes one Managing Director. Often the inefficiency of a function is exposed when a business implements a new Enterprise Resource Planning (ERP) system. Cracks in how the CFO ran the department are highlighted and confidence in the CFO can be brought into question.

What can be done to reduce the churn?

The high churn rate is not necessarily good for the company. “Ethically it’s not nice and swapping CFOs brings additional stress to the company,” comments one Operating Partner. The CFO can provide an important sense of continuity in the business at times. So, can anything be done to slow the churn?

One thing that could help is better initial scoping of roles. There has been a lot of noise about the ‘commercial CFO’ who brings skills beyond those typically expected such as accuracy and technical ability. But interestingly at a recent KPMG event, it was cited by attendees that the top three requirements from a CFO were: 1. Get the basics right; 2. Cash management; 3. Operational excellence and stakeholder management.

Having a well-defined idea of what kind of CFO is needed and what one Operating Partner describes as ‘realistic onboarding’ increases the chance that the right person is hired in the first place. One Managing Partner advises having a; “Performance profile and expectations of the role – what to achieve by month 3, 6, 12 and 18; stopping criticism of areas of weakness and consciously making a trade-off.” He adds that set objectives and clear measurables are also key.

PE firms need to consider whether the current CFO can be moulded through development programmes and coaching. Mentoring junior CFOs, pro-active intervention and managing stakeholder expectations more effectively would also all help. One Managing Director says his firm doesn’t rush into changing the CFO; “We are not trigger happy, we need conviction to make a change; drive and motivation are the key elements, lots can be learnt.” He says much comes down to cultural fit and chemistry; “If they fit well and there are gaps in knowledge, we are more willing to support.”

The CFO can also play their part by developing the right qualities. One Operating Partner says accountability and curiosity, the ability to change focus and staying aware of market trends are key. Being able to communicate with the Board and correctly articulate performance is also vital, “Most interaction is at Board meetings, so if you can’t present, it’s a problem.” He adds that being brave enough to put your hand up, but smart enough to accept support when offered is also crucial. The Principal at another firm says the CFO needs to be the ‘sparring partner to the CEO’ with a strong Financial Controller also critical to ensure the CFO is looking ahead at what’s coming, rather than what’s behind.

We watch with interest to see how the situation evolves – my thanks to all those who contributed their excellent insight on this topic. Please do get in touch if you would like to discuss your own hiring needs or next steps.

Marcus delivers interim management solutions for Private Equity clients; he has significant experience in advising boards and hiring CFOs and their direct reports in large-cap and high growth PE-backed businesses.