Flexible lending maximizes succession planning options

We’ve seen plenty of changes in the private equity (PE) world over the last 30 years. For instance, some PE firms have evolved from a founder-led model to become institutional brands with multiple funds. This evolutionary path creates a higher degree of certainty about the long-term future of each fund. But that’s not the case across the board.

Many PE firms face challenges when it comes to their succession planning. Handing over the reins is a delicate balancing act to ensure investors and talent are reassured about its long-term strategy. The strategic ambitions of a general partner (GP) can easily be derailed if they fail to appropriately plan ahead.

For founding and existing partners seeking an exit (often when they retire), succession planning requires a focus on the next generation. That’s not always as straightforward as it may sound.

You could find junior partners ready and willing to take on more responsibilities but lacking access to capital to buy their place at the top table.

If junior members are unable to get a stake in the fund, it could derail plans for leadership succession. This could also have a knock-on effect on the firm’s ability to keep its top talent.

This is why we think it is crucial to work with an agile and flexible lender who can provide sound, bespoke financing solutions. These must address not only continuity in the fund manager’s leadership team but also pay detailed attention to individuals at different stages in their careers.

We’ve observed that there are usually dual ambitions to meet in financing solutions for succession planning. You need to tailor them for both the personal career aspirations of the next generation and the fund’s investment strategy. It means the best financial products are not necessarily ‘one-size-fits-all’ because they must solve a unique, fund-specific requirement.

Setting out a succession strategy

There’s an external dynamic to succession planning as well as it isn’t solely an internal consideration. Limited Partners (LPs) will want to see evidence that a strong leadership structure has been clearly mapped out.

Additionally, investors will expect reassurance about a firm’s stability before making a financial commitment and that there is no ‘key-man risk’. Typically, this is when vital business knowledge is lost on the founder’s departure. LPs will want to ensure their investments are in trusted, experienced hands.

So, a succession planning strategy must serve multiple objectives.

First, it enables newly promoted equity partners to align more closely with long-term business plans as they are personally invested in a fund’s success.

Second, it provides a fund with more certainty about its future management.

Third, good planning can help firms fulfill their diversity and inclusion goals by promoting fresh faces to senior roles. This is important for attracting new talent, who are likely to arrive with equity aspirations of their own. A younger generation will want to see evidence of a clearly articulated career path to the top, which is key to attracting high-performing professionals and, crucially, encouraging them to stay.

It’s also clear that a diverse workforce is increasingly important to both internal and external stakeholders. Why? Because it improves the reputation and perception of a firm as well as boosting morale and motivation within. Greater diversity leads to superior value creation for PE firms.

Three steps to a smoother transition

From our work with GPs and our wider discussions with industry professionals, we have identified these three areas that can smooth the process of succession financing:

Find the right flexible finance structures

Lawyers and debt advisors point out that the objectives of a finance facility implemented for succession planning are not always clear. For example, the purpose of the facility may not be readily apparent from the loan agreement. That could be because the genesis of such products is often borne from highly sensitive and confidential internal discussions.

GPs need a lender who will take the time to really get under the skin of their client. By doing so, the lender can fully understand the individual’s personal wishes in the context of the objectives of the fund. The result is to provide customized loan structuring options capable of catering for the GP’s strategic capital needs.

That said, the core commercial terms of the product, for example, pricing and tenor, along with the recourse package, are often comparable to traditional GP lending facilities.

Don’t rush the succession process

We always say to clients that finance for succession planning shouldn’t be hurried and often takes time to execute. It is critical to engage with potential lenders early in the process to ensure a considered approach.

Lenders are usually working with multiple stakeholders simultaneously to complete a transaction. They have to be acutely aware of any challenges or hurdles to implement a sound, fit-for-purpose financing solution.

Choose the right lending partner

External advisers have commented that there are relatively few players in the lending market for GP facilities. The pool of lenders with experience in succession planning solutions may be even smaller. A lender will often take a wider, relationship view of its appetite to provide these facilities as they are typically relatively small and complex in nature.

 

Encouraging diversity

We believe effective succession planning is intrinsically linked with the push for more diversity, especially encouraging more women in senior roles. Although the PE industry has traditionally been behind the curve in this respect, in recent years GPs have been keen to change that perception. Diversity of thought is at the forefront of their strategy.

In our Private Equity Trends 2024 report, our survey of nearly 150 GPs in the US, UK and Europe found that 44% said their firm had appointed a female or ethnic minority partner in the last year. The figure was 27% for GPs with less than $1 billion of assets under management.

Currently, the US appears to lag its UK and European PE markets regarding efforts to improve diversity. However, we expect the US to narrow the gap in the face of growing evidence that greater diversity in organizations creates more profitable business.

Delivering specialist lending choices

One thing is very clear to us: GPs and fund managers looking for equity participation benefit from flexibility in loan arrangements. They want lenders who offer long-term support in a holistic approach that extends beyond a client’s borrowing needs. Given the complexity of these facilities, lenders must be in tune with tailor-made succession planning principles which can support each client’s career ambitions.

If you would like to find out more, contact Olivia Deroy, Sharon Thandi and Helen Griffiths

Olivia Deroy
Olivia Deroy

US Origination and Relationship Management

Sharon Thandi
Sharon Thandi

Fund Solutions

Helen Griffiths
Helen Griffiths

Head of Structuring

Olivia Deroy
Olivia Deroy

US Origination and Relationship Management

Sharon Thandi
Sharon Thandi

Fund Solutions

Helen Griffiths
Helen Griffiths

Head of Structuring