Founders: Are you ready to admit what you don’t know about PE?April 9, 2019
I’ve spent the past 20 years as an investor collaborating with founders to build their companies. Having invested across the spectrum of stages, from start-ups to mature buyouts, I discovered a passion for supporting founders whose businesses have attained greater than $10 million in annual sales. These are the micro-caps that are rife with growth opportunities—but only if the founder and investor recognize the key challenges unique to this growth stage, including a lack of:
- Human and organizational resources that larger companies can afford;
- Experience in developing and executing the type of strategies that can expand the company; and
- Systems and processes to effectively monitor performance from the ground level.
Simply put, a company of this size is not a little big company. It has limitations. For example, it cannot pursue multiple initiatives over a sustained period because it generally lacks the team, experience and capability to execute on multiple fronts. Rather, a company of this size must focus on one to three initiatives while maintaining its current performance. Even three initiatives may be too difficult or exhausting for some. What’s certain is that micro-caps need to take a different approach to growth than trying to mimic the strategic processes, tools and exercises afforded by larger, well-resourced companies.
- The most effective way to define and implement a growth strategy is to focus on a three-year timeframe. In other words, clearly articulate the company’s three-year goals or where the founder wants the company to be three years from today. This time constraint focuses the team on actionable items that will generate a quantifiable impact, allows the team to assess opportunities using a well-defined economic formula, and also prevents the team from falling into the trap of not monitoring results. In sum, the three-year time frame helps the founder focus on fewer, more achievable growth initiatives.
- In assessing growth opportunities, founders are often led to believe by private equity groups or independent sponsors that they will be provided with the resources, thinking and expertise to execute multiple initiatives. However, under greater scrutiny, the founders often realize that these investors are experts at financial engineering (i.e., leveraging the balance sheet), but lack the experience required to effectively implement these strategies.
- The three most common growth initiatives founders identify are: 1) expanding the sales force, 2) implementing an ERP system, and 3) making an acquisition. Often times, these initiatives promise a compelling return to the founder while also serving to improve the company’s competitive position. The reality is that each of these initiatives is loaded with sand traps that can lead to deteriorating company performance, diminished employee engagement and reduced customer satisfaction—the exact opposite of what the founder hopes to achieve. Getting the promised return requires a great deal of preparation and planning with an investor that has a demonstrated track record for repeatedly and successfully executing across each initiative.
Successful founders will follow the Rule of 3: Choose three (or fewer) high potential growth initiatives to focus on over the next three years and partner with investors who have been there before and can deliver more than financial engineering.