Operating Advisors
Q3 2009

Using Consultants and Advisors

The complexities created by the current economic situation and the changing political environment requires all investors to now play coach, designated hitter, free safety, GM, agent, and team leader. 

While experienced investors have the time and expertise to provide strategic advice on strategic issues; many seek out operating partners or advisors to drive operational improvement, develop, and implement the necessary business model changes required by all exogenous changes affecting the company.  (Four out of 10 private equity firms have retained consultants or operating partners to help their portfolio companies according to latest Thompson Reuters research). 

Moreover, it is becoming increasingly common for PE (private equity) groups and institutional investors to utilize operating partners for domain knowledge, for highly experienced functional expertise, and for change management and leadership management.

Operating advisors or partners augment and benefit their companies by connecting required  operational improvements with business model adjustments to strategic opportunities being created by this new economy. 

For example, the current lack of debt capital creates a sea of opportunity to acquire customer bases and top talent at very attractive prices.   Operating advisors bring proven practices and methodologies to acquiring, partnering, and advancing business models which all organizations need to take advantage of in these new market conditions.  Businesses that disorderly attempt to change, reduce costs, and change product/service constraints will negatively impact customer service, frighten away ‘A’ players, while thoroughly upsetting the entire business model.

While not the first thought, especially when a business is cash constrained, outside advice and counsel is often required to combat root-cause issues that are multi-pronged across an organization.  Without a holistic approach, trying to solve singular or functional issues causes “upstream and downstream” problems elsewhere in the business.  Companies need holistic, strategic, and tactically oriented advice that is actionable, measurable, and has a long-term positive effect on the business model.  Event orientation or a series of one-time decisions is simply the kiss of death.

Moreover, there are advisors that are not fee-driven and will provide expertise on an incentive bases (i.e. operating partners will put some of their own “chips on the table” via  flexible fee and incentive structures).

Common Value Creation Levers Initiated by Operating Advisors:

1. “Rightsizing” to the near and long-term forecast (Resizing customer acquisition, service, and operating costs to this economy)
2. Operational Improvements to operating margins and EBITDA plus optimization of SG&A
3. Optimize People “Production” (Productivity Measurement and Metrics)
4. Create Value-Added Alliances, Joint Ventures, and Partnerships
5. Brand Equities Improvement
6. Augment Decision-making with primary market research and competitive intelligence
7. Implement Corporate Development program resulting in a pipeline of acquisition targets based on organizational and strategic fit
8. Alternative Distribution Creation

Common Operating Partner Pitfalls to be Avoided:

1. Hiring single focused functional consultants (Our changing times requires a holistic approach)
2. Divorcing the executive team from operational and P&L responsibility
3. Procrastination and failure to respond timely to changing market dynamics
4. Confusing oversight and ineffective management practices
5. Poor governance practices by the BOD (Board of Directors)
6. Focusing on short-term targets; too much emphasis on the short-term and falling into “event-orientation”

The Business Case for “Operating Partner” support is clear:

1. Today’s market and economic environment requires proven, experienced, and unbiased management.
2. Wealth Creation = Timely Strategic and Operational Execution coupled with consistent improvement and change.
3. Strategic Effectiveness creates exponential wealth.

Capital Update

Today’s PE (private equity) groups and institutional investors seeking to realize exits and earn another turn of EBITDA are forced to move beyond short-term cost-saving measures and personnel swaps.   Because the majority of cost saving measures that can be implemented have been; private equity groups have gone back to the basics and are focusing their attention on the drivers of long-term growth: namely this includes workforce, operational, and operating process improvements. 

This means asking the workforce to do things differently; specifically to change to become more efficient, scalable, and profit driven in their behaviors and activities. 

The realization of returns requires more than deal structuring and swapping out executives, private equity groups (either directly or through operating partners) must be able to effectively navigate both the human capital and business risks of each portfolio company.

The Role of the Chief Strategy Officer

Question: Why do most small business owners fail at strategy?

It is well documented that small businesses do fail at strategy: according to the SBA approximately 600,000 small businesses are created every year and less than 1% make it to ten years and $10M in revenues. 

Failure is often because of resource constraints (capital and talent), lack of a defined business model and processes, and a shortage of strategic alternatives, or simply put: inappropriate positioning. 

A “Chief Strategy Officer” (CSO) can create and enhance all the elements of a relevant strategy resulting in additional strategic alternatives, scenario planning, insuring that there is indeed a direct connection of the strategy elements to the daily execution of the business, and finally the financial forecasting mechanism.

Simply stated: while the CEO makes the ultimate decisions; a CSO explores alternatives and creates options.

The role of the CSO is not one of “business planning;” as that task is the role of the CFO; while the job of budgeting/forecasting is the role of operating management.

The CSO functions to focus on exploring strategic alternatives and examining potential acquisitions, alliances, and alternative distribution strategies.

CSOs perform primary market research, market intelligence gathering, and market forecasting to ensure that the executive team and Company Board are able to understand implications of various choices in order to make informed decisions. A highly effective CSO facilitates healthy dialogues and facilitating creative tension among executives and the Company’s Board.

A CSO is a consultative role; part leader and part doer, an experienced visionary, an experienced executive with the responsibility of ensuring that execution supports the strategy elements.  This unique background takes a multitude of different operating experiences, must include being both a creative thinker and influential collaborator.

A small businesses by its nature has limited options: either grow organically, increase the financing structure, partner, merge or sell. 

As a business grows and becomes profitable it creates options for itself and the stakeholders such as:

• Financial and Capital Raises
• Strategic Partnerships, Technology Partnerships
• Joint Ventures and Alliances
• Market and/or Product/Service Expansion
• Becoming Attractive to Strategic Investors
• Alternative Product Distribution
  

The CSO activities need not be an internal or dedicated resource, nor even a large fixed cost.  Many firms have elected to outsource this role to domain experts, advisory firms, or a dedicated Board member that can bring the experiences, intellectual capital and best of breed processes to the organization. 

At Ephor, we have worked with many organizations providing and implementing this function with great success.  We strongly urge growth and opportunistic organizations to create this critical function in this changing environment.