Private Equity, Partnerships, and the Real Cost of Control

Many of my clients are people who are at the beginning of their succession planning journey — in other words, business owners who are just starting to consider how they might want or need to step down from their leadership role in a few years’ time.

It’s not unusual for business owners in this position to be contacted by private equity firms looking to purchase their business. Many wonder if this is a route they’d like to pursue.

The answer is not a clear-cut yes or no. I’ve known some business owners who have worked with private equity firms and been very pleased with the results. But I’ve also known some who sell their business to a private equity firm only to regret it deeply later. Usually, this difference comes because the business owner was not properly informed at best, or misled at worst.

So let’s start at the beginning: what is a private equity firm? To put it simply, these are firms that buy other businesses with the intention of upscaling them and then selling them at a profit. Think of it like house flipping, but for businesses. For industries with fast changes and high turnovers, this kind of business ethos may make sense. But for many small business owners, treating their business like a renovation project can have unintended consequences.

Many business owners aren’t prepared to fully understand what goes into working with a private equity firm. These companies often come with expert financial teams that can overwhelm a small business owner. They may offer enticing EBITDA multiples or high purchase prices, but frequently claw back cash through working capital adjustments or by scrutinizing seller discretionary income, often blurring the lines between personal and business funds. Without proper preparation and the right advisors — attorneys, CPAs, or a business coach — it’s easy to run into trouble quickly.

Also, some buyers may try to convince sellers to leave equity in the business for potential upside. However, if performance metrics aren’t met, this can dilute the expected upside and reduce the total net for sellers.

And sometimes, unfortunately, firms are actively dishonest with business owners about what the process will look like. Business owners can be given the impression that when they sell to a private equity firm, nothing will really change and that their business will continue running like it always has, even expecting they will still have a say in how operations develop.

But the fact of the matter is, when you sell to a private equity firm, you give up control. And that loss of control can often have unexpected ramifications on more than just you.

For one thing, how your company interacts with clients is going to change. This isn’t always a bad thing. Sometimes, private equity firms have access to better technology or core products and services that a small business wouldn’t ordinarily be able to invest in. For some clients, this can be a huge benefit.

But if the private equity firm is more focused on building up your business to “bigger and better” things, their focus may not be on keeping the existing client base happy. The reputation and relationships that you’ve spent your entire career building can crumble quickly as the firms chase their next deals.

And your employees should also be a concern. At the end of the day, private equity firms are most concerned with the bottom line. They’ll likely be consolidating your team with other businesses they’ve purchased, and layoffs are also probable. Team members that you’ve built a relationship with — that you care about — will have their livelihoods put at risk. Sometimes, buyers will promise to retain top employees, but the fact of the matter is unless it’s in writing, they are under no obligation to uphold that promise.

It’s not that business owners who sell to private equity firms don’t care about these things. They will often sell simply because they don’t understand what they’re really going to give up when they give up control of their company.

Now, that doesn’t mean that business owners should hold on forever, or that nothing should change. In fact, I strongly believe that change is important, and that a smooth transition in leadership thrives when a certain amount of change is embraced. But part of your succession plan should be understanding what you’re comfortable changing. How do you want to see your business grow after you’ve left it? And what core parts of it do you want to see preserved, if possible?

These are difficult questions that can’t be answered in a day. But they’re things you should consider before you talk to any potential buyer, whether it’s a private equity firm, a colleague, or even an employee or family member that you’ve trained to take over.

If you’d like help in finding the right questions to answer when building your succession plan, I’d be happy to help. Contact us today to see how we can assist you and keep your business safe during periods of transition.