Private equity firms are saying that talent is the most important factor in driving growth. While financial engineering, inorganic growth, and market expansion remain important tools in the private equity toolbox, talent continues to emerge as key to growing companies and achieving the investment thesis, according to a report from Bespoke Partners. Yet unlike strategic assets, intellectual property, or other resources that fuel growth, talent can be notoriously difficult to optimize.

In fact, the biggest challenge for the PE sector is getting talent right, according to Nat Schiffer, managing partner at The Christopher Group. “PE firms often compete with other financial services firms, technology companies, start-ups, and other industries for the limited pool of qualified talent with the necessary skill-sets and experience for the PE industry,” he said. “The intense competition for top talent can make it challenging to attract and retain qualified candidates who may have multiple options.”

Skill Sets
“PE firms require candidates with a specific blend of financial acumen, operational experience, and industry knowledge to drive value creation in their portfolio companies,” he said. “Finding candidates with the right mix of skills and expertise, particularly in specialized industries or niche markets, can be challenging, as these candidates may be in high demand and have limited availability.” Identifying and attracting talent with the specific industry-specific expertise required by the PE firm’s investment strategies can pose a unique challenge in the recruitment process. “These two challenges — competition for top talent and the need for industry-specific expertise — are unique to the PE space and require strategic and focused efforts in the recruitment process to successfully identify and secure the right candidates for PE firms,” he said.

When looking to diversity, equity, and inclusion, private equity firms can take several measures to improve their hiring practices, according to Mr. Schiffer. “This includes setting clear DEI goals, implementing diverse candidate sourcing strategies, reviewing and improving hiring processes, providing diversity training to hiring managers, fostering an inclusive culture and environment, and most importantly holding leadership accountable for DEI initiatives,” he said. “By proactively addressing bias, promoting inclusivity, and creating a diverse workforce, PE firms can enhance their ability to attract, hire, and retain top talent from diverse backgrounds. This can result in improved innovation, creativity, and performance, ultimately driving better investment outcomes for their portfolio companies.”

Mr. Schiffer says that executive recruiters should, and often do,
play an outsized role in assisting PE and VC firms in securing talent. “Our sector is essential to their investment process, as they require top talent to drive growth and value creation within their portfolio companies,” he said. “Partnering with executive search firms provides access to broader pools of top executive talent, allowing them to leverage specialized expertise in specific industries or functions, streamlines the recruitment process, maintain confidentiality, and provide new market intelligence. Furthermore, as PE and VC firms continue to expand their portfolio and invest in new industries and geographies, they require a network of executive search firms to support their talent acquisition needs.”

Within the PE sector, deal activity is down, but funding is still active within specific segments and markets, according to Bernard Layton, managing director and CEO of Comhar Partners. “We believe that private equity is entering a mature stage as an alternative investment category because the cost of capital will dictate that there will be a secondary review of allocation by all the investors and the limited partners,” he said. “The deal activity will remain high; the new investment activity will slow down. What that means is the deals are going to move private equity to private equity.

They’re going to trade companies back and forth to better fit them into their portfolio of companies, which is more of a mature stage for that business. The cost of capital has to go down, and the economy has to catch fire even more. Current family owners or private owners are looking for valuations that still need to be more realistic, so those valuations must come down. Ultimately, this impact makes it harder and harder to attract talent to this space because the return on the executive’s time gets harder and harder to justify because the likelihood of the deal being successful or achieving a 7x return gets less and less and less.”

Macro conditions are negatively impacting exit opportunities for PE firms, resulting in slower deal activity, according to Anthony Keizner, managing partner at Odyssey Search Partners. “High inflation and geopolitical tensions are hurting the economy, and interest rate increases are concerning, as they drive up the cost of borrowing for PE firms,” he said. “Despite these macroeconomic pressures, we’re not seeing panic in the PE space. Lower company valuations are creating opportunities, and during the fundraising boom of recent years, PE firms have built up ample dry powder, which they have yet to deploy. Additionally, despite economic and public market volatility in 2022, there remains strong investor interest in alternative investments and in money managers that have produced consistent alpha. Many PE firms also have in-house credit capabilities, to help with financing and distressed investing, which is a source of comfort in uncertain times. Thus, PE firms continue to retain and hire top talent.”

DEI Initiatives
Most PE firms and their LPs prioritize diversity among investment professionals. In Odyssey’s most recent PE compensation survey, 93 percent of PE investment professionals mentioned that their firm has ongoing DEI initiatives. Unfortunately, according to the firm’s data, little progress has been made in actually increasing gender and ethnic diversity within PE. There remains less than one female investment professional for every five males. More specifically,
in 2019, 18 percent of Odyssey’s PE survey respondents were female, while in late 2022 17 percent of respondents were female. Progress among ethnic diversity also has not been evident. In 2019, 2.5 percent of survey respondents identified as African American/ Black compared to 2.4 percent in 2022, and four percent as Latino/ Hispanic compared to 4.2 percent in 2022.

“We cannot generalize these findings to the entire population of PE investment professionals, but with a sample size of over 1,300 PE investment professionals in 2022, it’s reasonable to conclude that the widespread emphasis on diversity hiring in PE is yet to have a considerable impact,” said Mr. Keizner. “Positive numbers have been reported but it’s important to assess underlying data in these figures. Diversity statistics in PE tend to conceal that there is greater gender and ethnic diversity in the non-investing and support functions of PE firms compared to deal teams. One implication of the current lack of current diverse PE investment professionals means it is difficult for firms to hire lateral senior, diverse talent. To improve gender representation throughout the mid and senior levels, firms are reevaluating cultural practices. Others are examining retention policies and providing flexible remote working arrangements, particularly valued by working parents.”

PE firms can see immediate results in diversifying their workforce by hiring at the junior level, according to Mr. Keizner. “The proportion of gender and ethnically-diverse candidates seeking investing roles is higher out of college, resulting in a broader talent pool. Hiring private equity analysts is thus becoming more popular; however, unless firms have the resources to train entry-level professionals, hiring from college and building candidates’ quantitative and professional foundation from the ground up may be challenging. Additionally, retaining analysts may be challenging, as associate retention in investing roles tends to be difficult as is.”

Mr. Keizner also notes that for PE firms looking to hire associates, consulting firms and investment banking analysts are major feeder pools. “However, the pool of diverse candidates is still not substantial here,” he said. “The strongest, and thus most competitively positioned, diverse candidates tend to receive multiple offers in the recruiting process. Once they are out of the recruiting market, PE firms will then look to other qualified candidates for open positions, resulting in minimally unchanged diversity statistics across the board. Though this is a complex cycle to break out of, it is positive that many PE firms (large and small) are focusing on diversity initiatives.”

One of the biggest concerns for the venture capital and private equity sector is the impact of inflation, says Jens Friedrich, CEO of SpenglerFox. “As inflation rises, the cost of doing business increases, which can make it more difficult for start-ups to secure the funding they need to grow,” he said. “Additionally, inflation can lead to higher interest rates, which can make it more expensive for companies to borrow money. The ongoing pandemic is also playing a significant role in the sector. While some companies have thrived during the pandemic, others have struggled to adapt to the new normal. Investors are becoming more risk-averse and are focusing on companies that have a proven track record of success.”

What is Concerning Investors
“The war in Ukraine and other geopolitical events continue to cause concern among investors,” Mr. Friedrich said. “Instability in the global economy has had a ripple effect on the VC/PE sector as investors are becoming more cautious and are seeking out investments that are less exposed to geopolitical risk. Overall, the current events are creating a lot of uncertainty for the sector. While some investors are still willing to take risks, others are becoming more cautious and selective in their investments. The biggest concern is the impact of inflation and the cost of financing.”

Mr. Friedrich also notes that recruiting talent for any sector right now is a challenge, and recruiting for the PE sector specifically is no exception. “It is 100 percent a candidate driven market out there,” he said. “Companies that fail to deliver an outstanding and compelling value proposition and do so in a very short space of time, will simply lose the interest of people applying for jobs with them. In addition, demand for talent continues to exceed supply of talent, and candidates know that. They can invariably choose between opportunities and will go for the most attractive offer any time. Companies who were traditionally able to attract talent simply because of their brand and not having to pay a premium because of that, are no longer able to attract talent without outbidding and outperforming companies competing for the same talent.”

As we move into 2023, Mr. Friedrich says that the PE sector is experiencing several trends that are changing the industry. “AI is a game-changer for the private equity sector,” he said. “Private equity firms are using AI-powered technologies to identify potential investment opportunities, analyze market trends, and evaluate portfolio performance. AI algorithms are becoming more sophisticated, enabling private equity firms to generate insights faster and with greater accuracy than ever before. As AI continues to evolve, we can expect private equity firms to become more data-driven and analytical, making more informed investment decisions.”

“ESG investing is another trend that is transforming private equity,” Mr. Friedrich said. “Investors are increasingly focused on companies that demonstrate strong environmental, social, and governance practices. PE firms are responding to this demand by incorporating ESG factors into their investment decisions. Companies that prioritize sustainability and social responsibility are more attractive to investors, and private equity firms are taking note. As ESG becomes a more critical factor in investment decisions, private equity firms that prioritize ESG considerations will be better positioned to attract capital.”

“Finally, increased competition for deals is transforming the private equity landscape,” said Mr. Friedrich. “With more firms entering the market and established firms expanding their reach, there is intense competition for attractive investment opportunities. PE firms are responding by becoming more creative in their deal-making. For example, some firms are partnering with strategic investors to make joint investments or pooling resources with other private equity firms to compete for larger deals. As competition increases, private equity firms must be strategic and agile in their approach to deal-making.”

“In recent months, we have noticed that many private equity sector firms are treading more cautiously in the face of macro-economic changes,” said Karen Swystun, CEO of Waterford Global. “Not only are PE firms looking for creative sources of financing, including the use of more private debt sources to finance transactions, but they are also actively pursuing more middle-market deals. It appears to us that PE organizations have increased their focus on recruiting individuals possessing the specific skill-sets they are looking for to increase efficiency, combat uncertainty, and drive growth for each stage of their investment life cycle.”

“The work we have been doing with our PE clients highlights the increased competition for talent and expertise that PE firms now face, as they compete with, not only other traditional funds, but also new non-traditional players that have entered the talent space,” she said. “In addition to enhancing their compensation and benefits offerings, PE firms have had to respond with strong training, mentoring, and career pathing programs, transparent DEI policies, and advanced ESG programs.”

Given the number of new organizations entering the PE and VC space, and the talent competition that PE organizations face from both traditional and non-traditional players, PE organizations sometimes find it difficult to access an adequate-sized pool of individuals having the skills and experience that they require, according to Ms. Swystun. “At the same time, portcos are looking to drive efficiencies in the form of digital upgrades/transformations and the centralization of shared services,” she said. “They are also looking more at sourcing talent from industries, and job functions within such industries, that have been relatively unexplored by the PE industry in the past.”

Ms. Swystun notes that PE companies are renewing interest in COO positions for their portfolio companies, focusing on candidates that have the ability to close the gaps and optimize the linkages between the production, research, marketing, and finance functions to maximize and sustain the portco’s market impact. “Because portcos are operating in an inflationary environment, there is also an increased interest in filling senior finance roles to ensure that portcos stay sustainable,” she said.

“We anticipate that PE organizations will continue to invest in improving their attractiveness as a talent destination, in enhancing transparency and communicating more around their DEI and
ESG initiatives, and in fortifying their digital capabilities and other activities that help drive operational efficiencies across their portfolio companies,” said Ms. Swystun.

Given the dependence upon cash in the sector, it is impossible to say that current events do not shape decision-making, says Tim Frischmon, principal at Furst Group & NuBrick Partners. “However, some circumstances, such as the Silicon Valley Bank crisis and rising interest rates, have a direct and significant impact more so than broader world events may,” he said. “Recent events have impacted access to cash, affecting short- and long-term decision-making and the day-to-day operations of private equity and venture capital firms as well as their portfolio companies.”

Shaking Things Up
Mr. Frischmon says that all this change is good for the search industry. “Excluding catastrophic events, change shakes things up and creates opportunity,” he said. “In this instance, the question becomes — do they have the working capital to fill open positions while growing the business, expanding products/services, and entering new markets? As in any sector faced with financial constraints, focus is honed, and operations pivot toward running lean. So, while this can affect executive search when you consider key roles — CEO, CFO, chief growth officer, COO, etc. — the need for top-tier talent is not impacted. However, attracting talent can become more challenging when you factor in potential slowdowns to new market entry or investment realization and exit events.”

Inevitably during times of economic constraint, the biggest challenge for recruiting talent into private equity and venture capital portfolio companies comes in the attraction phase of the search, Mr. Frischmon says. “Talent who may otherwise be willing to consider these roles may not engage because they perceive higher risk and anticipate longer liquidity or payout timelines,” he said. “This means we may spend more time trying to attract viable executive candidates in a time-pressured environment where the client needs top talent in a role that is critical for making its next move and realizing the investment thesis. Additionally, if access to cash is restricted, execution runways may be extended. It then becomes increasingly difficult for private equity and venture-backed companies to retain current executives. This creates the potential for both opportunities and challenges. An influx of talent into the market could mean greater access to a deeper pool of talent. On the other hand, if your client loses a key executive, the role’s appeal to leaders in the market may suffer.”

Mr. Frischmon also notes that all private equity and venture capital firms are looking at the strategic plans across their portfolios and assessing the various levels of cash and investment needs associated with those plans. “Investments are slowing down,” he said. “So, whether you are in growth venture or private equity, there is a level of scrutiny around the alignment of the overarching business and talent strategies to growth initiatives related to current working capital and confidence to access cash for the execution runway. Depending on where the portfolio companies are in their fundraising cycle and how much cash is available, PE and VC firms are recalibrating hiring needs to match that confidence level around access to net working capital.”

“We work in an environment where our first order of business is to keep our heads down and not let the outside noise affect our ability to deliver for our clients,” said Jay Lane, partner at Spectrum Search Partners. “With this said, we’ve certainly seen a variety of current events factor into the decision-making of our clients and potential executives that we recruit. Let’s face it, rising interest rates and inflation affects all of us both as a business and as a consumer. I’ve noticed a slowing in buy-side deals, especially from sponsors that tend to utilize leverage to execute their thesis. With this said, private equity firms that have great track records bring a sense of trust and comfort. What concerns me the most is companies that are unwilling to adapt to the necessary changes required to continually attract and keep talented executives with whom they want to work.”

Today, there are multiple challenges in the searches that recruiters conduct for their clients, according to Mr. Lane. “For one, there is a general assumption that the competitive environment of recruiting talented executives has gone away,” he said. “As of now, it’s still prevalent and the market for talent is fierce. Candidates with a track record of scale and success are highly sought after. From a persuasion perspective, candidates are less likely to make a move if a deal/situation seems riskier than their current environment – no matter how good the story sounds. Creating a buy-and-sell concept through the recruiting process is a challenge. PE firms, their portfolio companies, and their search partners must have the reasons why a candidate should join them reiterated throughout their recruitment process and while paying attention to the speed at which their search processes operate. The candidate experience, for example, the timeline and pace at which a candidate experiences their interview process, tends to move the needle in their desire to join. PE firms that show their attention to talent are winning these competitive battles for great talent.”

“We have seen investment in professional services firms into which executive search or other recruiting would fall into,” Mr. Lane said. “At the end of the day, the right executive search partner is critical in their ability to get at-bats with talent. Our job is to identify, persuade, and evaluate talent that can fuel their growth thesis. We have a number of clients that we’ve supported over a long period of time, and not only have they seen the hire at the start, but, they’ve also seen the effect those people have been on their exit process and ROIC.”

“Looking ahead, it seems as if the market for deals continues to remain competitive,” said Mr. Lane. “I’d imagine that these firms will be paying closer attention to closing on the right deals that mitigate their investment risk. From the talent side, I see PE firms paying much closer attention to the performance of their CFO and CHRO/ CPO in their portfolios.”