Why a good CFO is mission-critical in private equity-backed businesses

Miles Otway, partner at private equity firm Connection Capital explains why a CFO is essential for a company that wants PE backing.

How important is your finance function to the success of your business and how much value does it add? While for many companies the Finance Director (‘FD’) or Chief Financial Officer (‘CFO’) are seen as a necessary – but not particularly strategically-important – part of the management team, for private equity investors their role is absolutely pivotal.

There are four key areas where the CFO adds demonstrable value for an entrepreneurial company seeking investment from a private equity (‘PE’) investor:

  • Helping you get our investment in the first place – a “complete” management team including a CFO is a key consideration for an investor. The quality of data for us to back up our investment decision is invariably better when the individual is of high calibre and experience.
  • Helping you make better decisions on the journey – a high quality CFO will make sure that the decisions that are made, led by the CEO and management team, are robust and more likely to deliver success.
  • Management bandwidth – the single greatest barrier to success in businesses we invest in is the capacity (or lack of) to deliver on the opportunities. There is always more to do than time and management resources available, and hence prioritisation and sound decision making become all the more important.
  • On exit – When trying to sell a business (or indeed conclude a secondary Management Buyout (‘MBO’), the hardest role within a management team is that of the CFO. As on the way in, the quality of data and the robustness with which the team’s forecasts can be backed up will make a huge difference to both the valuation and deliverability of the transaction.

Securing the initial investment

Looking at each of the points above in more detail, the first thing to say is that if you have really reliable financial data, you stand a far better chance of securing investment from us and our private equity brethren. Although there are many factors that will influence a PE investor’s decision on whether or not to invest in a company, everything ultimately hangs on the numbers. We invest other people’s money and are therefore pretty risk-averse. We rely on the quality of the data provided to help us make our decisions. We will be having regular touch points with the FD or CFO during the pre-investment appraisal and due diligence process – far more frequent than with any other member of the management team, even the CEO – so we need to have confidence over the rigour of the financial reporting – as will any bank involved in providing debt support to the transaction.

A CFO is vital to a private equity backed business

Generating value from informed decision-making

That means not just knowing the numbers inside out, but conducting the thorough analysis needed to underpin strategic business planning, so that we – and most importantly the business itself – can be sure that decision-making is well-informed, based on accurate data and a reliable evaluation of the financial (and business) risks. That’s not to downplay the importance of gut-feel, particularly where an experienced management team know their product or service and their market incredibly well – the point here is that it is a good CFO’s job to question and test that instinct.

In the vast majority of cases, the data will support management’s thinking, giving comfort that the right decision has been made – whether that’s to open a new production facility or launch a new product or service. In this way, good financial information should provide a sound basis for growth, reducing risk and improving prospects. But sometimes it will help to avoid costly mistakes and/or identify other potential options. So often when failures occur, decisions made on the basis of poor quality KPIs are at the root.

Simply put a good CFO will help you make better decisions.

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Experience counts

It is crucially important to have a CFO with wider commercial acumen and extensive experience who can add real value – not just a “bean counter”. While SME companies are often prepared to invest in recruiting good quality sales or ops directors, too often finance is overlooked and doesn’t grow in line with the business. For a smaller, entrepreneurial businesses, the cost of a high-calibre CFO often seems just too high – but for those with ambitions to become a much bigger entity and secure PE backing, it is money well spent.

There are other benefits to having a good CFO as well as informing good decision-making. Operationally within the business there are often areas of untapped value that companies either don’t know exist or don’t have the ability or confidence to unlock.

A good CFO will build the right structures and processes – for example, he or she will know how to push suppliers to get better value goods and services or improved payment terms and will also be able to deliver better collection of payments from customers. This increases cash in the business – freeing up investment funds to help deliver more ambitious growth plans. The usually six-figure salary of an experienced CFO should be viewed from that perspective – with the cash differential they can achieve on millions of pounds’ worth of invoices alone, they should earn their keep very quickly.

Related: The Accountant as Entrepreneur – We meet CFOs treading the fine line

A top CFO will also be an enabler for the CEO and other senior management. The right person should be prepared to roll up their sleeves and get stuck in. By being able to rely completely on their CFO to take care of financial – and related – issues, pro-actively and efficiently, CEOs can carve out more time to focus on other priorities, giving them the bandwidth they need to create value.

CFO can drive value across the organisation

A safe pair of hands

If the CEO can rest assured that the financials are in good hands, so can private equity investors. We’re much less likely to need to take your time asking difficult or searching questions, if we are confident that the CFO consistently delivers good quality, accurate numbers. And if he or she is one step ahead of the game with the answers when we do ask questions, so much the better. We know we can step back and let the company get on with running its business – and provide the strategic support as required along the way. But conversely, if discrepancies are a regular occurrence or if it’s a struggle to get management accounts on time, we’re likely to have to get more involved.

And as with entry, robust financial data remains just as critical when it comes to exit to ensure that value can be maximised.

Having an experienced, pro-active, dependable CFO in place should make running the business easier, with higher prospects of success: turning that plan, that vision, those opportunities into reality because decisions can be backed up with hard financial evidence. The way we see it, for most growth businesses, ensuring a top-notch CFO is in place should be seen as an investment in the company’s future, not a cost. Private equity investors tend to see the CFO role as mission-critical – and more businesses could benefit from seeing it that way too.

Miles Otway is a partner at private equity company Connection Capital.

Jonathan Alpert, CFO at private equity-backed drinks company Kevita, who oversaw its sale to Pepsi in 2016, discusses the importance of a CFO in Private Equity.

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