41822

RESOURCE ORCHESTRATION POST-MANAGEMENT BUYOUT

Hans Bruining

Introduction

Financial expertise, negotiation skills, insights into debt markets, and experience in optimizing capital structure are all important drivers of value creation for private equity (PE) investors. However, for the purpose of value generation in buyouts, PE investors cannot do without capable management who take actions to restructure, revitalize, and grow the business. In fact, managerial knowledge of operational and industry requirements is crucial to buyout success. In this chapter we show how buyouts of mature firms are managed to create value drawing on the concept of resource orchestration (Sirmon et al., 2011). More specifically, we look at the actions taken by new owners to better manage the company’s resources and capabilities post-buyout from three levels. First, we consider the post-buyout changes to strategy described in the buyout literature (Gilligan & Wright, 2014) and the consequences for the resources they acquire, accumulate, and divest. Then we review buyout studies to identify management initiatives to improve the efficiency of existing capabilities, and to enrich or acquire new capabilities, in order to improve a firm’s competitive position. Finally, we trace organizational changes in buyouts that help coordinate capabilities to support the implementation of strategies to improve firm performance. Implementing strategies to improve buyout performance requires management and organizational changes that improve existing, extend current, and build new capabilities, and coordinate them post-buyout to create value.

Usually it is a significant advantage if managers know pre-buyout how the business must be conducted after the buyout. This involves understanding the resources and capabilities required to exploit post-buyout opportunities. Sometimes adjustments have already been put in motion before the buyout and gain momentum after the buyout. In other cases, the necessary adjustments emanate from buyout negotiations with the PE investors. We argue that without appropriate and timely implemented changes in management, organization, and strategy, the responsible management team cannot manage the firm’s resources adequately and thus cannot create an efficient, adaptive, and innovative firm that generates value. To make sufficient progress with these changes in buyouts, management and investors need to balance managerial as well as entrepreneurial mind sets and incentives (Wright et al., 2000). PE investors can play an important role in creating an ambidextrous mix of 419administrative and entrepreneurial management (Bruining et al., 2013). This supports the firm to adapt to the dynamics of the industry by simultaneously developing new products, creating operational efficiency, increasing organizational collaboration, and enhancing the strategic distinctiveness of the buyout firm, with each of these offering potential for value creation.

In this chapter we use the resource management model from Sirmon et al. (2007) to explore the resource management process in buyouts stemming from four main sources: divisional buyouts, family firm/private buyouts, secondary buyouts (SBOs), and buyouts from receivership. We adapt the model for buyouts and illustrate how new owners orchestrate their resources and capabilities to create value by improving exploitation of existing opportunities and creating new entrepreneurial opportunities – a process that involves changing the firm’s strategic focus (Morrow et al., 2007). Drawing on case studies of buyouts from each of these sources we outline resource-related actions of managers/owners in PE-backed buyouts and capture the associated changes in management, organization, and strategy post-buyout. This helps them to anticipate the actions required in terms of firm resource management to improve performance. Anticipating these changes should help managerial-investor alignment and further clarify the expected contributions of each. The structure is as follows. First, we define buyouts and present different buyout sources. Second, we review the buyout literature (Gilligan & Wright, 2014) identifying what we know about post-buyout changes to strategy, management, and organization. We link the findings for the changes to the resource management model of Sirmon et al. (2007) and adapt the model to cover the reported changes following buyout. Third, drawing on buyout cases from four main sources we illustrate how new owners transform resources and capabilities post-buyout by taking action with regard to four aspects of resource management, specifically strategy, structuring resources, bundling resources, and leveraging capabilities. Fourth, we analyze the findings across the case studies and present differences and similarities in post-buyout resource management. Finally, we draw conclusions for the successful orchestration of resource management for managers and PE investors and discuss implications.

Definition and sources of buyouts

According to Wright et al. (2000) a buyout is an acquisition of a firm by a group of individual managers and investors. Buyouts involve new ownership and governance structures. These take the form of managerial equity ownership, commitment to create new growth opportunities, pressure to service debt, and in many cases ownership and active involvement by the PE investor. The PE investors, before committing themselves, conduct due diligence and consider strategic plans by gathering privileged information from discussions with management and trusted external sources. A due diligence report screens the firms’ resources and capabilities and its position in the market. For example, it seeks to establish whether products/services are new and uncontested or just introduced, or already settled or declining. It also considers if resources and capabilities are in line with needs, redundant, or require developing. In addition, it considers whether the firm’s organizational configuration is in a good or bad shape, whether staff reduction is necessary, or current staff skills require development.

In each buyout the new owners are strongly motivated to further the economic development of the firm and managers/employees require courage to personally invest in the firm. By doing this, they align with the PE investor’s goals and communicate a sense of urgency to do what is best for the company in the short and the long term. In addition to 420a managerial mind set to improve existing capabilities, adopting an entrepreneurial mind set (Wright et al., 2000) is indispensable to the effective implementation of changes that tap into new opportunities for value creation post-buyout. This requires restructuring of the resource portfolio and expansion or skills renewal, as we will explain later. In larger deals, PE firms have a majority of the equity and monitor performance to stay in control of value generation, providing strategic advice to guide the long-term development of the buyout firm.

Buyout sources

Looking at the total value (equity and debt of the deals) of the market for buyouts and buyins, SBOs take nearly half of the total value, followed by divisional buyouts stemming from local and foreign parent firms (30% of total value), while private/family firm buyouts account for only 18%. However, in terms of numbers, the main buyout source is private/family firm buyouts (44%), followed by buyouts from local or foreign parent firms (25%), and SBOs (23%) (CMBOR, 2015). Buyouts, especially those backed by PE, can lead to significant changes in a firm’s ownership composition and subsequent rate of growth (Scholes et al., 2010). This is reflected in strategy, organizational, and management practices.

Bringing about changes is not a “one size fits all” exercise for all buyouts. No buyout is the same. In the case of divisional buyouts some firms have been denied access to financial resources for growth and modernization for a long time because the parent firm was financially troubled. Other divisional buyouts did not belong to the core business of the parent firm, although timely divestment may not have deprived them of resources for a prolonged period. The possible consequences may vary from catch up investment to a refocus of strategy and entering new markets following buyout (Wright et al., 2001). Buyouts from other sources like family firms, which are characterized by succession problems, may have suffered from under-investment by risk-averse and aging founders. Another issue, also often affecting buyouts of family firms, is that the authoritarian style of leadership of founders may also have encouraged managerial and staff disengagement (Ball et al., 2008). Catch up investment and changes in managerial style and organization culture are therefore often required post-buyout. Changes in SBOs are less clear. SBOs may require financial backing by a PE industry expert to further focus on efficiency to reduce costs or growth to improve revenues. In buyouts from receivership, turnaround often requires substantial changes in resources and capabilities to improve business processes and implement the strategy successfully.

The next section examines and links the evidence from the strategy, management, and organizational changes after the buyout to the resource management model of Sirmon et al. (2007).

Buyout literature

Strategy changes

The business plans of buyouts mobilize the identification of resources and capabilities needed to exploit market opportunities based on external and internal analyses, as well as investments needed in new capabilities to develop new products/services. They are a vital tool for any company seeking any type of investment funding, because they document a company’s management, business concept, and goals (Gilligan & Wright, 2014), and lay the 421foundation for a shared value creation focus between management and PE investor (Acharya et al., 2009). Once they are analyzed on readiness to exploit opportunities in current and adjacent markets and verified by the PE investor’s due diligence process, it can be decided which resources should be divested, acquired, and/or accumulated to develop new capabilities and new markets.

New owners often change the strategic focus of buyouts by reviewing the firm’s resource portfolio. The buyout literature since the late 1990s (Gilligan & Wright, 2014) suggests this involves buyouts acquiring, accumulating, and divesting resources. Growth-oriented buyout deals use acquisitions and joint ventures (Gottschalg, 2007) to develop new markets and products. Acquisition capabilities of PE investors are important drivers of profitability and growth in divisional buyouts and of post-buyout efficiency improvement (Cressy et al., 2007; Meuleman et al., 2009; Alperovych et al., 2013). Buyouts accumulate resources by increased alertness to opportunities for creating wealth (Bull, 1989) such as developing new but related products (Wright et al., 1992; Seth & Easterwood, 1993; Phan & Hill, 1995), new product development, and improvements to marketing and cost control (Malone, 1989; Zahra, 1995; Bruining & Wright, 2002). Divestment is also an important issue, for example, Muscarella and Vetsuypens (1990) reported that US leveraged buyouts, which are relatively more diversified than EU buyouts, improved strategic focus by acquisitions in 25% of cases and by divestment and reorganization in more than 40% of cases. In the UK, 18% of buyouts sell surplus land and buildings and 21% sell surplus equipment (Wright et al., 1992). Other studies of US buyouts report cost-cutting by asset sales and disposals that lower capital expenditure (Kaplan, 1989). The strategies that buyouts implement reduce diversification (Wiersema & Liebeskind, 1995), with one-third of buyouts selling both related and unrelated assets within six years (Kaplan, 1991; Seth & Easterwood, 1993). The following sections examine empirical evidence with regard to how a change in strategic focus post-buyout translates into management initiatives that combine firm resources to construct and alter capabilities, and in organizational actions to coordinate and deploy capabilities to implement new strategies after the buyout.

Management changes

In the early development of the buyout market, previous research focused primarily on efficiency-enhancing buyouts, which emphasize quick and strong improvement of bundling or combining existing resources. The management effort was primarily directed towards improving the existing business execution, thus stabilizing the firm on a solid economic basis as quickly as possible. The managers focused on: decreased overhead, increased operational productivity, cost-cutting programs, improved capacity utilization, improved planning and logistics, decreased working capital, reorganization of operations, and employment reduction (Wright & Coyne, 1985; Baker & Wruck, 1989; Thompson & Wright, 1989; Muscarella & Vetsuypens, 1990; Bruining, 1992). Several studies report more effective management and higher plant productivity in LBOs than in comparable firms (Lichtenberg & Siegel, 1990; Amess, 2002; Davis et al., 2009), often following significant reductions in employment (Harris et al., 2005). We conclude that management changes post-buyout report the improvement of existing operational capabilities with immediately positive effect on the efficiency of buyout firms. However, buyouts are heterogeneous and literature has highlighted other sources of performance improvement which require extending current capabilities or the creation of new capabilities. For example, by lifting the restrictions imposed by former parent firms, the buyout firm managers may focus on growth opportunities and engage in catch 422up expenditure on new equipment and plant, and develop new products and markets (Wright et al., 1992; Bruining & Wright, 2002). Such expenditure may help to explain higher revenue growth in buyouts than in industry comparators (Singh, 1990), increased cash flow to sales ratio (Opler, 1992), and higher cash flow and return on investment (Bruining, 1992). The specialist role of the PE investor is also highlighted, with frequent interaction between investors and executives during the first 100 days to improve strategic planning (Acharya et al., 2008). Wilson and Wright (2013) report that PE investors specialized in the industry of the target, compared to non-PE-backed private companies, show significant positive cumulative average growth rates. Some platform buyouts, operating in fragmented markets, use “build-up” or “roll-up” strategies for growth, with PE investors specialized in selecting acquisitions consolidating markets through acquisitions (Gottschalg, 2007; Wright et al., 2010). Such buyouts show increased profitability during three consecutive years (Cressy et al., 2007) and higher growth in divisional buyouts (Meuleman et al., 2009). PE involvement in buyouts helps improve performance as the duration of the buyout increases and when economic conditions are more adverse (Castellaneta & Gottschalg, 2016). Other studies report more focused patent portfolios after PE investment (Lerner et al., 2008) and more patenting post-buyout (Ughetto, 2010). These studies suggest PE investors help to develop and enrich the capabilities of buyout firms, for example by providing expertise to develop new products and markets or by creating new capabilities through learning from firms that are acquired. Castellaneta and Gottschalg (2016) find that they differ in capabilities of value addition to buyouts, and LeNadant and Perdreau (2014) point out the financial leverage constraints.

Organizational changes

Buyouts also introduce organizational changes by improving coordination of capabilities as reported in early wave buyouts in the 1980s and 1990s. Divisional buyouts seek to improve communication by shorter lines of communication between top management and operations, and encourage employee participation in decision-making through the introduction of flexible working practices (Wright & Coyne, 1985). Bruining (1992) also reports divisional buyouts hiring product development specialists to release operations staff to concentrate on production, reducing senior management to decentralize decisions to line managers, decreasing contracting out to control product quality, and increased feedback to improve operations. To better use their capabilities to create value, divisional buyouts reorganize because independence from parent firms encourages greater operational autonomy, with operational and marketing decisions decentralized and increased participation in decision-making to improve firm performance (Green, 1992). Managers in divisional buyouts work alongside PE investors in making critical financial decisions rather than having to seek approval from parent firms (Baker & Wruck, 1989). New accounting control and strategic control systems are often introduced that better meet targets and allow entrepreneurial growth (Baker & Wruck, 1989; Jones, 1992; Bruining et al., 2004). Operational decentralization increases with management equity stakes in the firm (Phan & Hill, 1995). Later wave buyout studies confirm this decentralization trend and report higher levels of employee commitment (Pendleton et al., 1998), more commitment-oriented employee policy (Bacon et al., 2004), increases in training and employee empowerment (Bruining et al., 2005), and more discretion for craft and skilled workers over their work practices (Amess et al., 2007). The impact of high performance work practices in buyouts is affected by the length of the PE investment relationship (Bacon et al., 2012).

423To support coordination of the chosen strategy, buyouts physically use capability configurations. For example, changes are made to how top managers are monitored, evaluated, and advised. In order to implement the buyout’s strategic plans, PE investors join the (supervisory) board and meet with the CEO and the management team to control policy, and to talk over personnel matters and strategic topics facing the firm. Supervisors with proven experience from “networks of former entrepreneurs” are often hired (Acharya et al., 2009; Wright et al., 2010). Boards can be equipped with insiders with operating experience and outsiders with entrepreneurial skills to capitalize on growth opportunities. PE investors set higher standards for performance management, and managers lacking specialized knowledge or underperforming are replaced (Baker & Wruck, 1989). In many cases, PE investors can be seen as an organizational refocusing device that simultaneously increases entrepreneurial and administrative management (Bruining et al., 2013).

To summarize, given the business plans, buyouts mobilize a reconfiguration of firm capabilities to exploit market opportunities. Post-buyout decentralization helps improve working practices and increase participation in changes to improve performance. Board recomposition introduces new knowledge to reconfigure the balance between capabilities to improve operations and exploit entrepreneurial opportunities. We suggest in the next section that this is usefully framed by the resource management model.

Resource management model for buyouts

In many firms which are candidates for a buyout, managers have paid insufficient attention to updating operations, coordinating structures, and capabilities. In this section we explain how the strategic emphasis of CEOs and PE investors is operationalized in strategic resources and capabilities in buyout firms. We apply and adapt Sirmon et al.’s (2007) resource management model of value creation for mature firms that go through a buyout and link the findings of the resource-related actions from and across four case studies to the components in this model; specifically: strategy, structuring, bundling, and leveraging of resources. Compared to the buyout literature, the resource management model examines the orchestration of value creation in a coherent way. With this model (see column 1 of Table 22.1) we explore a comprehensive process of strategy, structuring, bundling, and leveraging of the buyout firm’s resources with the purpose of creating value for customers and competitive advantages for the firm. From the literature we conclude that strategy, management and organization changes post-buyout cover conceptually the components of the adapted resource management model of Sirmon et al. (2007).

Orchestration in buyouts starts with mobilizing the firm’s strategy, as new owners need to identify the capabilities required to support the organizational changes necessary to exploit and explore market opportunities before investing money. It is an outcome of the pre-buyout strategizing process and therefore a realistic starting point for resource management post-buyout. We place this component at the front of the Sirmon et al. model, whereas the other components have been taken over unchanged.

The second component of the resource management model includes top management actions of acquiring, accumulating, and divesting resources, labelled “structuring” or management of the resource portfolio. The structuring component follows strategy, containing processes of purchasing, developing, and divesting firm resources, and in what products and markets the new owners want to invest and compete and where they want to stay out of or withdraw from. How they will do this is also considered; for example, this may involve 424developing their own product-development resources such as R&D facilities or by selecting acquisitions to purchase resources.

The third component, “bundling” of resources, focuses on three types of actions, the ones that stabilize existing capabilities, those that enrich current ones, and the group representing new capabilities. The management change part of the literature embodies the bundling component, the way the firm combines resources to stabilize, enrich, and create capabilities. Stabilizing aims at making improvements of existing capabilities to recover efficiency and stabilize the firm post-buyout. Improving efficiency may also require enriching or extending the firm’s current capabilities with regard to quality management for example. New capabilities may be required if the business plan involves development of new products and entry of new markets in environments that are highly uncertain. Developing entrepreneurial potential requires new capabilities related to product and market innovations.

The fourth component, “leveraging”, consists of coordinating actions to integrate identified capabilities and physically using capability configurations to support strategy post-buyout. Both steps are needed to implement strategy. For integrating the identified capabilities into an effective configuration we look at organizational changes post-buyout, often characterized by reducing the bureaucratic organizational structure, redefining the entrenched organizational culture, and appointing new managers or board members to develop new products and markets. Changes therein facilitate quicker decision-making and a proactive stance among their employees towards customers to improve market responsiveness. Such leveraging processes support distinctive competences in the post-buyout strategy that can create competitive advantage.

We list these components in this order in column 1 of Table 22.1, showing at a glance which strategic choices management and investors in alignment make and how they purchase, develop, and shed resources and develop capabilities to create value post-buyout. Some buyouts stand for the first time on their own feet, such as divisional buyouts, or need to change entrenched relationships, as in the case of family buyouts, or make a fresh start after receivership, or are SBOs. This will have consequences for the timing and content of bundling resources, the processes of coordinating and integrating capabilities into configurations, and deploying them physically to exploit opportunities. New owners are keen on making changes, but literature also shows that the PE investor can be seen as a capability configuration to implement post-buyout strategy. They were challenged after the 1990s recession and the dot.com bubble to develop from a passive to an operational active investor (Denis, 1994; Cornelli & Karakas, 2008; Bruining et al., 2013) who could facilitate or initiate enrichment of current capabilities and creation of new capabilities to coordinate a chosen market opportunity strategy. Some were more successful than others.

To understand how the new owners post-buyout arrange this process to create value, we need to know to which resource-related actions they give priority post-buyout. Possessing resources is not enough to understand what happens with resources managed post-buyout (Sirmon et al., 2007). We illustrate how new owners/managers transform resources post-buyout to create value and the path followed in buyouts that emanate from different sources. We describe resource-related actions at the levels of strategy, structuring, bundling, and leveraging illustrated by case studies, and report our findings to illustrate how top managers and PE investors may regard their active role in prioritizing and synchronizing these actions. In this way we get an idea of how they orchestrate the different components of the resource management model. The next section describes these actions in different areas of resource management in each of the four buyout sources. Table 22.1 presents an overview of the findings.

Table 22.1      Overview of the resources management findings in four types of buyout¹

425

426

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Orchestrating divisional buyouts

One of the central questions in divisional buyouts is whether the company is ready to function independently or whether certain functions such as administration, finance, and purchasing should be brought up to strength. The divested firm must stand alone to operate independently from all support provided by the former parent. With regard to mobilizing strategy, due diligence checks focus on whether the buyout can stand alone in terms of business strategy, market, firm resources and capabilities, the management, and organization.

The classic scope for performance improvement depends on lifting the split between ownership and management of the corporate assets and the use of appropriate control and incentive mechanisms by the PE investor (Fama & Jensen, 1983; Hill, 1985; Thompson & Wright, 1987) which were lacking pre-buyout. Agency controls like monitoring and rewarding of the management by the PE investor, goal alignment between PE investor and management based on equity participation, and incentives for mutual monitoring by members of the management team, will lead to a more efficient and profitable allocation of resources. By having claims more closely tied to the performance of the unit under their control, managers can be expected to improve their performance (Hite & Vetsuypens, 1989) and carry out plans that are in the best interests of the firm.

We illustrate the resource management implications of divisional buyouts drawing on Draka Holding N.V., a divisional buyout from electronics parent company Royal Philips as summarized in column two of Table 22.1.

428Draka Holding NV

Strategy

In response to the 1973 and 1979 oil crises, Philips concentrated on its core activities such as consumer electronics, light, and medical systems and decided to divest the cable firm Draka in 1986. Draka had negative results and no major investments during the period 1975–1985. Managers participated in inefficient and time-consuming intercompany meetings and non-constructive competition within the Philips cable group. With a turnover of €100 million Draka was sold in 1986 for an undisclosed sum to its management and employees, each with 5% of the equity, with the rest contributed by PE firm Parcom (at the time a subsidiary of the Dutch ING Group) and PE investor Flint Beheer (a PE company owned by a wealthy investor). Philips’ strategy had involved vertical integration, internal growth, and targeting products at a broad range of applications. After a divisional buyout, Draka changed this strategic focus and opted for a focus strategy of development, production, and marketing of electrical wire and optical fiber on an international scale for buildings, industry, transport (cars and air-planes), and original manufacturing companies. This strategy was chosen to withstand severe international competition from Siemens, Alcatel, BICC, and ABB. In the glass fibers sector, Draka became one of the largest global players, securing one of two exclusive contracts to supply cables to Airbus and a successful cable business supplying the computer industry. It took somewhat more than two years to become a leading expert in the electronic cable sector.

Structuring

Post-buyout, Draka divested its high voltage and telecommunication cables business. After a few years it embarked on an expansion program of 25 international acquisitions in glass fibers and electrical wiring between 1989–1997 at a cost of €240 million, as well as maintaining new investments in existing operations amounting to €90 million in this time period. Finding, screening, and selecting acquisition candidates were extremely important PE investor capabilities given strong competition from Pirelli, among others. R&D expenses increased development of resources fourfold compared to the period before the buyout.

Bundling

Simultaneously, Draka improved post-buyout efficiency in existing operations at the Amsterdam plant and also enriched skills with new machines and a new lay-out for approximately €32 million. It reduced overhead and labor costs, improved working capital and cash management, and optimized quality control and material use. Furthermore, supplier contracts were renegotiated to decrease costs by approximately 20%. This also applied to the companies purchased. Shortly thereafter followed pioneering new skills from R&D and newly acquired firms yielding innovative solutions in glass fibers and electric wiring. The combined efficiency drive, improved operational and innovative capabilities signaled to Draka workers that the buyout team was confident about the future of the firm. Restructuring and expansion was initially funded by cash flows and financial backing from Parcom and Flint.

Leveraging

According to the CEO, the new shareholders demonstrated commitment to Draka employees, and combined with employee ownership encouraged discretionary effort. Further 429restructuring involved relocating support staff outside Draka (including 100–150 employees in the catering and technical services department) mainly by redeployment to subcontractors. Coordination improved with greater responsibility for decision-making in autonomous subsidiaries and managerial delayering with a small corporate office.

Profitability consciousness programs were introduced for the workforce to decrease costs by approximately 20%. This also applies to the companies purchased. Top management encouraged cultural change from a “wait and see” attitude towards greater self-management through an increased expenditure on training and management development for middle subsidiary management. Speed of action became very important for the firm to compete with Alcatel, Regem, and BICC.

To finance these transactions the company went public in 1991, listing on the AEX Stock Exchange. In 2009 the company was acquired by the Prysmian group, an Italian multinational in Milan and world market leader in cables.

Orchestrating family buyouts

Succession is a central issue in family business survival. In private or family firms, buyouts often facilitate ownership change to address the lack of adequate successors. Family businesses are therefore a hot market for buyout investors (Reinebach, 2007; CMBOR, 2015).

One of the most prominent features of a family business is often the emotional involvement of the family. For the family, the company is not only the place where they perform work during the week, but is much more a part of life that keeps them always busy. Emotional involvement stems from the fact that the company is not only a source of income but also a status determinant of the family. Employee commitment to family owners can provide a significant competitive advantage. The negative view of family business suggests that family buyouts have opportunities to address the negative effects of informal management, entrenched family relationships, and autocratic leadership styles.

In contrast to the challenge facing divisional buyouts to stand alone, family firm buyouts are accustomed to operating independently. The scope for performance improvement post-buyout depends not so much on agency controls as in divisional buyouts, but on the degree of professionalization of management (Howorth et al., 2015), the effectiveness of management control systems, and on deferred investment in innovation due to increased risk aversion of an aging founder (Meuleman et al., 2009). A necessary condition for improving operational efficiency and stimulating growth is thus the presence of the founder and absence of non-family managers with equity stakes and non-executive directors pre-buyout (Scholes et al., 2010). Non-family managers and directors may have forced family firms to professionalize management and increase investment. A contrasting argument is that family businesses may focus on long-term investments to benefit future generations rather than short-term gain, stimulating innovation and firm growth. In such cases, post-buyout gains may stem from efficiency savings. We now consider how the new owners may orchestrate their resources to realize value creation post-family buyout as summarized in column three of Table 22.1.

Royal Peijnenburg b.v.

Strategy

In 2000, Royal Peijnenburg Biscuit Factories, with a turnover of €45 million and 213 employees was sold by the Peijnenburg family for an undisclosed sum to Gilde Participaties 430(77%), specialists in the food industry, and incumbent management (23%). The lack of family successors and weak liquidity that hindered investment triggered the sale. Prior to the buyout it had grown organically in existing market segments for bread substitutes by maintaining market share. Following the management buyout (MBO), it focused on broadening the strategy to sell other A-brands in addition to gingerbread and to grow externally by acquisition, merger, or strategic collaboration. New marketing and coordinating capabilities were needed to develop more innovative products and bring them faster to the market.

Structuring

Pre-buyout, the firm accumulated scarce innovative resources to produce biologically-based biscuit products, e.g., healthy snacks and quick breakfasts for children. It also engaged in co-creation with ingredient suppliers in order to finetune products to consumer preferences. To withstand competition the firm needed further and above all faster growth. The PE investor identified a firm for acquisition, a former chocolate sprinkles subsidiary of Dutch food company CSM; however, this was cancelled because the deal price was too high for Royal Peijnenburg. There were no divestments of resources.

Bundling

The firm, certified for preventive food safety, had a strong market position in a mature market and supplied A-brands for food products in coffee and tea and in-between meals. However, under family ownership, the firm had lacked a commitment to profit optimization. Therefore, post-buyout, management focused on improving labor efficiency, overhead reduction, contribution margin, and higher productivity, stabilizing their financial management capabilities. One of the measures involved removing a complete management layer in all four factories, resulting in shorter lines of communication, quicker decision-making, and improved cash flow. The PE investor introduced tight controls over cash flow, brought in brand strengthening processes, installed clear rules over investment decisions, and sharpened the focus on turnover, costs, and margin. For example, 10% of turnover should come from new products and investment decisions required an ROI target of 20%. The introduction of a quality management system with strict food processing guidelines delivered improved hygiene and optimized the use of raw material and maintenance, thus extending capabilities. To stimulate further growth, the firm needed to improve coordination between R&D, production, and marketing functions. As a result, the PE investor introduced new marketing expertise to build brand loyalty, creating new logos and commercials.

Leveraging

The most far-reaching change post-MBO was the change in organizational culture to overcome parochialism and the strict separation between office and production operations that had limited staff engagement. For leveraging innovative resources in the marketplace more effectively, a major coordinating change was necessary to transform a closed family firm culture into an open culture stimulating a proactive entrepreneurial management style to exploit current and adjacent market opportunities. The CEO sought to break open the closed culture, a heritage of prolonged paternalistic leadership of family owners, through increased training and management development to create a results-oriented attitude. Training concentrated on entrepreneurship, creativity, decisiveness, persuasiveness, leading, and customer 431orientation. Input came from brainstorming sessions between directors, plant managers, and marketing, using benchmarking with competitors and research from scan information. This resulted in product repositioning projects and renovation of the production floor. After the MBO, a new bonus-related appraisal system for managers was deployed, which connected firm goals, department goals, and personal goals. In June 2006 the company was sold to Lotus Bakeries (Belgium).

Orchestrating SBOs

The total value of SBOs in Europe accounted for nearly 50% of PE-backed transactions and represented one-quarter of all PE transactions (CMBOR, 2015). Buying portfolio firms from other PE investors became popular, because corporate restructuring programs were on the decline. In an SBO the first buyout deal is refinanced with a new ownership structure, including a new set of PE financiers, while the original financiers and possibly some of the management have exited. The central question in these buyouts is whether there is still upside potential left after the first PE investor has left. Literature offers contrary findings. Some studies argue that all the “low-hanging fruit” is harvested (Brinkhuis & de Maeseneire, 2009; Wang, 2012), and SBOs perform worse than primary buyouts (Bonini, 2012; Freelink & Volosovych, 2012; Smit & Volosovych, 2013; Zhou et al., 2014). In contrast, other studies report that SBOs have similar (Achleitner et al., 2012) or better value creation potential compared to primary buyouts (Jelic & Wright, 2011). Below we consider how a new composition of owners, including a PE partner specialized in the industry of the buyout firm, may orchestrate their resources to realize value creation post-SBO as summarized in column four of Table 22.1.

Grozette b.v.

Grozette b.v., founded in 1963, produces a variety of fresh as well as dried grated cheeses for the food industry, foodservice, and retail. In addition to the Grozette brand, the firm also manufactures products under private labels. Grozette is a household name in the Netherlands and an established international company with activities in more than 30 countries.

Primary buyout

In 1996, the founding families de Groot and van Zijl decided to sell the company to Gilde Investors (50%) and a private investor, owner of Kaascentrale (50%), who distributes fresh cheese on behalf of Albert Heijn, a large Dutch supermarket chain. The latter shareholder had cheese production and trading interests and hoped to achieve synergies with this portfolio. In the years following the family buyout, Gilde Investors and management made concerted efforts to professionalize management systems, introducing up-to-date procurement, quality control, and distribution systems. However, gradually Grozette’s directors felt that the private investor regarded Grozette as a cash cow, limiting new project development. Growing differences in opinion and private investor interference in management had a negative impact on morale and management effectiveness. Finally, Grozette’s shareholders attempted a sale and agreed the €4.3 million price of an SBO in November 2003. At the time of the SBO the company had 70 employees and €25.0 million annual turnover.

432Secondary buyout

Strategy    In 2001, “Parmesan” was granted trademark protection restricted to producers in specified Italian regions, triggering a supermarket price war that reduced Grozette’s turnover and resulted in low to zero profits. Therefore management wanted to change the strategy focus of the firm to offering customized products (for example, ready made salads), yielding higher value with increased margins on low volumes. If Grozette could be the first to enter these niche markets, they would benefit from first-mover advantage. The SBO made possible a refocus on the drying and grating business. Incumbent managers had six weeks to raise the necessary funds and accepted a bid that granted PE investor Antea a minority stake over other investors that wanted a majority stake.

Structuring    The focus on niche markets with lower volumes and higher value-added after the SBO required divestment of unprofitable trading activities with low profit margins and required increased storage and transportation capacity. With an annual volume of only 7,000 tons, Grozette’s small trading business was divested. To accumulate resources, Grozette’s SBO invested in market research and product development by investing in R&D to open new product opportunities in domestic and foreign markets. Due to limited cash flow, no resources were purchased from acquisitions.

Bundling    Grozette bundled resources and stabilized existing capabilities to improve performance by cutting overhead and labor costs, and improving productivity and efficiency using their contribution margin. Divesting the trading business reduced the workforce, with redundancies avoided by not extending short-term (one-year) contracts. Reduction of inventory costs following the divestment of the trading business, and reduction of reserves and cash-in-hand produced more efficient cash flow management. Fixed assets decreased in line with the reorganization and disposals of equipment previously used in trading. Two years after the SBO, operating costs had significantly decreased. Each product sold contributed more to earnings then previously, with better net profit and quick ratio (liquid assets, cash, and receivables) signifying an improved debt service ability.

Market research activities extended current capabilities to identify market niches. Pioneering skills in new product development helped to secure business from pizza factories, pasta ready-meal producers, supermarkets, and the Middle East market. Grozette became a big private-label producer of customized products such as mini-sachets (from 7–60 g) of different kinds of cheese used in pre-made salads, and in cheese products that comply with Islamic dietary laws. It exported to more countries (increasing from 30 to 50), and taking into account the divestment of the trading business, turnover increased from €25 million in 2004 to €30 million in 2008.

Leveraging    After the SBO, the bureaucracy of having to consult with the private shareholder was removed, leading to a leaner production and sales operation. An informal culture developed with direct communication between MBO directors and lower-level management and workers and higher levels of engagement. Antea also provided solid contacts in the industry with one of their investors coming from a major customer, Friesland Foods. This industry expert joined the supervisory board of Grozette b.v. after the SBO was finalized in February 2004. The case provides an example of a successful deployment of a PE investor with industry-specific experience on the supervisory board to support the chosen market opportunity strategy in adjacent markets. After four years, Antea sold Grozette b.v. in 2008 to another PE investor, Astor Participaties.

433Orchestrating receivership buyouts

In 2012, 5% of the total number of buyouts stemmed from receiverships, representing nearly 0.5% of the total buyout value (CMBOR, 2012), subsequently declining sharply to approximately 0.5–1.0% per year since then. In receivership buyouts from insolvency extensive changes are usually required. Following liquidation there is a small chance that the firm can be taken over by incumbent or interim managers and PE investors. The latter are usually hands-on turnaround specialists and must believe that the firm may become viable and the right management team is available to realize this. Below we present a buyout from receivership that highlights the capability problems that lead to bankruptcy and the actions required for turnaround following bankruptcy. Column five in table 22.1 summarizes these changes.

Vialle Alternative Fuel Systems BV

Vialle started as an importer of liquid petroleum gas (LPG) equipment in 1967. It was the first company to invent and patent liquid propane injection in the 1980s. Despite its market and technological leadership in LPG automotive systems in the Netherlands and despite the attractiveness of promising foreign markets like China, the firm did not succeed in developing and implementing a successful strategy to profitably market its LPG fuel system. Numerous unsuccessful projects targeting distant markets and a shrinking home market in Europe created a very high cost structure and severe losses. It operated in a declining niche market due to the negative image of LPG among car drivers and government transport policies with regard to LPG at the beginning of 2000. The successful introduction of a liquid propane injection (LPI) system with higher output efficiency compared to older vaporbased technologies was not without start-up problems, as was the conversion to the next generation systems. Vialle’s strong focus on research and testing enabled the firm to complete the development of its LPI system in 2001, but this had drawn resources away from sales and marketing. The firm was trapped in a situation with ample opportunities but high losses.

Strategy

By 2001, the majority shareholder PE investor Antea hired an interim manager to develop a business plan to rescue the company. He approached PE investor and turnaround specialist Nimbus and presented a strategy to make the company profitable. The new business plan aimed to focus Vialle on selling products, entering markets in selected countries, and downsizing the workforce from 180 to 106 employees. Since the firm had a unique position in a technologically highly qualified product, it was decided to focus on the marketing of the LPI system to car manufacturers in Europe to install LPI injection systems in the production of cars and to dealers who offer to install a second fuel system in cars.

After five weeks of due diligence by Nimbus and close co-operation with the interim manager, Antea agreed to invest with an agreed plan of action. The original intention of Nimbus was to buy the firm as a “going concern”, but Vialle’s liquidity crisis was too serious to prevent receivership. Following liquidation on January 8, 2002, Vialle was acquired by PE investor Nimbus and other PE investors Antea, NesBic, and Foresta. The interim manager stayed on as managing director with a relatively small shareholding of 5%.

434Structuring

The old LPG technique of vaporizer systems was withdrawn from the market, the Asian expansion cancelled, and the development and marketing of heavy applications suspended. Vialle acquired resources from PE investor Nimbus to enable a restart after the turnaround with up-to-date resources of financial management, operation management, and information technology.

Bundling

To stabilize the firm financially, the workforce was further decreased by 50, and 4 Nimbus investment managers were appointed as specialists to key positions and realized the turnaround in 11 months. They took care of restructuring and associated personnel issues, debt restructuring, financial control, and the improvement of working capital. The specialists extended Vialle’s current capabilities and implemented a new ERP system, improved the firm’s logistics and production planning system, and relocated the firm. With ISO certification of the LPI production processes, new capabilities were created to provide the automotive industry with guarantees related to LPI installation and problem-solving. These capabilities were essential emerging from bankruptcy to commercialize its technically superior LPI module. Vialle became a preferred supplier of LPI systems, and effective marketing increased turnover, with 23 new employees hired and trained to market LPI installation and increase operating capacity. Within a couple of months, the first original equipment manufacturing contracts with Hyundai were signed, yielding a 50% increase in turnover per month.

Leveraging

To build a new company and integrate the required capabilities, Nimbus concentrated on reducing costs and restructuring the organization, and the managing director concentrated on customers and marketing. The PE investor accompanied the CEO on trips to large potential customers. After one hectic year of turnaround activities, Vialle recorded above average profitability and a strong balance sheet. PE investor Nimbus negotiated an MBO with the managing director, which was announced June 3, 2003. The new shareholders were PE investor Antea (12%), key managers of Vialle (8%), and the managing director (80%). All Nimbus managers were replaced by newly-appointed managers from Vialle.

Although improved marketing to increase turnover remained the top priority, the new owners post-MBO sought to decrease costs and further improve margins. This involved reducing the variety of liquid gas tubes offered to a few standard tubes. Directly supplying the automotive industry in other countries boosted turnover significantly, with 180,000 LPI systems sold in a licensed deal to Hyundai taxis in Seoul (Korea), and the total German market developed to 70,000 LPI systems. Compared to 13,000 systems for the saturated Dutch market, these numbers indicated significant growth potential in foreign markets, with local assembly facilities sought in China and India. Finally, Vialle created alliances with other firms successful in improving acceptance of LPG products, such as BK, a former subsidiary of Royal Dutch Shell, and specialized in LPG distribution.

Resource management across different buyout sources

These four cases illustrate the shift in strategic emphasis of CEOs and PE investors post-buyout, the successive consequences for the firm’s resource portfolio, the development 435of resources to construct and alter capabilities, and the process of integrating capabilities to support value creation strategies. These involve orchestrating resource management in the period after the buyout and illustrate how orchestration depends on buyout source characteristics, showing how top managers and PE investors may regard and outline their active roles in prioritizing and synchronizing these actions. The general conclusions are as follows.

Strategy

The resource management process in buyouts starts with the strategy, e.g., the identification of the capabilities needed and of the organizational configuration to exploit market opportunities, usually defined in a business plan or management plan pre-MBO. Draka and Grozette left highly competitive mass markets and shifted strategic focus to higher value-adding resources to realize growth. Vialle and Peijnenburg emphasized in particular new marketing strategies to market their innovative products more effectively.

Structuring

After the SBO, Grozette advanced internal R&D resources to develop new products, concentrating on accumulating. Draka implemented a growth strategy by decentralizing R&D facilities and undertaking numerous acquisitions to acquire pioneering capabilities that address the competition in the glass fiber and electronic wiring markets. PE investors backed the accumulation and acquisition of their resource portfolio.

After the proposed acquisition was cancelled to broaden the market with A-brands, Peijnenburg’s new owners concentrated on developing branding resources for new products. Vialle, product leader pre-buyout, acquired resources for ERP, logistics, production, personnel, and finance from the PE to build a new company through a turnaround. Divestment of unprofitable businesses (Draka’s high voltage telecom cables, Vialle’s vaporizer technology, and Grozette’s cheese trading) did not harm future value creation, and PE investors brought skills varying from selection to value-adding to help buyouts focus on profitable business activities that created value within a three- to five-year timescale.

Bundling

Stabilizing actions by managers to improve financial management capabilities post-buyout helped decrease operating costs in all four types of buyouts. Stabilizing existing financial management capabilities helps to retain and update the healthy core of the firm. This assists in addressing pre-buyout problems such as low margins, high cost-levels, high overhead of the parent firm, lack of professional management by founders, low productivity, and absence of profit consciousness. However, stabilizing is not sufficient for creating value over the longer term. Draka invested in enriching capabilities through rationalization and modernization of existing operations, and in learning and creating new capabilities from acquisitions, while Grozette accumulated internal resources for market research and new product and market development. Enriching capabilities with new marketing programs took place at Peijnenburg and Vialle. Top management and PE investors in Peijnenburg first enriched the firm’s skills to optimize profit, quality control, and use of raw material. Gradually, the bundling of resources shifted to creating new marketing capabilities to increase sales by building brand loyalty, new marketing campaigns, logos, and commercials to create quicker entry into the market. Top management and PE investors in Vialle agreed to focus on the 436effectiveness of the new marketing approach and develop capabilities to secure ISO certification. This marketing capability was further developed after the buyout.

Leveraging

Draka, Peijnenburg, and Grozette all improved coordinating post-buyout involving decentralized decision-making and management delayering to encourage quicker decision-making and direct communication with the shop-floor. The CEOs from Draka and Peijnenburg sought to create a more entrepreneurial culture that focused on innovation and customer requirements. Management development programs were introduced at Draka’s strategic business units to achieve self-management and profit consciousness, which were seen as necessary to building leadership in electrical cable and glass fibers. Vialle built a new marketing department which maintained strong links with supply channels, dealer networks, and assembly sites to install LPI modules in cars. Grozette integrated capabilities organized around the core business with R&D for ad hoc product development teams.

Different physical capability configurations are deployed to support the chosen firm strategies. To be able to operate on a global scale, Draka transformed subsidiaries into strategic business units, responsible for profit and costs per product-market combination, thus leveraging its key resources focused on certain markets. This supports the use of capabilities to sustain a market opportunity strategy. To sustain growth by acquisition, the firm went public in 1991 and listed on the AEX Stock Exchange. Saying goodbye to the legacy of low staff involvement in innovation in the past, Peijnenburg’s brainstorming sessions, job appraisals, and reward systems provided feedback and formed a capstone for integrating entrepreneurial capabilities into an effective configuration of capabilities, thus leveraging key resources to sustain penetration by product positioning to exploit current opportunities and develop new products in adjacent markets.

In the secondary MBO of Grozette, the PE investor appointed an expert in the food industry to the supervisory board to monitor and support exploring and exploiting opportunities in new markets. To help improve the image of LPG, Vialle cooperated with BK, at the time a liquid gas subsidiary of Shell. The temporary employment of PE specialists in production planning and logistics, enterprise resource management systems, and turnaround enhanced human capital to turn the company around and readied Vialle to implement a market opportunity strategy.

Conclusions

There is a lack of empirical literature that specifically focuses on resource management in buyouts from different sources. With this chapter we offer a resource management framework for buyouts, to identify and explain the resource management actions of the new owners and their implications for performance. Analytically our findings confirm the scarce observations that buyouts emerge as an efficient and effective means of needed organizational change (Wright et al., 2001) and that heterogeneity of buyout types offers considerable opportunity for entrepreneurial pursuits (Meuleman et al., 2009). To draw general conclusions, we argue that buyout companies in similar circumstances as the cases discussed here, may be facing the same resource orchestration challenge.

•     The buyout resource management model shows a coherent view on resources-related actions following buyouts. Noticeable is that despite low or high uncertainty in the environment, nearly all buyouts structure the resource portfolio and divest nonprofitable activities and combine resources to stabilize the firm’s efficiency.

•     The cases offer insight into the differences in scope for improvement for buyouts from diverse sources. Initial conditions of the buyout source determine resource management priorities to implement strategy post-buyout. In the divisional buyout entrepreneurial opportunities may have been stifled by parental control. The buyout gives leeway to decrease agency costs, extend current capabilities by rationalization and modernization of existing operations, and create new capabilities from acquisitions. In a receivership buyout tasks to rebuild the company are divided. The PE investor sets the decisive steps for the turnaround and the director focuses on getting customers. To enhance entrepreneurial and profit orientation in a family buyout, management demands cultural change. For improving market positioning and new product development, a new match of incentives and mindset between management and a PE investor with an appropriate advisory source is needed in an SBO.

•     Insights into the value of the capabilities inherited on buyout are essential for developing effective value creation strategies. For each different buyout source, buyouts develop different capability configurations where the PE investors are actively involved because new knowledge is transferred into the firm. To penetrate new markets, a food industry specialist from the PE network can be appointed to the supervisory board of an SBO. To grow fast in new markets, integrating well-selected acquisitions by the PE investor in the organization of the divisional buyout is indispensable. In case a planned takeover is cancelled, PE can support further professionalization of the marketing function in a family buyout to defend and conquer market share. To turn the company around after bankruptcy the PE investor can deliver key personnel and assist the CEO in obtaining customers.

•     Indebtedness in buyout firms requires managers to work closely with investors who can provide experienced human capital. The role of the PE investor is therefore of great importance in decisions with regard to orchestrating resources.

Note

  1    The author would like to thank the CEOs, CFOs, and the PE investors of the buyout companies for their cooperation and Arjen Mulder, M. Dijkman, R. Hendriks, M. Kessels, N. Pourel, A. Sewbalak, F. Elfring, M. Guimares, S. Heidepriem, and L. Bennet Leyers for their case study research assistance. The author is also grateful for the valuable comments of Nicolas Bacon.

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