The long transition from Family to Private Equity owned pharma business. Get ready for “some” changes

You see, there is no better or worse option when it comes to the question which is better, a Family-owned business or a Private Equity owned one? They are simply different. There are examples of successful businesses of both types. The biggest share of Roche belongs to Hoffmann Family, Boehringer Ingelheim and Fareva are Family owned and all of them are undoubtedly successful. On the other hand, Stada is owned by a Private Equity firm and the same goes for Ethypharm which are also highly successful”. These were some of the first words that people working for a pharma Family-owned business that was about to change its ownership status to Private Equity, listened from the new management.And indeed, this is the truth. You can find successful examples in both banks of the river. However, they are indeed also very different. And there is a reason that they are different. There is a reason why expectations and targets are usually different and there is a reason why the transition is full of changes on the way of working.

The reason is that while the owners of a Family business think that they and their heirs will rule the company forever, a Private Equity wants to sell the business in the next 5 years or so. And the way to sell a business is by using the EBITDA Multiple, which may mean nothing if you don’t intend to sell the company but it is everything if selling the company is the intention. EBITDA multiple in simple words is how many times its EBITDA value can a company be sold in the specific industry. Let’s assume, that the average EBITDA multiple in the pharma business is 10. This means that if the annual EBITDA of a company is 10 million euros, it can be sold for around 100 million euros (of course other parameters like debt, pipeline, IPs etc. also affect the selling price).

This alone, is enough to change everything in the priorities as well as in the way of working. While annual volumes in packs and annual revenue (and cash in pocket) is important for a Family business, it does not mean much for private equities. EBITDA is the king and this is because at the end of the day the company will be valued and sold based on its profitability and not on its annual revenue or on how many packs it produced last year.

So, few months after the first words, mentioned in the beginning, some other words kept coming…

“What is the value of our pipeline for the next 5 years? What part of the repricing that we made to our customers last year, was covering material cost increase, labour cost increase and profitability increase? Can you calculate for me the impact on EBITDA (not just gross profit) of this new project? And if we decide to discontinue that unprofitable product, what will be the impact on EBITDA? Our CFO asked to know what will be the benefit on profitability if we finally decide to acquire this new ERP system that we asked for. Can you make a cost-benefit analysis and give me the ROI on this ERP system?

“And we need to stop measuring the size of the RFQs we receive in terms of annual volume in packs and start talking about revenue and even better profitability.

“Our new owners are not so much familiar with the pharma business, so 5 million packs do not mean much too them, 5 million euros revenue does mean a bit more and 5 million EBITDA is their mother language.”

All of them are valid questions, the problem is that if there are no tools, systems and procedures to answer those questions, people working in the company, need to set them up. New tracking tools should be prepared, new reporting tools should be formed, new procedures should be in place. And of course, someone has to support the people during this transition and explain to them why all of these questions are asked and why all this new information is important for the company. Someone needs to explain that although it was not important so far to know the pipeline for the next five years now it is very important. Even if it was not necessary up until now to show every month how we perform vs the 5 years business plan, now it is important because our investors need to be assured that we know what we do and we have the situation under control. It is particularly important to know Who will do What by When because in this way we show to our investors that we have a plan that will allows us to meet the 5-year target and finally the company could be sold at a desirable price at the end of the period.

But in order to know Who will do What by When, a tracking tool is not enough. Even if the tool is there, people have to learn what to feed it with. They need to change their mentality and shift from “securing a new business is great” to “securing a new business is great, but it’s not enough. You need also to report it”, otherwise top management will not know about it and investors will not be confident that everything goes according to plan. While in a Family business (especially the small ones), the owner might take part even in the negotiations of this new business and he will probably know even the tiniest of details such as what is the output of the IMA packaging line, things are different under Private Equity. The administrators will not care about the details, they have other worries. And definitely they do not know what a good output for an IMA packaging line is.

Apart from reporting what you should do and by when in order to meet the target, the other impact of such transition may be on the focus on customer satisfaction. Usually, Family business puts much emphasis in the long-lasting relationship with customers and this is because of the nature of the business. It is supposed to be a long term one. Since this is not the case with Private Equity and the horizon is much shorter, it should not come by surprise if this customer focus is lost. This is a big change for people in the company dealing with customers and it might mean that instead of training only the employees of the company in transition, maybe its customers should also be trained…

There are other changes that affect people’s everyday lives. For example, it is easier for a Private Equity owned firm to invest in a new packaging line if this makes sense (if this will increase its value). Access to capital is usually easier compared to Family business. And this changes the negotiation power of people in business development for example. However, for such an investment to be approved, a business case should be drafted in a way that the top management will understand before it can approve it. Therefore, people need to learn to draft business cases and be in a position to support/present them in front of the top management.

Delays in decision making is another change that probably should be expected. In a Family-owned business, the manufacturing site head or the Business Development director will have easier access to the CEO or even the owners. This means that decisions can be taken faster. In Private Equity owned companies, things are usually different, more formal. More approval levels and alignment are required before the business case reaches the CEO and he can take a decision. I remember for example that we had to set up an RFQ steering committee that would discuss ongoing RFQs every two weeks. Even when it was made clear that this was not enough and we started discussing every week, this was the only opportunity to talk to everyone that was required for a decision to be taken regarding RFQs. And without this weekly call, no decision could be taken.

Summarizing, although one can find successful examples of companies under both types of capital structure, one thing is certain; the transition for the employees will not be a walk in the park. It will take effort and time to adjust and change in the way of working is inevitable. The best thing to do is to see this as an opportunity to learn and make the most out of this experience. Because at the end of the day, getting out of your comfort zone makes you stronger.

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