Framework for value (private equity portfolio company oversight)

RDT Management Group Inc.Creating Value | Imagining the Future

Framework for ValuePrivate Equity: Portfolio Company Oversight


1Wednesday, 25 April, 12


Agenda

• Overview - foundations of firm management

• Control Environment

• Governance

• Risk Management

• Operations



Foundations of Firm Management

Key elements to an effective business investment strategy is the implementation of business practices and processes at portfolio companies to optimize operations and manage risk. Value creation and operational effectiveness is not possible without a foundation.

Foundation core can be best represented by the following four pillars;1. Control Environment2. Governance3. Risk Management4. Operations



Foundations of Firm ManagementControl Environment

Risk Management

Governance

Operations

Core Pillars



Core PillarsControl Environment

Factors that matter“Tone at the Top”

• Integrity and Ethical Values. “Knowing the difference between what you have the right to do, and what is the right thing to do!” Former Justice Potter Stewart, U.S. Supreme Court Justice.

• Board of Directors. Tone at the Top starts with the board and audit committee, and is often reflective of its independence and expertise.

• Human Resource Management.Effective HR requires;Ø Documented strategy and processes.Ø HR Linked to business strategy.Ø Effective performance management.



Core PillarsGovernance

Factors that matter!

• Board and Audit Committee• Executive Committee• Planning Cycle• Key Performance Indicators• Financial Reporting and Corporate Responsibility.• Internal Audit• External Audit





Board and Audit Committee

• Autonomous from management.• Establish parameters within which management operates, the “FENCE”.• Act as coach to CEO and Senior Leadership team.• Monitors, assess performance and takes corrective action.• Ensures the compliance to regulatory and legal environment.• Provides assurance and oversight to all stakeholders with respect to the

integrity of firm’s economic performance.





Executive Committee

• For portfolio investments the Executive Committee should be the main conduit for the ongoing review of operations.

• Standard agenda (Operations, Sales, Financial Issues, Human Resources, Other)

• Comprised of Company Senior Leadership team and key stakeholder representation.

• Frequency; at least monthly, could be bi-weekly depending upon issues present.

• CEO responsible for package preparation.




Organizational Objectives and Strategy

Three Year Plan

Original Yearly Budget

Six Month Reforecast

Budget

Periodic Actual to Budget Review

Yearly Planning Meeting

2/27/12

RDT Management Group Inc.

Planning Cycle

Planning Session Should commence in the month

following the publishing of the 3rd quarter report.

Yearly Budget flowing from the three year plan should be completed and approved by

the board in the month following the availability of the preliminary 11 month

report.

The Six month Reforecast should be completed and available for the quarter two board meeting.

Monthly comparisons and variance analysis to budget/

reforecast and full management reports

prepared quarterly. Includes tracking of set KPI’s

Establish/reconfirm Mission. Establish/review Strategy, set Tactics and establish/review Key Performance

Indicators (KPI’s). Includes ongoing review of industry

positioning and competitors.





Key Performance Indicators

• Benchmarking, Industry and Competitive. If Private use Public Market Proxies.

• Identification of Key (5-8) Performance Indicators.• Monthly Analysis and Review.





Financial Reporting and Corporate Responsibility.

• Communicate and demonstrate ethical culture top down.• Financial Statements fairly represent economic reality (“quality of earnings”).• CEO/CFO take personal responsibility for accuracy and completeness.• CFO has dual responsibility; first to board and shareholders, second to CEO

and company.





Internal Audit

• COSO framework.• Depending on company size, may be performed by stakeholder staff (in case of

portfolio investment), outsourced or an internal function.• Reports to audit committee (or equivalent).• Even the smallest of investments should have some form of internal audit

function.• Think of internal audit as risk mitigation and risk adjusted return

enhancement!





External Audit

• Report to and appointed by the Audit Committee not Management.• Risk audit parameters determined by Audit Committee (or equivalent).• Non-audit services restricted, irrespective of asset size.• If portfolio investment is new, replace auditors or external accountants.



Core Pillars

Risk Management

Factors that matter

• Risk management cannot be detached from corporate strategy and tactics.• Corporate Risks encompass; Business, Market, Credit and Operational issues.• Paid to take – Business Risk (i.e. Sales, Industry Structural Issues)• Paid to Manage – Market and Credit Risk (F/X, Inputs, A/R default, Counter-

party, Country)• Paid to Mitigate – Operational Risk (Controls, Regulatory, Systems)



Core Pillars

Risk Management

Factors that matter

• Business risk becomes a function of relative sales volatility and operating leverage.

• Financial risk; acceptable capital structure leverage, should be inverse to business risk.

• Higher the business risk the less sustainable leverage becomes.



Core Pillars

Risk Management

Factors that matter

Steps

• Metric Specification• Exposure Mapping• Scenario Generation• Valuation• Risk Measurement Computation

*CorporateMetrics Technical Document, Risk Metrics Group



Core Pillars

Risk Management

Factors that matter

Nine Rules of Risk Management (RiskMetrics Group)

1. No return without risk.2. Be transparent3. Seek experience.4. Know what you do not know.5. Communicate.6. Diversify.7. Be disciplined.8. Use common sense.9. Return is only half of the equation.



Core Pillars

Operations

Factors that matter

Well thought and designed processes “Frameworks for Business”

• Simplify “new staff ” orientation.• Ensure adherence to “Control Environment”. Establishes the “fence” to which

the business operates within.• Feed-back loop for continual improvement.• Consistency and replication.



Core Pillars

Operations

Factors that matter

Three Key Components

1. Demand-side;• Clear in-depth understanding of macro, industry, competitive and

customer environment.• Definable, documented and effective sales process.

2. Supply-side (Toyota Production Systems Model);• Shorten.• Simplify.• Smooth, demand pull!

3. Infrastructure-side.



Summary

From investment due diligence, acquisition, portfolio company management to exit strategy the foundations of firm management are supported by the core pillars.

Value creation is dependent on effectiveness of the firms foundation.

Finally, the Foundation is impacted by Global, Industry and Company Events. Strategy and tactics cannot be developed and executed without a full understanding of this environment.


Economy & Finance

Framework for value (private equity portfolio company oversight)