PE firms pride themselves on hiring and promoting the best and brightest. But who decides what and who is best? How do firm leaders know what mix of people and culture will drive success now and in the future? In an increasingly competitive environment with available capital and valuations at an all time high, reported PE returns are already showing signs of decline. As valuations continue to surge, delivering superior returns is only going to get harder. Looking ahead, firms’ ability to find novel perspectives on deals, make quality decisions and add value to portfolio companies post-close will be paramount to staying ahead of the competition. Research has shown time and again the many benefits of diversity and inclusion in driving innovation, customer outcomes, attraction and retention of talent, financial performance and overall fund returns. So how can PE firms leverage diversity and inclusion as a value driver and where are we now?
My colleagues and I have the good fortune of spending regular, quality, one-to-one time with a cross section of leaders from the world’s leading PE firms (including many from Level 20’s sponsor firms). Through an intensive, collaborative half-day process, we develop a rich picture of what makes each individual unique, including cognitive style and capability, motivation, and influencing skill. Looking at an aggregated sample of 59 senior investment professionals from a mix of seven large and mid-cap PE firms, we were fascinated, but perhaps not surprised, to see a very clear ‘PE Archetype’ emerge. The majority of investors (65%) share the same highly-data driven and action-orientated problem-solving style, as opposed to divergent, creative, reflective or intuitive thinking. Seventy-five percent share common strengths around analytical rigour, ambition, determination and proactive, independent-minded ownership. The typical weaknesses centre around building capability in others, interpersonal insight and influence; more specifically the ability to tune into others and adapt to different preferences and styles. What was somewhat surprising was that the women sampled (n=9) had almost exactly the same profile as the men (n=50), albeit with slightly higher drive, determination and ownership. Notwithstanding the caveats required of a small sample size, this suggests that even in firms where women hold senior investment roles (generally still in the significant minority), they are not necessarily contributing to the stylistic diversity of the firm in the way that one might hope or expect. This aligns with findings from research by Level 20 and the Cambridge Judge Business School in 2018, which showed similarities in the personality profiles of men and women working in PE.
SO WHAT? WHY SHOULD WE CARE?
At surface level, the PE archetype seems to make sense when we consider what is needed to drive success. Given the unique and stretching performance conditions, fast-paced thinkers and doers with sharp analytical skills reign supreme. There is a speed, shorthand and efficiency among like-minded deal team colleagues who speak that same language and operate in similar ways. On the other hand, the narrowness and consistency of this profile begs the question of what the PE world may be missing, and the risks associated with this lack of diversity given increasingly competitive and challenging performance conditions. By comparison, in a sample of top performing leaders across sectors, we find a much broader range of strengths and styles, for example, inspiring visionary leaders who spot and create new opportunities, disruptive pioneering leaders who challenge the status quo and inclusive, collaborative people leaders who drive culture change and create a sense of purpose for others. The filters through which many firms funnel talent (e.g. leading business schools and investment banks), mean that private equity is fishing in a very small and consistent pool of talent. In a context where quality of decision making has material impacts on returns, and with such a stylistically homogenous group of people managing a significant proportion of the world’s capital, the risk of group think is an obvious worry. We know from recent research into mirror neurons that ‘similar to me’ biases make it difficult for us to spot and recognise talents in people who are different to us. This makes it systemically harder for firms to broaden talent pools and to spot and cultivate the diverse strengths of their current people, since individuals who fail to exhibit the archetypical profile are at risk of ‘tissue rejection’. Individuals with different thinking styles and strengths can struggle to gain full membership, with equal respect, to the club. Their ideas therefore may go unheard, leading to disengagement, attrition and ultimately a degradation in quality of decisions. Without conscious and proactive intervention, the problem of homogeneity is likely to perpetuate and even worsen.
WHAT NOW? WHAT CAN PE FIRMS DO ABOUT IT?
Diversity, Equity and Inclusion, particularly gender diversity, is already a hot topic in the world of private equity, fuelled at least in part by increasing pressure and scrutiny from LPs. A number of initiatives are underway within firms, from sponsorship programmes for women, to recruitment process reviews, to unconscious bias training. However, it is interesting to note that during the 2018 PEI Women in Private Equity conference event, by show of hands less than 10% of the audience (predominantly women working in PE) believed that their firm was doing the right thing and enough in terms of diversity and inclusion. So what will make the difference and spark real change?
THE SOLUTION LIES IN LEADERSHIP
In order to shift the dial, PE firms must make a strategic and cultural commitment to diversity, equity AND inclusion over time. We know from research that creating a diverse organisation is not enough. In order to realise the benefits of that diversity, firms need to create an inclusive culture and culture starts with firm leaders. Firms often look to ad-hoc training or one-off initiatives as the starting point, taking the lead from ‘what is working well’ in other firms. However, these simple solutions target individuals and rarely have the desired results unless implemented as part of a systemic, organisation-wide mindset and culture shift. Instead therefore, firms must make a clear link from diversity and inclusion to firm strategy and performance with full, aligned and public top down sponsorship and ongoing commitment to change. Specifically, firms should pay attention to three key ingredients for success:
1. MAKE IT PERSONAL
Leaders need to feel a genuine personal connection to the agenda. Often it is firm leaders with daughters who have made specific commitments around gender diversity. For them, improving firm diversity is personal, linked to their own success and the success of the firm. This commitment from top leaders cascades down, so we see that inclusive leadership then becomes a priority in partner development and performance management conversations.
‘Our focus on this initiative is derived first and foremost from a recognition that diversity of thought is critical to building a high-performing and enduring organisation. But this initiative is not only good for business; I’m acutely aware that in a few years’ time, when my eldest daughter enters the job market she will rightly ask “Dad, given your role, what did you do to level the playing field?”. I’d better have a good answer to that question – in relation to our firm and the portfolio at large. We don’t have all of the answers today, but I am convinced that we will find them.’
– Andrew Sillitoe, Co-CEO, APAX Partners
Having a personal reason, whatever that may be, can make a big difference to leaders’ commitment to driving change. It is therefore recommended that firms take the time, not only to reflect on the business case for diversity and inclusion, but also to discuss why it matters on a personal, emotive level to each firm leader.
2. FOCUS ON CREATING PSYCHOLOGICAL SAFETY
Google’s two-year study into 180+ teams revealed that the single core success factor to high performance was psychological safety. In a psychologically safe environment, people feel able to take an interpersonal risk, to challenge, to ‘ask the stupid question’ or to suggest a different idea. This acts as the catalyst to untapping creative ideas, increasing broad contributions and in turn leads to better decisions. By contrast, evidence from neuroscience tells us that when under stress or when we don’t feel safe, blood flows from the brain to the body and cognitive function and decision making becomes impaired. Only in a psychologically safe team will diverse talent thrive and the ability to create an environment of psychological safety sits at the core of good leadership.
3. DEVELOP LEADERSHIP CAPABILITY
When we look at the leadership needed to create psychological safety, our data suggests that qualities such as interpersonal insight and empathy are critical, and precisely the qualities that the archetypical PE leader lacks. PE leaders therefore need to invest to develop these new capabilities. We know that what is prized above all in PE is deal making, so the best dealmakers become firm leaders, often with little to no preparation or support for what it means to lead. PE firms may be missing out on an opportunity to recognise, reward and cultivate leadership potential from a much earlier career stage, as highlighted by Emma Watford, Partner at Bridgepoint.
‘In private equity, management responsibility and opportunities to lead often come very early in your career – a classic example is responsibility for managing due diligence advisers. While much focus is given to the quality of analysis deriving from these due diligence exercises, very little time is devoted to considering whether, as a PE professional, you got the best from your advisers through the way you engaged with them. We often give our advisers feedback on how we think they did but do we ever ask them for feedback on how we did? Recognising that private equity professionals do have these leadership opportunities from early in their careers and using them as development opportunities is more important than ever given we know that diverse teams only function better than homogeneous teams when they are well led.’
– Emma Watford, Partner, Head of Business Services sector, Bridgepoint
Even where there is support and preparation, making the transition to be a firm leader and a manager of people is generally a step up and a steep learning curve for newly promoted PE firm leaders, regardless of gender. While the practical elements of making an investment may remain unchanged, the responsibility for the investment decision and for leading the team to ensure everyone’s views are articulated is a shift that is mentally very different. Leaders who have successfully made that shift highlight the importance of making the time to reflect and act differently, and that this needs to be a deliberate effort, given how busy life in PE can be. The experience of transition was described by a recently promoted female partner:
‘Being promoted to partner was the career highlight I’d worked towards for years, especially as the first female partner and the first partner beyond the founders. It’s been an amazing, rewarding and hugely stretching first six months in role. I find myself with formal line management responsibility for the first time and I am focused so much more on developing our firm culture and how to shape the organisation for future growth. The leadership development and executive coaching I’ve received has been invaluable in helping me to take a conscious approach to managing this transition and accelerating my own development of new, essential people leadership skills.’
– Recently promoted female partner, Global mid-cap PE Firm
PE firms are waking up to the importance of leadership, as a value driver, in portfolio companies and firms alike. We are seeing much more focus and investment in the development of current and future firm leaders, with programmes that help leaders to develop better self-insight and broaden capabilities. Critically, we see the managing partners of firms leading by example, adapting their own behaviours, role modelling inclusive leadership and investing to develop themselves as leaders. The very concepts of psychological safety and inclusive leadership have become part of the lexicon and daily conversations within these firms.
IN SUMMARY
The PE world is facing a crisis in diversity, not just in the obvious, often visible, aspects of diversity (age, gender, ethnicity, educational background etc.), but also on a much more fundamental level, in terms of the strengths and styles of its senior leaders. Given increasingly competitive and challenging conditions, firms need to act now to safeguard performance and returns in the future. The firms that will win are those that can harness the collective insight of a more diverse talent pool. What is needed to get there is the full commitment of firm leaders to develop themselves and to re-shape the culture of PE firms, moving towards much more psychologically safe cultures where diverse talent is attracted and thrives.
Originally written by Pamela McGill at YSC Consulting for Level 20, its sponsors and members, in 2019.
The views expressed in this article are those of the author and are not necessarily representative of those of Level 20, its sponsor firms or members, rather it is intended to promote awareness and discussion.