The question of succession
The kings of private equity face the difficult task of transitioning to new leadership; Blackstone's IPO could shape the way.
NEW YORK (CNNMoney.com) -- Private equity's power players may be basking in their riches, but one thing their money can't buy is more time.
As the top dealmakers approach retirement, investors and other industry watchers are closely watching how these titans transition to the next generation of leadership.
Succession has been an issue the industry has wrestled with for years, but it has come sharper into focus now that the process is getting underway at some of the biggest houses.
The Blackstone Group's decision to go public is a vivid sign of the attention buyout firms are paying to leadership changes, said Colin Blaydon, director of the Center for Private Equity and Entrepreneurship at Dartmouth's Tuck School of Business.
In its prospectus filed last month, the king of private equity said president Tony James had been chosen as CEO Stephen Schwarzman's eventual successor. The firm also said co-founder Peter Peterson would retire by the end of next year.
"The (entire generation of) guys who built these major firms are all now reaching a stage where they're thinking about how these transitions get made," says Blaydon. "At the same time they're trying to turn their firms into big and permanent financial institutions."
The founders of several of the largest firms are still the key decision makers at their companies - consider Henry Kravis and George Roberts of KKR; Bill Conway, David Rubenstein and Daniel D'Aniello at Carlyle Group; and David Bonderman and James Coulter at TPG (formerly Texas Pacific Group).
For an industry such as private equity, which is characterized by an elite group of dealmakers, a smooth transition at the top is critical to a firm's future.
Continuity and succession within a private equity firm is the single most important factor that influences investors' decision to commit money to a private equity fund, according to a survey conducted by Coller Capital, a fund that buys private equity fund assets.
"There is significant pressure from limited partners when it comes to nurturing talent," says Murari Rajan, who works in the financial services group at executive search firm Egon Zehnder International.
With this in mind, many firms are trying to ensure that the next generation of leaders has the opportunity to work with limited partners, he says.
Washington-based Carlyle, for one, has made efforts to give more of its up-and-coming talent higher visibility, Rajan says. That's partly due to the significant number of funds it runs. Carlyle manages 48 funds, which is almost five times as many as some of its biggest rivals.
A Carlyle spokesman said none of the firm's founders have plans to step down anytime soon, and no individuals have been targeted as potential successors. The firm's three co-founders are all more than a decade away from the firm's mandatory retirement age of 75.
But Carlyle has taken steps to plan for the future. In addition to bringing in Lou Gerstner - the former chairman and CEO of IBM who has experience dealing with succession - the private equity firm has formed a management committee of about 15 senior members to tackle the issue.
Succession is a delicate process that can take years of planning. "These things are never easy," Scott Sperling, co-president of Thomas H. Lee Partners, said earlier this week at a private capital conference.
Thomas H. Lee Partners shifted to new leadership last year, when the private equity firm's namesake founder stepped down, leaving the reins of power in the hands of Sperling, Anthony DiNovi and Scott Schoen. The succession worked out well, largely because the firm communicated the plan to its investors over a period of several years, Sperling said, pointing out that the process formally began in 1999.
But even carefully planned successions don't always unfold without a hitch. The transition at Thomas H. Lee Partners could have occurred more smoothly, some industry watchers say, noting that Lee didn't retire to the role of senior statesman but left to start his own venture.
A smooth transition is critical for the founding fathers of private equity, who want to leave a legacy behind them. That's one of the reasons why public offerings structured like the Blackstone deal are so attractive. Taking the firm's management team public gives the company's founders an opportunity to cash out while also providing an incentive for new executives.
How the Blackstone deal is received by the market could very well shape the succession plans of other private equity firms, said Dartmouth's Blaydon.