Equity comp at PE portfolio companies

I've noticed that WSO has an enormous amount of content on PE carry but limited information on equity compensation for the underlying portfolio companies and their management teams. I've been fortunate enough to be a part of two PE-backed portco exits, so I'd like to share what I've seen and then open it up for others to share any info or experiences.

For those that don't know, PE groups typically create a pool of equity in new platform investments that they provide to management teams to incentive performance. The amount of equity is typically around 10%, and this can go up or down a few percentage points based on the size of the deal (smaller deals will get larger equity pools and vice versa). 

The allocation of the pool varies from deal to deal, but usually the largest chunk is given to CEO, next chunks to COO, CFO, CDO, and remaining chunks to key SVPs and VPs. Some companies choose to keep equity only with the most senior executives while others spread it down even to the manager or associate level, especially for corporate development roles that can help directly impact growth. In a typical 10% equity pool situation, I'd estimate the allocation to be 4% CEO, 1.5% each to COO/CFO/CDO, and the remaining to key SVPs and VPs in corp dev and ops, give or take 1% in each example.

Vesting is typically based on a combination of time and performance, with performance often being based on MOIC at exit. PE firms tend to push for a larger percentage to be based on performance with higher hurdles, while management teams push for a higher percentage to be based on time with lower MOIC hurdles. Based on my experience and what I've heard from others, market is 50/50 split between time and performance, with full vesting received at 5 years and 3x MOIC. I've heard of some firms pushing full performance vesting on naive management teams at 4x or even 5x with no time component, which is crazy and not something you want to agree to.

An example in action - let's say you joined a $25M EBITDA company and grew it to $100M.  The company sold for 10x ($1B) and had 6x leverage, so equity of $400M. The PE group put in $125M so they had a gross MOIC of 3.2x. In our typical example from above the management team would have hit their performance hurdle so they'd be fully vested and receive 10% equity, or $40M. If you were the CFO, you would receive $6M in equity compensation (notwithstanding any rollover or co-investment). Woo hoo!

Now if the company was purchased by another PE group, you'd have the opportunity (and expectation...) to rollover a chunk of this (~50% give or take) to double down and get a second bite of the apple on the next investment. Do this 2-3 times in your career and you can make some serious coin.

Happy to answer any questions and would love to hear what others have seen in their experience. 

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Comments (24)

Oct 27, 2020 - 8:15pm

vandrunk95

Do the equity pools usually get to participate in the total equity sale $ or only after investors capital has been returned?

Yes - there's typically an ABC waterfall where the A tranche is the majority investors, B tranche is management rollover, and C tranche is new management equity. I think it's fair for those that put in real money to get that money back before management receives any equity bonus. The one thing you need to watch out for is the performance hurdles. If you need to hit a 5x return before fully vesting that's no bueno.

  • Analyst 1 in IB - Gen
Oct 27, 2020 - 9:03pm

Interesting to hear your perspective. At my PE firm, mgmt. equity is the same as our equity. This is used as a point of differentiation from other PE firms, and is very well received by sell-side advisers and their clients. Something I learned recently that I didn't realize is that when the mgmt. options vest, they are instantly diluted. So if the option pool is 10%, and we have 100 shares, 10 shares vest for mgmt, they now own 10 shares out of 110, or 9%. Kind of misleading in my opinion.

Other than that, other differences between how your firm and my firm operate is that we always give the CFO more than the other non-CEO execs. Our MOIC hurdles also seem to be higher, I don't think we have many (if any) option plans that fully vest at 3x, but we are on the lower end of the MM so a 3x+ is a bit more achievable. We usually do 25% time/75% performance.    

Oct 28, 2020 - 11:06am

Thanks for the explanation. I'm currently experiencing it first hand working for an ultra LMM company and while I understand the reasons for putting an option pool in place I'm realizing it's not very enticing in this situation.

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Apr 24, 2021 - 8:54am

StrategyJunkie

Do you mind sharing your rough numbers (annual comp and sale proceeds)? Also would be interested what level you are (years of experience, etc.). I'm at a PE firm now but have always thought about jumping to the portco level for operational experience. 

Sure - annual cash comp roughly between $300-450k (varies based on role, company size, location). Sale proceeds of $1-3M give or take each exit (again this will vary). I'm in my mid-thirties and left IB to go to corporate side.

Apr 24, 2021 - 8:59am

coffee21

Would you be able to share about how you became part of the first PE portco exit you were involved with? 

Sure - was burned out on IB so looked for an exit. Found a VP or corp dev opening in the industry I covered. PE sponsor had just come in and needed someone to create and execute the M&A growth plan. This was essentially a roll-up play so I just worked my ass off to scoop up smaller players in our space to grow. Worked very well.

Oct 31, 2020 - 7:21pm

Would say that CEO equity tends to be a bit higher and everyone else's a bit lower than you've described. My package looks decently similar to what's described for non-CEOs. ~15% total equity pool. I've got 0.5%. 70% performance and 30% time based with targets at 2x for half and 3x for the other half on performance. Some performance ratchets up to 1% for hitting certain ridiculous metrics within defined period, but the COVID bump got me nearly all the way there. The PE firm has us marked at 2.4x on a pretty weak exit multiple, so hopefully real outcome is better.

Nov 4, 2020 - 6:53pm

Yiggyyaller, I appreciate your response here and also reading through your post history, lots of value add. Just wondering how you have seen other people get into situations like yourself. It seems like you had a good relationship with your PE firm when you worked there and that opened the door for your job now. Just trying to size up how someone would go from a large corporate CD role into a role similar to yours one day. I'm assuming the no brainer answer is going to be along the lines of networking. But given you have a long post history with some fairly thoughtful responses just wanted to see what else you might throw out.

Nov 6, 2020 - 9:18pm

This is probably obvious to you, but there is no one path to the C-suite at a PE-backed PortCo. Being an associate up for promotion and choosing to go to a PortCo is probably one of the rarer paths. More commonly I'll see long-time consultants (12-15+ years experience) jump to a VP level role and grow into a C-suite level role or someone take 15-20 years working through various companies to get there. 

Someone at a large corporate CD should be looking to get large responsibility and title bumps by going down-market a bit. Maybe you are a manager today, but you can get the bump to Director / Head of Corp Dev at a mid-market company. Or if you don't feel ready to run your own deals, try taking a more senior role at one of the big roll-up oriented PubCos (Constellation Software, Roper, etc. for whatever industry you are in) and apprentice to someone doing the end-to-end work for a few years before making the jump. For someone like you, it comes down to how ready you feel / your skillset to succeed on a platform. It depends on how much you think you can source, manage and execute deals completely by yourself. Can you be the point person for the relationship with the target CEO, manage the advisors/lawyers/accountants, and everything in between to get the deal to the finish line? In both banking and PE, I had good mentors holding my hand through learning every stage of the deal process and every skill you need to succeed in each stage (pipeline building, thesis generation, etc.). 

There's also a certain stage of startup (mostly in tech but also in parts of consumer, healthcare and financial services) where the CD skillset is also pretty valuable in that and I've found people do not need to be quite as buttoned-up on deal making ability and can succeed. You are growing with your company and maybe only doing small tuck-ins or managing de novos but getting the broad exposure you need to eventually succeed. I would say these opportunities have a lower barrier to entry, lower payoff, but can be a better place to start.

I also have 0 context for how senior you are. If you are an analyst, I'd say you probably have a lot of work to do and need to move down-market quickly to get the responsibility to learn these skills. Otherwise you'll just never see enough of the process because other folks internally handle it for you. Ultimately you need to put yourself in the right situation to be highly acquisitive, working with smart people who can teach you and also light a fire under your ass to build the broad skillset needed to succeed.

Nov 4, 2020 - 7:19pm

LMM. CEO equity seems good, the others seem a little high IMO but I'm also in an industry that sees aggressive multiples from time to time.

Nov 20, 2020 - 2:37pm

One additional question for this very helpful thread:

Am looking now at a role at a PE-backed portfolio company. EV of probably $500 - $750 million. They are looking at me for a Director, M&A position. I have about 6 years of banking experience.

Any ballpark for what I should be expecting from a compensation standpoint, both cash as well as what may be reasonable to target from an incentive pool?

Nov 24, 2020 - 11:40am

Is this EV at entry, current, or expected exit? Depends how acquisitive they plan to be and the type of deals they'll do.

I'd expect something high 100's to mid 200's cash comp (higher/lower depending on base vs bonus) a year, maybe 500k-1m of profit sharing units. Value of units completely dependent on exit, obviously.

Also prepare to wear lots of hats.

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