Sustaining the Buyout Governance Model: Inside Secondary Management Buyout Boards
| Published date | 01 January 2019 |
| Author | Ranko Jelic,Mike Wright,Dan Zhou |
| Date | 01 January 2019 |
| DOI | http://doi.org/10.1111/1467-8551.12301 |
British Journal of Management, Vol. 30, 30–52 (2019)
DOI: 10.1111/1467-8551.12301
Sustaining the Buyout Governance Model:
Inside Secondary Management Buyout
Boards
Ranko Jelic, Dan Zhou 1and Mike Wright2,3
University of Sussex, School of Business, Management and Economics, Brighton BN21 9SL, UK, 1University
of Reading, Henley Business School, Whiteknights,Reading RG6 6UD, UK, 2Imperial College Business
School, Exhibition Road, London SW7 2AZ, UK, and 3University of Ghent, Belgium
Corresponding author email: mike.wright@imperial.ac.uk
This paper examines the impact of private equity (PE) directors and their human capital
on operating performance in a unique hand-collected sample of 200 secondary manage-
ment buyouts (SMBOs) during 2000–2015. It shows that PE directors’ human capital
tends to play a statistically and economically important role in performance. Financial
(rather than operational) experience of PE directors in acquiring PE firms tends to have
a substantial impact on post-SMBO profitability, while high-level business education is
especially important in post-SMBO growth performance enhancement. Complementary
expertise, provided by directors in buying and selling PE firms, plays an important role
only in post-SMBO growth improvements. Overall, the paper’s results provide evidence
that governance benefits of the buyout model tend not to be exhausted in the primary
buyout stage, but the eects in the secondary buyout phase depend on the nature of PE
directors’ human capital resource, notably in respect of the balance betweenboard moni-
toring and advisory roles. This studytherefore adds to growing evidence on how the own-
ership and life-cycle nature of firms aect sustainability of boards fulfilling their roles.
The results are robust to sample selection bias, dierent types of PE firms and dierent
measures of human capital.
Introduction
Management buyouts and related transactions
represent an important organizational ownership
innovation, enabling firm reconfiguration and
reinvigoration to maintain performance (Ahlers
et al., 2017; Toms, Wilson and Wright, 2015).
Weare grateful to Marc Goergen (Editor) and the anony-
mous referees for their comments and suggestions. We
thank participants at the 16th Workshop on Corporate
Governance and Investment, Alliance Manchester Busi-
ness School (December 2015) and 2015 European Finan-
cial Management Association (EFM) Annual Meeting.
We are indebted to Gary Dushnitsky for providing us
with the concordance that links VEIC and SIC schemes
(see Dushnitsky and Shaver, 2009). The usual disclaimer
applies.
Buyouts enhance corporate governance compared
with prior owners, as board and management
changes (Cumming, Siegel and Wright, 2007),
leverage and the alignment of managerial and
shareholder incentives address agency issues
(Jensen, 1989). In a secondary management
buyout (SMBO), the initial (primary) buyout is
acquired by new private equity (PE) financiers.
Secondary management buyouts often involve
changes to board membership, including replace-
ment of PE directors and existing chief executive
(CEO) and chief financial (CFO) ocers, while
companies remain in private ownership rather
than being acquired in a strategic sale or going
public. Secondary management buyouts are an
ownership structure and governance mechanism
that has grown in importance since the financial
C2019 British Academy of Management. Published by John Wiley & Sons Ltd, 9600 Garsington Road, Oxford OX4
2DQ, UK and 350 Main Street, Malden, MA, 02148, USA.
Sustaining the Buyout Governance Model 31
recession. By 2015, the extent of SMBOs was at
parity with primary buyouts (CMBOR, 2016).
Despite growing research (Siegel, Wright and
Filatotchev, 2011; Wang, 2012), there is a paucity
of studies on SMBO corporate governance and
the role of PE partners and executives on boards
(PE directors). This is an important omission in
light of the heated debate about short-termism
and the nature of performance in PE-backed
buyouts (Goergen, O’Sullivan and Wood, 2014;
Kaplan and Str¨
omberg, 2009; PSE, 2007; Wood
and Wright, 2010). Yet, SMBOs represent a means
to sustain the buyout organizational form over
time, and hence a novel context to examine the
sustainability of corporate governance in the area
of ownership evolution.
Evidence on SMBO underperformance would
be consistent with the hypothesis that agency cost
reduction and other benefits associated with the
buyout model are exhausted in the primary buy-
out (Arcot et al., 2015; Degeorge, Martin and
Phalippou, 2016). However, while previous stud-
ies report mixed evidence on SMBO performance
(Achleitner and Figge, 2014; Bonini, 2015; Jelic
and Wright, 2011; Wang, 2012; Zhou, Jelic and
Wright, 2014), they pay little attention to whether
the SMBO has eective governance mechanisms,
especially relating to board expertise. The own-
ership change in SMBOs represents a distinctive
firm-specific characteristic that may impact the ef-
fective composition of boards, yet understanding
is lacking.
The nature of the corporate governance exer-
cised by boards to sustain a firm may be contingent
on firm-specific characteristics (Knockaert and
Ucbasaran, 2013; Zona, Zattoni and Minichilli,
2013). As such, there may be a need to adopt
complementary theories to understand the ap-
propriate nature of governance (Filatotchev,
2006). Regarding SMBOs, this suggests a need
for theories complementary to traditional agency
theory.The human capital resources of outside di-
rectors are associated with monitoring and advice
that link to strategic decision-making and firm
performance (Tian, Haleblian and Rajagopalan,
2011). The strategic entrepreneurship perspective
(Ireland, Hitt and Sirmon, 2003) suggests that
PE directors monitor managers, but also provide
advisory resources to help in identifying and
exploiting growth opportunities (Meuleman et al.,
2009; Wright et al., 2000). Secondary manage-
ment buyout performance may be associated with
managers’ and PE firms’ motivation to employ
their idiosyncratic knowledge, skills, experience
and capabilities to this end opportunities beyond
the initial buyout. New blood injected into the
board on SMBO, throughnew and more PE board
representation, may enhance the firm’s ability to
exploit entrepreneurial opportunities. There may
thus be complementarity between the need to
maintain agency-based monitoring and the need
to enhance the strategic entrepreneurship-based
advisory role in terms of the available human cap-
ital resources. Hence, our first research question
is: How is PE involvementon the board associated
with post-SMBO performance and how is this
aected by SMBOs of underperforming primary
buyouts?
Human capital brought by outside board mem-
bers may vary considerably (Acharya et al., 2013;
Knockaert and Ucbasaran, 2013). Prior research
(Degeorge, Martin and Phalippou, 2016) treatsPE
directors as homogeneous in SMBOs, with a fo-
cus mainly on their financial monitoring skills.Yet,
some PE partners and executives may be better at
financial monitoring and cost-cutting, while oth-
ers may be better at exploiting growth opportu-
nities. We argue that the variety of human capital
of PE directors impacts dierently on monitoring
and advising managers to reduce agency costs and
exploit growth opportunities, with consequences
for post-SMBO performance. Hence, our second
research question is: How does the nature of
PE board members’ human capital aect SMBO
performance?
Using a unique hand-collected sample of 200
SMBOs, we find that the presence of PE directors
improves SMBO performance. Private equity
expertise matters, particularly, for performance
improvement in poorly performing buyouts.
Private equity directors’ financial experience and
high-level business education substantially aect
post-SMBO profitability and growth, respec-
tively. High-level business education is especially
important in the post-SMBO performance en-
hancement. Private equity directors’ operational
experience fails to contribute to post-SMBO
performance.
Wecontribute first to the literature that suggests
the nature of corporate governance sustainability
is related to the context in which it occurs by
exploring the changing nature of corporate gov-
ernance in the case of management buyout-type
transactions over time. Second, we add to the
C2019 British Academy of Management.
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