What Makes Search Firms A Good Investment

Tim McHugh

February 1, 2015 – Timothy McHugh is a partner and global services analyst for Chicago-based William Blair & Co., where he specializes in the consulting, HR technology, information services, and staffing sectors. He joined Blair in 2002 and was involved in bringing CTPartners public in December 2010. Previously, Mr. McHugh was a senior research analyst at the Federal Reserve Bank of Chicago.

ESR: Are search firms good investment vehicles right now?

McHugh: Like other professional services firms, executive search firms are capital efficient businesses, which makes them attractive to investors. In addition to seeing a cyclical uplift in demand, the sector also is at a cross-roads where expansion into ancillary sectors such as leadership consulting is driving some room for growth and an opportunity to develop more consistent, deeper relationships with clients. The biggest risk to investing in this sector is appropriately identifying the value of the firm versus the importance of the individuals at the firm. If the firm has a strong brand, intellectual property, or other competitive advantage that institutionalizes the revenue streams and enhances the revenue per professional, executive search firms can be a good investment vehicle right now – if not, the individuals will extract most of the returns and make it a poor investment vehicle.

ESR: ZRG Partners obtained capital funding with Northcreek Mezzanine to allow the search firm to pursue strategic acquisitions and attract key executive recruiters to fuel its growth. Do you see other small, privately-held recruiting firms taking this route? Are mid-sized search firms good bets right now for investors?

McHugh: I believe that large search firms have an advantage in serving global clients and expanding into adjacent services such as leadership consulting, yet small firms benefit from far less onerous restrictions from off-limits issues that the large firms face. We see solid growth opportunities right now for mid-sized search firms that are big enough to service global clients and expand their solutions, but are not yet meaningfully held back by off-limits issues.

ESR: We have seen double digit growth rates over the past four years in the search industry. Are these massive growth rates attracting investors today?

McHugh: While the growth of the industry has been strong during the last few years, I think most investors look at the growth as being mainly driven by cyclical trends, rather than secular changes. Most private equity investors have a three to five year time horizon, so while they are encouraged by the growth in the industry, they tend to focus more on secular changes in industries and specific opportunities for significant market share gains. Therefore, while I see solid interest in investing in the sector, I wouldn’t attribute it to the cyclical uplift in the business.

ESR: Are the large growth rates we are seeing putting the largest search firms in the crosshairs of an acquirer?

McHugh: While we have occasionally heard about ancillary areas of the broader human capital industry considering a potential investment in this sector, most people have historically shied away in the end because of the complexity in acquiring professional services firms. I am not aware of something that produces a different result in the near-term.

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