Exit Planning Tools for Business Owners

entrepreneurship

Private Equity and Privately Held Businesses

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Depending on who you are talking to, Private Equity is either the Great Satan or the savior of small and mid-market companies in the United States. The stories depend a lot on the personal experience of the speakers.

Once a vehicle for high-risk investment plays in corporate takeovers (see Bryan Burrough’s Barbarians at the Gate,) Private Equity has morphed into tranches where specialists seek opportunities in everything from a Main Street entrepreneurship to multi-billion-dollar entities.

What is Private Equity?

The term itself is relatively generic. According to Pitchbook, there are currently 17,000 Private Equity Groups (or PEGs) operating in the US. The accepted business model for our purposes is a limited partnership that raises money to invest in closely held companies. The purpose is plain. Well-run private businesses typically produce a better return on investment than publicly traded entities.

The current Price to Earnings (or PE – just to be a little more confusing) ratio of the S&P 500 is about 27.5. This is after a long bull market has raised stock prices considerably. The ratio is up 11.5% in the last year. That means the average stock currently returns 3.6% profit on its price. Of course, the profits are not usually distributed to the shareholders in their entirety.

Compare that to the 18% to 25% return many PEGs promise their investors. It’s easy to see why they are a favorite of high net worth individuals, hedge funds and family offices. As the Private Equity industry has matured and diversified, they have even drawn investment from the usually more conservative government and union pension funds.

Private Equity Types

Among those 17,000 PEGs the types range from those who have billions in “dry powder” (investable capital,) to some who claim to know of investors who would probably put money into a good deal if asked. Of course, which type of PEG you are dealing with is important information for an owner considering an offer.

private equity moneyThe “typical” PEG as most people know it has a fund for acquisitions. It may be their first, or it may be the latest of many funds they’ve raised. This fund invests in privately held businesses. Traditionally PEGs in the middle market space would only consider companies with a free cash flow of $1,000,000 or greater. That left a plethora of smaller businesses out of the game.

For a dozen years I’ve been writing about the pending flood of exiting Boomers faced with a lack of willing and able buyers. I should have known better. Business abhors a vacuum.

Searchfunders

Faced with an overabundance of sellers and a dearth of capable buyers, Private Equity spawned a new model to take advantage of the market, the Searchfunders. These are typically younger individuals, many of whom graduated from one of the “EBA” (Entrepreneurship By Acquisition) programs now offered by almost two dozen business schools.

These programs teach would-be entrepreneurs how to seek out capital, structure deals, and conduct due diligence. Some Searchfunders are “funded”, meaning they have investors putting up a stipend for their expenses. Others are “self-funded.” They find a deal, and then negotiate with investment funds to back them financially.

Both PEGs and Searchfunders seek “platform” companies, those that have experienced management or sufficiently strong operational systems to absorb “add-on” or “tuck-in” acquisitions. The costs of a transaction have bumped many seasoned PEGs into $2,000,000 and up as a cash flow requirement. Searchfunders have happily moved into the $500,000 to $2,000,000 market.

In the next article we’ll discuss how PEGs can promise returns that are far beyond the profitability of the businesses they buy.

 

 
John F. Dini develops transition and succession strategies that allow business owners to exit their companies on their own schedule, with the proceeds they seek and complete control over the process. He takes a coaching approach to client engagements, focusing on helping owners of companies with $1M to $250M in revenue achieve both their desired lifestyles and legacies.

Personal Vision – Life After the Sale Part 2

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In our last article about life after the sale we discussed identity. Even when business owners are comfortable with who they are, however, there is still the nuts and bolts issue of activity.

A business owner spends 20, 30, or (not uncommonly with Boomers,) 40 years focused on running a business. Unless they’ve built a substantial organization that is run by employees, it likely remains their biggest single time commitment right up until they leave. That commitment is frequently a lot more than 40 hours.

Even if the time “in the office” or “on the job” is less than 40 hours, there are the emails before and after hours, the texts, phone calls from unhappy customers or from employees who aren’t going to make it to work, and just thinking about what comes next, frequently at 2 o’clock in the morning.

Extended Vacation

When asked about activities to fill their week, many owners will say “I’ll have plenty to do!” That isn’t enough. “Plenty” requires some planning if it is really going to occupy the bulk of their work week.

After exiting a business, most owners bask in their newfound freedom. If we presume a selling price that’s substantial enough to allow them a wide range of choices, their first reactions typically include a few lengthy trips. These may range from a long-promised European vacation with the spouse to purchasing an RV to tour the National Parks.

This extended vacation period usually ranges from six months to a year. After that, most owners are looking for something to do. Their grandchildren (and their grandchildren’s parents) are less enthusiastic about having Grandpa and Grandma around too frequently. Travel is too tiring to keep it up indefinitely. Friends are rarely in the same position. Either they are still working and lack the leisure time, or they’ve progressed beyond the extended vacation period and settled down into their own retirement routine.

And as astounding as it may sound to enthusiasts, I’ve heard “I never thought I could play too much golf,” any number of times.

Life After the Sale…and After the Vacation

We use an exercise that brings home just how much the business has dominated an owner’s life. It starts by asking the owner to think a year ahead.

We start with the owner’s “average” work week. Let’s say 50 hours for this example. Then we begin deducting those activities that comprise their impression of “plenty to do,” putting an hourly commitment to each activity.

Regular travel, either for relatives or recreation, still comes close to the top of the list. We ask “How about two weeks away every quarter?” The response is that eight weeks a year is a lot, but could be enjoyable. Then we do the math: 8 weeks x 50 hours= 400 hours of vacation, divided by 52 weeks = 7.7 hours a week. A good start, but we still have 42 hours to fill to replace the business.

How about fitness? Getting into shape is often a goal, but working out every weekday only absorbs another 5 hours.

Working for a cause such as serving lunch at the local homeless shelter a few days a week, can use up another 10-12 hours. We still have 25 hours to go, or about half the time currently spent working.

We can still fit in 18 holes twice a week. That’s 8 more hours. At this point, many owners run out of ideas. That still leaves 17 hours a week, or two full “normal” work days.

The objective isn’t to merely fill up the time slots. It’s to illustrate just how big a void needs to be filled to replace the business. Whether your exit is planned for a year from now or ten, it is time to begin thinking about life after the sale.

John F. Dini develops transition and succession strategies that allow business owners to exit their companies on their own schedule, with the proceeds they seek and complete control over the process. He takes a coaching approach to client engagements, focusing on helping owners of companies with $1M to $250M in revenue achieve both their desired lifestyles and legacies.

Personal Vision – Life After the Sale Part I

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Life after the sale is often both the most important and most neglected factor in exit planning. Although (according to two different surveys in 2013 and 2022,) 75% of owners report regrets or unhappiness a year after the transition, exit plans continue to be constructed primarily around financial targets. In the event you haven’t heard this since you were five years old, “Money doesn’t fix everything.”

Superficial Planning

To be fair, most advisors include some conversation about “life after” in their planning conversations. Unfortunately, they are often satisfied with the features associated with an abundance of free time. Visiting the family, RV’ing through the country, playing 72 holes of golf a week, or seeing the great capitals of Europe can all be accomplished in the first year after ownership.

When they attempt to broach the idea of longer-term activity, the client’s answer is often “Let’s get the money. Then I’ll worry about what to do with it.” It’s challenging to push beyond the client’s desire to focus on the most obvious goal, especially when it seems to enable everything that follows. Nonetheless, owners who are unhappy because they didn’t get enough money failed either to understand the realities of their transactions or the future cost of their life plans. That certainly isn’t 75% of planning clients.

We are discussing the far greater number who have sufficient funds, but after their initial splurge of free time are unsure of what to do next.

Emotional Preparation

The first issue an exited owner faces is identity. “I used to own a company” quickly wears thin, and increasingly fades as years pass. “I’m retired” is a nebulous identity, and lumps them into a group with every wage earner who says the same. That’s a class they’ve proudly differentiated from for most of their lives.

Some mental health professionals have compared the emotional reaction to missing ownership identity to post-partum depression. Their world has changed overnight. The principal subject of their interest is gone, and they aren’t sure what replaces it. Post-partum is characterized as including “a feeling of guilt, worthlessness, hopelessness or helplessness.”

As an owner, there was always something else that needed their attention. Now there isn’t. Distress from discussing the daily news (which they now watch more frequently) used to be countered by a requirement to attend to the business. Now there is no business to attend to. The feeling of “What I do is important to a lot of people” has gone.

Identity in Life After the Sale

We encourage clients to at least mentally design their next business card. Handing someone your card is a shorthand version of declaring your identity. The first attempt by many is jocular but meaningless. “Part-time Philanthropist, Bon Vivant and Man About Town” is funny, but only once. “Grandparent, Outdoorsman and Classic Car Mechanic” is better. At least it describes real activities for further conversation.

“Business Counselor and Chairman of the Board of (Charity Name)” describes an identity, ongoing contribution to something or someone, and a role of importance. It doesn’t have to be true today (we aren’t printing the business cards yet,) but it’s at least aspirational.

Building a plan for life after the sale begins with establishing a future identity. There are several other components that we will cover in the next two articles.

John F. Dini develops transition and succession strategies that allow business owners to exit their companies on their own schedule, with the proceeds they seek and complete control over the process. He takes a coaching approach to client engagements, focusing on helping owners of companies with $1M to $250M in revenue achieve both their desired lifestyles and legacies.

“Work From Anywhere” Comes Full Circle

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Work from anywhere has been a necessity, an epithet, an obstacle, and an opportunity over the last 3 years. To paraphrase Aristotle’s axiom about Nature (“Horror Vacui”), business abhors a vacuum. Where one occurs, it is quickly filled.

Work from anywhere started as a COVID-induced necessity. During the lockdowns of 2020-2021 (and longer in some places) we all had a crash course in video calling, VPNs, and virtual meetings.

Employees quickly expanded the definition of anywhere. They tired of shunting the children off to a bedroom during conference calls, or using office-like backdrops to hide their kitchen cabinets. Soon they began changing their backgrounds to something more aspirational, like a mountain cabin or a scenic lake.

From there it wasn’t much of a leap to make the mental shift from a make-believe environment to a physical one. Pretty soon employees were calling in from real mountain cabins. In many cases, they shifted to someplace where the cost of living was much lower than in their former metropolitan workspace.

Work from Anywhere as an epithet and an obstacle

As employees moved further afield from their office environment, bosses began to sound off. “We aren’t going to pay Los Angeles wages to someone who has a Boise cost of living,” was a commonly heard complaint.  Most put up with it because qualified help was getting harder to find. Hiring remotely was too hard a new skill to master.

The complaints of employers grew louder as they began to ask employees to return to their former location of working activity. They made arguments about deteriorating corporate culture or a lack of mentoring opportunities.

At the same time, stories surfaced about workers who were getting full-time paychecks from multiple employers, or who were “quiet quitting” by doing as little as possible. The “Great Resignation” forced many organizations to put up with it. If you wanted to keep employees, you needed to accommodate their demands.

Then the work-from-anywhere poaching started. If an employee could do the job from a thousand miles away, why not just hire people from a thousand miles away? Now recruiters could dangle Los Angeles wages at candidates from Boise. Many employers saw work from anywhere as a curse costing them their best talent.

Work from Anywhere as an Opportunity

But as I said at the outset, business abhors a vacuum. Every action has a reaction. When the job can be done from anywhere, does that mean anywhere?

work from anywhereIf the higher cost of living centers can fill their needs by hiring people who are accustomed to earning less, why shouldn’t employers look at those candidates before the local talent? The Internet allows almost-instant communication across countries, what about across oceans?

In the last few months, I’ve worked with employers who are hiring accountants in India, staffing recruiters in the Philippines, programmers in Argentina, support techs in Colombia, and screening nurses in Nicaragua.  None of these employers are multinationals. Each one fits the SBA’s definition of a small business.

Their new employees are educated, English speaking, have the same hours as the employer, and are thrilled for the opportunity. Some are hired directly through a local placement agency. Others work for an organization in their home country that makes them exclusive to the client and promises to replace them if needed.

Most of the wages appear to be about 50% more than the same job would pay in the country of residence, and roughly half of what the position in the U.S. would cost.

Business has once again filled a vacuum. I wonder what is next?
 
John F. Dini develops transition and succession strategies that allow business owners to exit their companies on their own schedule, with the proceeds they seek and complete control over the process. He takes a coaching approach to client engagements, focusing on helping owners of companies with $1M to $250M in revenue achieve both their desired lifestyles and legacies.

The Dismal Ds and Exit Planning

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The “Dismal Ds” is an inside joke in exit planning. Every industry and profession has them. In some, it’s “You can have it done well, done fast, or done cheaply. Pick any two.” In planning it’s “Sooner or later, every owner exits his or her business… 100% guaranteed.”

Clearly, that refers to the unplanned but inevitable departure from the biggest D – Death. That isn’t the only D, however. There are others, NONE of which lead to a controlled, lucrative, or enjoyable transition. Most start with dis- defined as “dis– 1. a Latin prefix meaning “apart,” “asunder,” “away,” “utterly,” or having a privative, negative, or reversing force.”

The other Dismal Ds include:

  • Disease – the critical illness of the owner or an irreplaceable employee.
  • Dissension – between partners, shareholders, or family members
  • Disaster – Fire, flood, storm, or accident
  • Disability – An owner’s inability to oversee operations
  • Disinterest – of the founder or next-generation ownership
  • Distraction – When an owner’s focus is elsewhere. (frequently love or bar ownership)
  • Disarray – More simply, bad management
  • Dishonor – financial fraud or other skulduggery
  • Disenchantment – A fancy word for burnout
  • Divorce – a bitter fight over the business asset or its value
  • Debt – Leverage taken on in good times but no longer sustainable
  • Depression – Economic malaise (think hospitality in 2020.)
  • Defection– The poaching or bolting of a key employee, frequently in sales
  • Defenestration – Getting thrown from a window

(Okay, I may have gone too far with that last one, but I couldn’t resist.)

Planning – The Cure for the Dismal Ds

The point is, there are many ways of a forced exit from your business due to circumstances. Some might be beyond your control, but most can be avoided.

  • Disease – Have solid business continuity instructions in place
  • Dissension – Start with a good buy/sell or shareholders’ agreement that makes it plain how disagreements will be handled
  • Disaster – Fire, flood, storm, or accidents can be insured, including for loss of revenue.
  • Disability – Business continuity instructions again
  • Disinterest – Start implementing an exit plan before your business shows the effect. For example, in brokerage, we used to say “Show me an owner who says he is burned out, and I’ll show you financial statements that evidenced the problem three years ago.”
  • Distraction – Don’t buy a bar. Don’t buy another business. Don’t have an affair.
  • Disarray – Get help. Consulting, coaching and peer groups all work.
  • Dishonor – Have an outside party check your systems and security.
  • Disenchantment – See Disinterest
  • Divorce – Settle the value of the business first, preferably before the lawyers do it for you.
  • Debt – Limit your debt to half what your current cash flow can service.
  • Depression – If you have to cut expenses, do so deeply and quickly.
  • Defection– Two words- employment agreements
  • Defenestration – Stay away from the Departed, or Irish, Italian, and Jewish mobsters in general. Alternatively, live where there are only low-rise buildings.

Dismal DsI obviously have my tongue firmly planted in cheek for this column, but my point should be clear. Your business is probably the most valuable asset in your life. Losing it to unplanned events hurts. So even if you are no longer in the picture, you have some responsibility to your family, employees and customers.

A good exit plan, whether it’s for implementation now or years down the road, should take many, if not all of the Dismal Ds into account. All entrepreneurs want control over their future. That is why they are entrepreneurs. Planning isn’t merely an intellectual exercise. It’s all about control.

John F. Dini, CExP, CEPA is an exit planning coach and the President of MPN Incorporated in San Antonio Texas. He is the author of Your Exit Map: Navigating the Boomer Bust, and two other books on business ownership. If you want to see how prepared you are for transition, take the 15-minute Assessment at MPNInc.com/ExitMap.