Tag Archives: Complication

How Do You Construct a Deal to Expand? Three Areas of Focus

Situation: A CEO has an opportunity to combine with another business to expand their market geographically. A lead to work with the current owner to manage the transition has been identified. A second option is to bring in a new manager from the outside to manage the transition and the expanded business. How do you construct a deal to expand?

Advice from the CEOs:

  • Basics that are needed prior to initiating negotiations:
    • Define what the seller wants – both financially from the sale and in terms of ongoing involvement in and support of the business.
      • Without a lengthy transition period, the value of the business is not significant. The value is in the current owner’s relationships – both with clients and his team. It is critical to retain both.
    • The other big question is what the seller wants personally.
      • Is it legacy? Is it the opportunity to transfer knowledge?
      • The seller knows the CEO’s company and approached them about a sale. Play on this.
    • Are there potential complications to the deal?
      • Do any non-compete clauses exist with other companies?
      • Do other agreements exist that impact the value of the acquisition?
  • What other aspects of the deal does the group recommend?
    • Within the new organization, put the current owner under the recommended lead. This gives the lead more prestige and demonstrates trust. It also raises the bar for the lead.
    • A bonus is that the current owner and the lead get along. This will facilitate the current owner’s mentoring of the lead – like the child that he wishes would have taken over the business.
    • The current owner is a savvy businessperson, and the existing relationship between the seller and the lead will facilitate his ability to pass this knowledge on to the lead.
    • The current owner’s key assets are his connections and knowledge of the business. This will include subtle aspects to the business of which only the current owner is aware.
  • The option to bring in an outside office manager potentially complicates the situation.
    • Bringing in an outside office manager to manage both the lead and the current owner is the worst case – the most likely to blow up.
    • This arrangement puts the current owner two reports away from the CEO.
    • With an additional person involved, the personal dynamics become more complex. Keep it simple.

How Do You Strengthen Internal Incentives and Ownership? Four Points

Situation: A technology company has established a leadership position in their niche. Nevertheless, they struggle with individual performance and buy-in to company performance. The CEO asks whether increasing ownership through stock incentives in a non-public company is an effective incentive for employees. How do you strengthen internal incentives and ownership?

Advice from the CEOs:

  • In the past, employees voiced a strong predilection for share ownership as recompense for the personal risk and sweat that they have put into the company.
    • It may be advisable to revisit this, particularly given the increased risk that comes with share ownership as a result of regulatory changes of the last 10 years.
    • As a substitute for share ownership, they may be open to some proxy that will provide them with value and the opportunity to have their opinions heard in the case of a buy-out.
  • Another company looked at this closely at the time of formation. They decided that proper recognition for contribution did not equal ownership. Ownership also entails personal liability and risk, which many don’t realize and, once they understand the implications of owners’ liability, don’t want. As an alternative they adopted a liberal profit-sharing structure that has met with employee enthusiasm.
  • Think about this discussion in terms of incentives:
    • Short Term – Annual-type incentives
      • Make sure that incentives align with desired behaviors so that individuals’ contributions contribute to business plan objectives and the next step for the company.
    • Long Term – consider the trade-offs
      • Share Ownership
        • Broadly distributed share ownership not only complicates future flexibility but may also complicate a buy-out or merger opportunity. Consider the implications of a situation where most shares are in the hands of past rather than current employees.
        • Strategic Partners wishing to invest may be reticent to work with a company with broadly distributed ownership.
      • ESOPs, while frequently referenced, tend to eat their children. They have several complications:
        • They are governed by ERISA, so you cannot discriminate. All must be able to participate.
        • Ownership is prescribed – with a maximum of 10% per employee. Will a future CEO candidate be happy with 10% when the admin assistant gets 3%? In this way ESOPs can impair succession and recruitment plans.
        • Annual valuations can be expensive.
      • Phantom or Synthetic Equity Programs
        • A company can tailor these to meet changing objectives.
        • Valuations are cheap and valuation metrics are easy to monitor.
  • To work through the options, sit and talk with the employees, and listen. Ask what concerns them. Don’t try to come up with a solution until their concerns are understood. There is an array of options available.