The Ticking Clock

The Future of Main Street Business Succession

In 2001, veteran investment banker, Peter Christman, first identified the need for a holistic approach to preparing owners of midmarket businesses for sale and/or exit. He set about writing a book to address this. At the time, the first Baby Boomer was 56 years of age. Those Baby Boomers are now not so young. In this article, the author shares his impression of the challenges Main Street business owners and business succession advisors face developing a plan and executing the exit plan.

A Brief History

Depending on how you mark the start date, the exit planning profession is now 15–20 years old.

In 2001, veteran investment banker, Peter Christman, first identified the need for a holistic approach to preparing owners of midmarket businesses for sale and/or exit. He set about writing a book to address this.

At the time, the first Baby Boomer was 56 years of age.

His book, $10 Trillion Opportunity, an adviser’s handbook, which simultaneously:

• Quantified the staggeringly large (largest in history in fact) intergenerational wealth transfer that was coming as the Baby Boomer generation began to prepare for retirement and
• Outlined a methodology to ease this complex technical and psychological process.

This book was published June 2003; then, the oldest Boomer at the time was age 58.

That book provided the groundwork for the Exit Planning Institute, which, flash forward 18 years, now credentials over 2,600 specialists (“Certified Exit Planning Advisers”) in the discipline of exit planning.

The oldest Boomer today is 76 years old; the youngest is age 56.

One of the more famous concepts in Christman’s book is the “exit trifecta” which explores the relationship between personal financial needs of the owner, the psychological “readiness” of the owner, and the valuation the business is capable of supporting.

Where you have harmony between the three, you have the conditions necessary for successful exit or succession.

Where you have disharmony, you have a statistic waiting to happen (the notorious three in four businesses fail to sell altogether).

Main Street Succession today

The “Age Wave” is about to crest, by my reckoning. The first Boomer turned 65 in 2011. The last one will turn 65 in 2031. 2021 represents the midpoint. Something like 10,000 of them reach 65 each day in the U.S.

According to NAICS, in the U.S., there are 17.7 million businesses comprising:

1. About 16.8 million with 1–20 employees
2. About 700,000 with 21–100 employees
3. About 200,000 with 101–1,000 employees
4. About 35,000 with more than 1,000 employees

I have been at exit planning myself for about 10 years, and through that time, “preparation methodologies” have proliferated in the marketplace. Lots of consultants have developed a proprietary program of steps or actions for owners that represent the spadework needed to be ready for exit.

I have developed an exit preparation process of my very own, but in my opinion, they all basically work; more or less.

I will share some additional impressions formed from experience.  

Category 4 businesses above (1,000+ staff), they reside in investment-banking-land proper and have no real issues with exit preparation. Allow me to explain.

Often, the Category 4 businesses are listed companies, not private, and that fact alone gives them a “perpetual succession engine”, meaning who owns these businesses is basically irrelevant. There is no Rubicon to cross when a shareholder wants to exit, their securities are simply exchanged for a market price at the time and the business just keeps on rolling.

It is a profoundly different challenge inside a private business where end of the owner can be quite literally, terminal for the business as well.

Category 3 businesses (101–1,000 staff) tend to be private businesses that occupy the lower midmarket but are at a size that means they have lots of transaction support available. Usually by trade sale, and usually reasonably successful.

The challenging businesses are those in Categories 1 and 2, aka the Main Street (1–100 staff), where the classic succession problems are ordinarily most pronounced.

Notwithstanding the fact the Age Wave has crested, there is still a lot at stake here.

There are literally millions of employing Main Street businesses in the U.S. (collectively worth trillions).

It is a statistical certainty that they will tank, lest someone with some managerial nous and sufficient humility to suffer the ups and downs of business ownership takes the helm before the owners exit.

The Classic Succession Problem in the Main Street

Business succession in the best of times is still hard. Conditions today hardly qualify as “the best of times.”

Lots of businesses simply do not make it through a transition and just collapse altogether when the owner gets unwell or passes away or some other traumatic life event occurs.

In my experience, this difficulty comprises three basic (solvable) components:

• Attractiveness
• Matching
• Affordability

There are lots of ways to hurt the attractiveness of a business, which a robust preparation process should address.

This is basic blocking and tackling, it is pretty easy to deal with.

Harder though, is the matching problem.

Since only about 7% of the world’s population contain entrepreneurial tendencies, finding a successor can turn into a needle-in-a-haystack exercise.

Full disclosure—I am going to do some stereotyping here, no offence intended whatsoever.

Looking for a Baby Boomer to exit to is problematic. Frequently, Baby Boomers themselves are trying to retire, rather than enter business ownership, simply by virtue of their life stage.

I have personally found some fertile ground with Generation X successors, having completed some deals (even with pandemic conditions) with enthusiastic Gen X buyers. I will outline this in more detail later, but they do generally require funding help from vendors.

The oldest Generation Xer today: 56. Many of them are looking for an opportunity to take over a business to escape employment and engineer an asset for their own future retirement.

As a rule, Gen Xers believe in the “nuisance principle”. That is, they see the opportunity in “boring” or unglamourous businesses such as automotive or sanitation. Precisely because they are unglamorous, incumbents in these types of sectors can enjoy relatively competition-free environments, one of the very things that makes them valuable businesses to own.

This is attractive to a Gen Xer—if you can find the right one (which is still too often down to complete luck).

I cannot extend the same view to my own generation: the Millennials. As a rule, many of us have a large appetite for excitement in life and careers.

To that extent, the start-up and venture capital world will often lure a talented individual of this generation away who otherwise might have, for example, taken over ownership of Main Street Baby Boomer businesses.

There is also a strong FIRE streak in a lot of us Millennials (“Financial Independence, Retire Early”), which corresponds really neatly with gambling on cryptocurrency and Reddit-based market manipulation, but not at all well with taking over a “boring” business, running it for decades and selling it the old-fashioned way. Slow, boring money just does not fire many of us up unfortunately.

We are also a bit naïve. The concept of a “social enterprise” has taken root with a lot of Millennials, this idea that a business can somehow straddle the border between being an investment and being a charity. I find myself inclined to remind my contemporaries of the Native American adage: “have one foot in the boat, and one in the canoe and you will fall into the river.”

In sum, it is normally easier to match a Boomer business with a Gen X successor than a Millennial, but even then, they are by no means easy to find.

On top of the matching problem, both Gen X and Millennials alike have affordability issues.

According to Forbes in 2019, the median net worth of a 50-year-old Gen Xer: $169,000; a 33-year-old Millennial: just $14,000; And Baby Boomers aged 68, nearer to $300K.

In and of itself, this is not a bad thing—it is perfectly normal for older generations to have more in net worth by simple virtue of the fact they have had more time to accumulate it. But it does not solve the problem of what to do about business succession.

Let’s say a business is generating about $100K in after tax profits and a valuer puts it at 4x, that is a $400K valuation.

A successor is unlikely to be able to access that much liquidity even if it was known who they were.

When the owner is ready to exit, it is also likely to coincide with the costliest time of a successor’s lives financially—while they are paying down a home and raising a family.

In Australia, without use of milestone-based purchases or vendor finance (which equate to the same thing in my opinion, delayed payment) it is hard to craft a deal whereby one reasonably aged successor can afford the business when the owner is ready to retire.

Fortunately for U.S. businesses, the SBA can help to bridge the funding gap. These are commercial loans of course and will likely be accompanied by borrower guarantees. Thoroughness pays.

The Future for Owners

I think a historical chapter is about to turn and Boomer owners need to get on the front foot, if they have not already.

Unlike my own country of Australia, the U.S. has a sophisticated Employee Stock Ownership Plan (ESOP) ecosystem of friendly regulations and skilled advisers.

This ESOP mechanism, when deployed correctly, solves a bunch of problems simultaneously.

Affordability is alleviated because the ESOP (which can be controlled by the owner) owns the business and it chips away at the purchase price over time through a note.

Participants in the ESOP can be added and subtracted meaning the matching problem is also alleviated. An owner does not have to place their whole exit future in the hands of a single individual they may or may not have yet identified—it is one or more of the employees.

Moreover, when employee-ownership is on the table, that “sex appeal” Millennials crave can be satisfied.

Having an ESOP alone, might be sufficient to attract the successor, or inspire existing employees to step up.

There are some examples out there of businesses that execute succession via employee ownership and then go onto colossal success as a result: Mondragon of Spain, Arup of the UK, Publix Supermarkets of the U.S.

According to the National Center for Employee Ownership, there are about 6,500 ESOPs in the U.S., covering 14 million employees, collectively worth $1.4 trillion (that is 1.4 x million x million).

Way at the other end of the spectrum is recruiting a CEPA from the Exit Planning Institute, or similarly qualified professional.

Not as a consultant, but as a GM or CEO.

My view is that few exit planners have enough clients to sustain an exit planning practice all on its own, it is a notoriously difficult endeavour to sign anyone onto a consulting retainer.

So, my advice is to hire them full-time and use them to phase yourself (the owner) out.

Credentialed exit planners are true believers and crusaders in the exit planning cause. Lots of times they are quite young, meaning they have far more time up their sleeves than many Boomers.

If a Boomer owner gave an exit planner a shot at taking the business from Mom-and-Pop buyer territory into the $1M+ EBITDA category where Private Equity money is waiting, they might be able to jointly create a much, much bigger pie to share amongst themselves.

A Boomer owner might even be able to use an ESOP as a mechanism to remunerate this person.

It is not for the faint of heart of course. A plan like this is a big, probably multi-year endeavour, and a lot of trust needs to be in place to make it work.

But whatever a Boomer owner does (or does not do) the clock is ticking. Failing to plan and act on succession amounts to the same thing as straddling a couple of canoes: it is just asking to fall in the river.

This article was previously published on Sam@SamWalters.info post, July 19, 2021, and is republished here by permission.

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Sam Walters, BCom, FMVA, CBCA, is an Australian-based exit planner. Mr. Walters has worked with circa 1,000 business owners to date. He has seen a wide variety of opportunities and challenges in private business. His main expertise include:

• Compiling business plans
• Planning small business purchases/acquisitions
• Optimizing small business sales
• Alternative exit options for business owners (to business sales)
• Open-book management—a workplace culture of high performance
• Incentive systems (particularly profit shares and employee share plans)
• Financial modeling and valuation
• Business coaching
• Executive coaching
• Presentations and public speaking

Mr. Walters’ credentials include:

• 2012: Certified Exit Planning Adviser (membership now inactive)
• 2013: Bachelor of Commerce (Financial Accounting Major)
• 2013: Cert IV in Business Broking
• 2015: NACVA 40 Under Forty Honoree
• 2019: Certified Financial Modeling and Valuation Analyst
• 2019: Certified NLP Practitioner
• 2020: Certified Banking and Credit Analyst

Mr. Walters can be contacted at (702) 389-5485 or by e-mail to Sam@SamWalters.info.