Is an Agglomeration right for your business? - NetSuite

33 downloads 129 Views 168KB Size Report
similar business and bring in their management team, thus creating natural ... diversification is important, the risks i
Strike Capital 1/263 Toombul Rd, Northgate QLD 4013 p 1300 792 044 f 1300 792 054 e [email protected]

Is an Agglomeration right for your business? An Agglomeration is a business model created to solve a number of problems entrepreneurs face in growing their business and adding value. Start-up land is fun and exciting, but at some stage economic reality determines that a business must ‘grow up’. It is at this point a lot of the thrill gets sucked out for a lot of entrepreneurs, they often fail, move on to the shiny new thing, or remain in a mediocre businesses for years. These business owners are often intelligent, highly talented and leaders in their field. So why do they get stuck and how do they break out of it? What are the challenges that hold these businesses back? This paper will address some of the issues small and medium sized business face and with each issue, we will look at how Agglomeration can help solve these problems. Scale, this is well known to most entrepreneurs: companies need to be big, to get big. Landing big contracts requires businesses that are big enough to handle them. Whilst a business might have the expertise that others don’t, they often find the major market player picks up the contract and subcontracts to specialists to actually get the work done. There was an old adage in the 1990’s for IT procurement managers, that ‘no one ever got sacked for choosing IBM’, basically saying that if they stick to the big safe supplier, then even if it goes wrong, at least you can safely point the finger at the supplier and not the procurement decision. Scale not only affects growth, but also valuation, big businesses are simply worth more than small businesses.

How does the Agglomeration solve the issues related with Scale? All of the related member companies share a common holding company; they continue to operate their own business in their own way, but with a consolidated P&L and balance sheet within the parent company. This gives them the scale to point to when pitching for contracts, as well as geographical benefits and the product diversification of their fellow companies. This sort of scale can be realised immediately, the businesses can be big corporates when required, or small & flexible. Succession, entrepreneurs are often integral to the daily operations of the business and when it comes to an exit they often get tied up in legalities that retain them, meaning they can’t get their hands on the exit money for years. When entrepreneurs leave, most of the drive and passion leaves with them and ultimately, people hate change. So how do you safely transition in future?

How does the Agglomeration solve the issues related with Succession? Each business is a silo within the Agglomeration, but with publicly listed stock. This makes it is easy to acquire a similar business and bring in their management team, thus creating natural succession without having to sell out. The company being added gets instant scale, public stock and a greater valuation than what they normally would. Demographics, this is really prevalent in mature economies such as Australia. These countries have ‘the baby boomer’ generation who started businesses that are often solid, profitable and successful. Where in previous generations there was always a wave of new blood to come and acquire or take over the running of these businesses, for the first time in history the next generation is smaller than the last. What’s more, barriers to

Strike Capital 2016

Page 1

entry have dropped to almost nothing, so why buy a business if you can start one and compete almost instantly? This means that literally millions of small to medium sized businesses are going to find themselves without succession and without buyers, too small for the larger players to buy and too good to simply close down.

How does the Agglomeration solve the issues related with Demographics? By collecting smaller businesses together you create bigger players in each market. Essentially you create a middle tier and more stable business out of multiple smaller businesses. Liquidity, the ability to buy and sell shares. Public listed shares historically carry a premium for their liquidity and for most entrepreneurs the exit is a ‘binary’ choice, they sell or they don’t sell.

How does the Agglomeration solve the issues related with Liquidity? Freedom! The public listing allows people to sell stock. It creates financial freedom for founders. The fact they are all in the same boat creates cooperation on driving share value and the timing of share exits. It is in no one’s interest to dump stock. Founders have share restrictions for the first year and also have a share bonus linked to over performance in subsequent years, to rebalance high performance versus low performance members. This share bonus also has further lock in periods. These combine to create a stable share price and a natural willingness to cooperate when it comes to exiting blocks of shares. Wealth and value creation, how does a business owner create the best value and wealth from their business? Do they sell, do they leave it under management? There were a lot of good businesses that looked attractive businesses back in 2007/2008 that simply don't exist anymore. One of the biggest problems with generating wealth in business is that only a small percentage of businesses actually create any form of wealth for their owners and once you take out the amount of resource and energy put into the business, the returns are not great.

How does the Agglomeration solve the issues related with Wealth & Value Creation? Performance of the individual business in the Agglomeration directly affects the valuation. Every dollar saved is multiplied in the companies valuation, an extra dollar of profit gets the same multiplication. Most importantly, everyone shares the same motivations. The choice of binary sale is eliminated and a smooth exit is instituted instead. Similarly, the Agglomeration issues dividends, this means that the founders get an income from their shares. This is attractive also to outside investors, it is rare to see a profitable, debt free small business that is paying a dividend. Global expansion, having an international presence is a great way to reduce risk and in turn, improve the valuation of the company. Conversely, opening up in a foreign country is difficult and can be an expensive exercise.

How does the Agglomeration solve the issues related with Global expansion? It is very simple to add new companies in new territories quickly, giving a truly global business. Instead of experiencing the large cost of set up, the Conglomerate now adds profit with every new territory opened. There are huge opportunities for service overlap, tax planning and cost reduction when you start to utilise different markets in this way. Portfolio Approach, diversification is important, the risks in keeping all eggs in one basket are well known. Entrepreneurs often hold the majority of their assets in their business.

Strike Capital 2016

Page 2

How does the Agglomeration solve the issues related with the Portfolio Approach? Sometimes business owners are fearful about doing business with strangers. The Agglomeration model makes sure they aren’t too strange. The model has the added benefit for business owners that instead of having $1m worth of shares in their own business (if they sold it today), they now have $1.5m of liquid shares. These shares are spread across a number of debt free and profitable businesses. It allows for an instant diversification of assets. They also get share incentives for hitting targets and the share price is a derivative of profit, so they maintain great influence over their own wealth position but they are just considerably de-risked. Access to capital, raising money for smaller business is reasonably difficult. There is a huge sea of capital waiting to be deployed into businesses, but small businesses just are not big enough or de-risked enough to attract attention. 90% of all businesses globally are small or medium sized businesses, meaning trillions of dollars of investment potential that is effectively taken off market due to scale and transaction costs. When small businesses actually do get investment, they often lose control of the company to the investor and the dream of owning and operating their own business is stifled.

How does the Agglomeration solve the issues related with Accessing Capital? Agglomeration is a great way to attract investment. There is a huge amount of money not reaching the SME sector, an Agglomeration is a vehicle with the scale to attract the capital. The group also has access to soft loans from the parent company to assist in working capital and growth projects. Under Agglomeration, businesses are able to identify their competitors and consolidate them if they deem beneficial or even add product or talent through acquisition. Ego/pride, entrepreneurs don’t want to feel like they sold out on their original dream, or worse, gave up. They want to see their efforts rewarded with growth and success in their own name.

How does the Agglomeration solve the issues related with Ego/Pride? Under Agglomeration, the business owner remains 100% in charge of their business, they are not selling out, in fact they are opening themselves up to growth. The brand stays the same and there is no external interference in what they do, they are publicly listing their business, which is on most entrepreneurs ‘bucket list’ of things they want to do in their career. They are at the very centre of the Agglomeration, it is an exciting place to be for any business owner and they are able to maintain their pride in doing so. Talent retention, when companies sell or merge often it is to the detriment of the business as key talent leaves the business. Talent, particularly in SMEs is absolutely everything.

How does the Agglomeration solve the issues related with Talent Retention? Nothing really changes. Operationally, there is nothing that is going to scare anyone away, the business remains fundamentally the same. The ability of the business to then reward key people with shares in the business is now a really valuable asset as they are tradable shares. Brand retention, similarly to the talent pools within the business, nothing changes with the brand either. Many entrepreneurs, typically to their detriment, are so obsessed with acquiring businesses and changing the name & face of it. With that, all that’s achieved is relinquishing years of hard work. The brand that’s been bought is more often than not a reputable and valuable asset that should be retained.

How does the Agglomeration solve the issues related with Brand Retention? Under an Agglomeration all the brands are intact and carry on business as usual, so none of that value is destroyed and you also have a potential portfolio approach to help manage any brand damage issues in future.

Strike Capital 2016

Page 3

Management, on occasion SME’s can become stuck in cumbersome business models and management do not open themselves up to business improvement.

How does the Agglomeration solve the issues related with Management? Under an Agglomeration, each CEO now sits on an executive board of directors, as well as running their own company. They are not directed by anyone as such but they do have increased obligations in terms of their statutory duties given they are operating under a public company. That aside, they remain in charge of their own business. The board of directors will form a group constitution, collaboratively designed by the founders. Nothing is forced, it is simply an open agenda on how similar businesses can save or make money. Given everyone is incentivised by the wider success of the group, everyone has aligned goals. Synergies and Centralisation, one of the great benefits of an Agglomeration. Rolling up businesses allows for potential synergies and centralisation. However, this is a future benefit. Agglomeration creates a lot of value straight away by acquiring scale, so a less is more approach often works best initially. Just allowing the businesses to continue doing what they were doing is important, Agglomeration and board level cooperation will solve the challenge (if any) of potentially finding the synergies further down the track.

How does the Agglomeration solve the issues related with Synergies and Centralisation? Everyone’s outcomes are perfectly aligned, so most of the value comes from the scale and liquidity, any synergies are the icing on the cake or pure upside. It could be argued that centralisation is the most common mistake in roll ups. It is common to see centralised sales teams take years to get up to speed, cost huge amounts to deploy and don’t leverage the talent and brands of the group companies. How are the acquisitions paid for? Most roll ups are debt or investor funded, either route creates a huge stress on the eventual vehicle. With the right plan you can do a straight equity merger, a possible trade sale generally won’t cut it and the listing generally won’t give you the liquidity in the shares and justification for the mergers. People typically don’t want to join a merger unless there is a clear way out in the future. Things to consider with an IPO: • • • • • •

Very expensive and time consuming. Requirement for specialist non-executives and experienced board to attract investors. Some IPOs are exits in disguise so all the talent is leaving, or certainly plans on leaving. Some IPOs are just desperate for cash. Most IPOs are pushing hard for the highest valuation because it is either an exit in disguise or they want to raise money. Most IPOs forget we are a global economy, and just list in their origin country, why not take a global view of where best to IPO?

So an Agglomeration is not a roll up, and it is not a traditional IPO. We need to refer back to the original question is an Agglomeration right for your business? The answer to this question is yes if you are the following: • • • • •

Turnover > $1m Profitable Debt free Leader in your field Operate in an industry with a lot of similar businesses where synergies are evident and when working collaboratively, you could benefit from them and come together to be a major player.

Strike Capital 2016

Page 4

Apart from solving all the issues mentioned in this paper, why would a competitor come and join a business? Well, they are likely to get a much better valuation via this model than a straight sale. Similarly, competitors don’t have to sell out, so they get the best of both worlds. This is because nothing fundamentally changes day to day, it is just business as usual and they get the resource to consolidate their own competitors. This model drives the bankers and finance guys crazy, because is democratises the IPO and gives the power to the founders, when the power is with the founders the advisors are out of a job. This approach was born by entrepreneurs, for entrepreneurs, to fulfill their potential, take back their lives and drive their own wealth and ambitions.

Strike Capital 2016

Page 5