Smart Business: Graceful Exiting
Subcontractors in certain trades experienced a magic moment in time during the roll-up craze of the 1990s. Scores of owners were able to sell their businesses to consolidators for millions of dollars. Many are still living the good life off those deals. A few got burned by accepting payment mostly in consolidator company stock, almost all of which subsequently tanked, but those who negotiated cash or mostly cash buyouts did well for themselves. For a handful it was like a well-paid extended vacation, because they ended up reacquiring their old companies a few years later for pennies on the dollar compared to their selling price.
As editor of Plumbing & Mechanical magazine, I was enthused about the roll-up phenomenon when it arose in the mechanical contracting field during the mid-‘90s. I thought it would lead to an industry of more professionally managed companies able to bolster industry fortunes by providing greater employment and training opportunities for workers and managers. It also provided a vibrant market for successful contractors wanting to sell their businesses. Instead, the roll-ups turned out to be mostly a story of Wall Street hustlers making a quick buck and leaving behind once-promising organizations in shambles.
Too bad. Mechanical contractors are now back to square one. The subcontracting marketplace is segmented into tens of thousands of companies having trouble squeezing profits out of the chaos. Worst of all is that contractors who are sick and tired of the grind, or who are at retirement age, have a devil of a time exiting the business.
Wishful thinkingLast summer the construction consulting firm FMI did a survey of construction company owners and found that 24 percent planned to exit the business in less than five years. Yet, they found that almost a third of those responding to the survey said they are not ready to transfer ownership, and another 20 percent were unsure of how to go about it. The findings were consistent with a similar survey done in 2003.
FMI determined that an internal sale to family or employees continues to be the primary exit strategy, cited by around 60 percent of the contractors surveyed. Yet, this was not so much a succession plan as a daydream. As noted, half of them had taken no steps toward succession planning or didn’t know how to do it.
While selling to employees or family is the traditional way most trade contractors exit the business, frequently it presents considerable problems. Financing the transition is the biggest stumbling block for most. Not many employees or heirs have the money for an outright buyout that would provide the exiting owner with sufficient retirement income. In most cases they have to borrow a bunch of money or keep the exiting owner on the payroll. This amounts to supporting a highly paid but nonproductive employee, often for an indefinite period of time. Profits are hard enough to come by in your business even when everyone is pulling his weight. Supporting one or more retiree owners often dooms any chance for the new owners of a contracting business to prosper. In many cases it leads to family strife as the “retired” owner refuses to let go of the reins, which is understandable if the retiree’s income is at risk.
Businesses in other fields tend to avoid these problems because they have markets of willing and able buyers. If you own a restaurant or retail establishment with a track record of success, odds are good you’ll find someone willing to pay a decent price for the business. Assets may include a desirable location and many loyal customers that can be counted on to keep patronizing the business as long as it continues to provide acceptable food or merchandise. Most patrons probably don’t even know or care who the owners may be.
In a contracting business, usually the main asset is the owner’s know-how and contacts, which tend to disappear with a transition. Yeah, you can pay a consulting fee to keep the retiree schmoozing with key customers, but contractors who sell out and become employees almost never put the same zest into their business activities. The point of retiring is to travel and indulge in favorite pastimes. Nobody wants to work just as hard as before.
Some of the saddest conversations I’ve had during my career have been with plumbing contractors wanting to retire and asking my advice about how to find a buyer for their business. The sad truth is that the vast majority of plumbing businesses have little value to anyone except the current owners. That’s because they are not businesses at all, but self-employment job vehicles.
There’s a big difference between owning a business and owning a job. It starts with the mindset of the owner. People who own a job are looking simply to survive, to earn enough to put food on the table and pay the mortgage. They don’t give much thought to making a lot of money or building a business that will be a saleable asset down the road.
What happens to most contracting businesses when the owner decides to retire? If the owner is lucky enough to have kids in the business, the company generally gets passed down to the next generation. Nothing wrong with that, assuming the kids know how to run a business and want to do it. But that leaves the problem of how to support the retiring owner. And what if the kids don’t want any part of your business? Many contractors have sent their sons and daughters to college with the hope of them finding careers in other fields.
What frequently happens is the scenario I just described. A contractor will try to sell the business, maybe even retain a broker for that purpose, but then gets slapped in the face by harsh reality. He finds out that nobody is willing to pay much, if anything, for a company that is run not as a business, but as a job. I’ve talked to brokers representing plumbing and heating firms doing upwards of a million dollars in annual volume, who haven’t found anyone willing to pay more than $25,000 for the so-called business. Many companies can’t even get that much. That’s when they call me. They can’t believe it, because the businesses they deal with in other fields all have some value, and they want to know what’s missing in their case.
I’ve talked to too many hard-working, honest tradespeople who devoted many years of their lives to running a company, and in the end all they got out of it was a liquidation sale to get pennies on the dollar for old inventory, tools and equipment. You folks deserve better than that.
That’s not even the worst scenario. What breaks my heart even more is when I meet contractors who are way too old to be doing the backbreaking work your trade entails, but doing just that because they can’t afford to retire. They may have run their own company for decades, but they never really owned a business. They only owned a job, and never made enough to put some away for retirement.
Give Yourself A ChoiceOne of the best books I’ve ever read about small business is Michael Gerber’s The E-Myth. The “E” in the title refers to “Entrepreneur.” Gerber spends most of the book trashing the notion of the entrepreneurial spirit, where the workaholic owner makes himself the center of the business and becomes its slave.
To Gerber’s way of thinking, there’s only one reason to own a business. That’s to eventually sell it. The more prosperous and better run that business is, the more control you have over when to sell it, who to sell it to and for how much. When it comes time to retire, or if someone makes you an offer too good to refuse, your company leads the way to Easy Street. You can make enough money to either retire comfortably on, or to pursue other interests, maybe even a business in some other field.
Or, you can continue to own it if that’s what turns you on. The point is, you’d have a choice. I know quite a few successful contractors who resisted efforts by the consolidators to buy them out. They love telling about being approached and rejecting offers of millions of dollars. Good for them. They are happier than ever being in the business because they know how much value the market places on their companies, and they’ve decided they’re worth even more. Owning a business doesn’t mean you have to sell it. It means that the opportunity is there if you want it. Owning a job means you don’t have that opportunity, at least not on terms you would find attractive.
If you plan to retire in the next 10 years, now is the time to start planning for it. You need to figure out how much your business might be worth, and who might want to buy it. If it’s likely to be an internal sale to family or employees, start exploring ownership transfer and financing options. Address management succession issues. Then be sure to follow through.