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V2 Producer:                     

Now, without further delay, let's begin Growth, Legacy & Transition. I'd like to hand things over to Maggie Warrier, Director, PNC's Corporate Advisory Center. Maggie, you have the floor. 

Maggie Warrier:

Thank you. Good afternoon and thank you for attending today's Advisory Series webinar focused on Growth, Legacy & Transition. Regardless of where your business is in its lifecycle, this conversation is designed to offer insights as you consider your current corporate strategic priorities and their interplay with your shareholder goals. Specifically, through today's discussion, we will offer insights to help companies assess and analyze capital deployment strategies to align with both corporate and shareholder goals. We will also discuss current market trends including the M&A environment, lending environment, and tax landscape, which all heavily influence a company's decision to execute a growth or a transition strategy. Lastly, through this conversation we will highlight opportunities to attract or retain talent in today's competitive job market.

Let's meet our panelists. Joining us from PNC's ESOP Solutions Team, which provides expertise and education around pre-transaction planning and topics impacted by ownership model, is Managing Director Amy Schuster. From Harris Williams, a global investment bank specializing in M&A advisory services is Managing Director Bill Watkins. From PNC's Private Bank, providing tailored solutions for ultra-affluent families to help grow, protect and transfer their wealth, is Senior Wealth Strategist Jonathan Lander. And from PNC's Corporate Advisory Center which provides education and financial insights to help business owners identify opportunities to drive shareholder value as well as prepare for various exit and liquidity events, Managing Director Tim Brady. Thank you, panelists, for joining us today.

To begin our discussion, I'd like for each of you to provide a market update to better understand the current backdrop influencing how companies are deploying capital and thinking about growth and transition strategies. Bill, how would you describe the current M&A environment? Are you seeing rising interest rates and any impact on activity?

Bill Watkins:

Well, Maggie, it's a great question and clearly, it's a very interesting M&A environment today and one you almost have to kind of peel apart from the overall macro situation. Coming out of COVID, we saw tremendous growth in M&A last year in terms of activity, valuations really across all industry sectors. And that was really the tale of 2021 as companies getting back to "normal" from the COVID environment while still addressing all those kind of day-to-day needs of managing within that environment.

And then before we knew it, we're getting nipped at the heels with inflation and supply chain challenges, etc., etc. As we roll into 2022, there's still a lot of question marks in the market right now. Obviously, if you look at the public equity markets, I mean that's an EKG chart that I don't think any of us want to have in our healthcare files whatsoever. It's completely volatile. The bond markets are reacting the same way. But if you look at economic fundamentals, employment is still relatively strong. Now there are clearly questions around labor participation, etc., so there's kind of little muted environment on a macro level, but what's interesting again is M&A continues to flourish. 

Clearly, companies today are being challenged across the board. There's rising interest rates. Maggie, I know that was a part of your question and I'll address that in a second. There's inflationary pressure, it's supply chain, and it's not going away. Really, it's in every sector that we cover within Harris Williams, whether it's a service business, a manufacturing business. There's a war on talent across the board and that's really evidenced in labor cost increases and then clearly on the input side we're seeing that across the board. Not just in commodities, but really anything that's flowing into a company today on the income statement, there's rising costs.

Now, companies are adjusting with rising prices and that's helping, and we're seeing some of that in the early Q1 releases from some public companies that in some cases they've outperformed because revenues have increased faster than the cost side. But nonetheless, these inflationary pressures are going to be with us for a period of time we believe. It's not going away overnight. And I think all of us could probably acknowledge that 20 years of fairly no inflation or zero inflation is probably abnormal on a historic basis, so we need to kind of adjust to living in this environment. 

The Ukrainian conflict definitely caused a major slowdown for a few weeks. That sounds crass to say, but after the markets adjusted and after a few weeks of that crisis starting, M&A kind of started readjusting and rebalancing. Not necessarily from a valuation standpoint, but really from just people getting comfortable again, getting their sea legs around the current environment, and really getting back to work and put capital into businesses.

I do want to address the interest rate environment. It's again, getting back to history, I talked about inflation a few minutes ago. Look, no interest rate, zero interest rate environment is not normal from an historic standpoint. Getting back to a point where we get a 50-basis point increase, perhaps another 50, maybe even up to 100 basis points or 150 basis points over the course of a year, that's not going to be enough to really affect the M&A markets. It's a balancing act the Fed is trying to lead right now. It's not easy. I wouldn't want to be in their shoes. But you really don't want to take rates high enough where it really pushes into a recession. But I think right now, our view is, if we get up to a 200-basis point kind of environment, even up to perhaps 300 basis points, not really going to put a big dent in M&A. These businesses today are really being over equitized.

When I started in my career 30+ years ago, you could see deals getting done with $10 of equity and $90 of debt. Today, we're seeing equity 50% to 60% in many cases and some cases up to 70% or 80%. Businesses are being prudently managed today from a leverage standpoint, so that rising rate environment shouldn't necessarily affect the overall valuations extensively. Maybe it'll be 25 to 50 basis points -- I'm sorry, 25 to 50 -- yeah, basis points is the right word or right phrase of a multiple. But nothing significant. I wouldn't have that be the kind of fear that may be driving some impetus to M&A. It's not necessarily a rising rate environment. If there's any long-term fear, it's an economic recession, because what we do is a 1:1 correlation to the overall economy.

On these next 2 slides, I'll kind of go through quickly what's driving this. I touched on this a few times. It's really the capital of private hands. Now, the corporate side of this equation with the S&P, obviously not private hands, and public hands with these public companies and this index that we're talking about. But a lot of capital put to work and many of the companies if not most in the S&P are relatively under-levered, so they still have leverage capacity to also do M&A combined with their cash forward. 

Private equity, as you see on this slide, I'm sure most of the folks participating in this webinar have had a few calls from private equity firms over the years. This asset class is tremendous, incredibly efficient and it works. That's why it has grown to the extent that it has grown to today. We don't necessarily see these trends abating, we just see them really accelerating as evidenced by this final slide I'll walk through which is the growth in private equity activity in North America. And this isn't just a North America phenomenon. This is across the globe.

And then in terms of PE fundraising, again, natural slowdown in terms of what happened this COVID, but we know just from all the investors we're talking to, everyone is out trying to fundraise today. Capital is flowing freely. Many of the LPs love the asset class. And we're not only seeing this in the private equity markets, but also the private debt markets that I talked about earlier. Lenders that are in that class, again, not traditional banks that you would recognize perhaps on a daily basis or see a commercial on television for, but clearly, very impactful lenders that help support private equity investors and some large corporates in their M&A activity and can be a little more aggressive in terms of structure as well as pricing for issuers.

These are all blending together to create still a fairly robust M&A environment. Our optimism is high, again, based on the backlog that we have at Harris Williams as we head into the reminder of this year. The jury is still out in terms of what 2023 will look like or 2024. I wish I could prognosticate that, but we do know based on this data that we've shown on the last 2 slides in terms of capital allocation, that allocation eventually needs to be deployed. There are a lot of, again, aggressive private equity investors and aggressive corporates looking to deploy capital through M&A to grow their business. Because right now, this world is all about growth and not just staying still. Again, we're optimistic that we're going to continue to see M&A be a big part of that. 

Maggie Warrier:

Thank you, Bill. Tim, I'm curious, from a lending perspective, can you briefly describe the current market conditions? 

Tim Brady:

Absolutely. You're seeing a lot of parallels to what Bill brought up in the M&A and private equity space. We're at this interesting inflection point. Inflation is at a 40-year high and we just saw the Fed earlier this month raise rates by 50 basis points, the largest increase in 20 years. You usually associate this with an overheated credit market. A lot of leverage, big liquidity starting to tighten, loose covenant structure. But that's really not the story that's being told or going on right now. If we look at the slide on the page and we focus on the top left quadrat there, this is the syndicated loan volume over the last 10 years. The syndicated loan is a loan for a large corporation that requires more than one bank to support it. The volume has stayed pretty stable. You see a peak in 2018 and then more volume going on in 2021. Now we'll get into that a little later in this discussion, but if we focus in on Q1 2022, you see a big drop-off. It's below where we've been on an average over the last 10 years and down 36% quarter-over-quarter. There's not too much debt being deployed right now and it's almost the inverse or opposite of that.

If you look one picture to the right, this is what banks' liquidity have been. We're near or right at an all-time high, so banks have ample liquidity to try to deploy this to lend to companies. But folks aren't taking on debt right now. And as we flip to the next slide, this can kind of help tell why that's the case. Again, if we focus on the top left quadrant, we see GDP over the last about 20 years there. But you see it really got hampered or took a huge impact due to COVID, but it swung back very quickly. And a lot of that is due to the chart or graph right next to it where profits and earnings have continued to grow consistently. As profits and earnings continue to grow and you focus down to that bottom left picture, these are the cash balances for corporations over time too have continued to expand. Folks are able to finance their growth or other corporate goals through profits or robust balance sheets that we've seen grow over time.

If you focus on the top right there, the default rates are at 40-year lows as well. Despite a raising rate environment, rates are historically low as Bill alluded to. But folks are just electing, or companies are just electing to keep a lower leverage profile and fund corporate goals or growth through profits or their strong balance sheet. 

Maggie Warrier:               

Thank you, Tim, appreciate that insight. Amy, building on the economic conditions Tim just discussed, are you seeing this impact the ESOP transaction market at all?

Amy Schuster:                  

Yeah, thanks, Maggie. Good question. To start with, there's really not a one-size-fits-all response to this question because of the wide range of impacts that you heard Bill talk about. The pandemic, the supply chain, inflation, interest rates and the great resignation of talent is all having an impact on our companies. There are some businesses who have been severely harmed, while others have been unimpacted and positively impacted by the pandemic and other economic issues.

A leveraged ESOP, as we talk about ESOPs, Maggie, is a type of transaction. It's a type of M&A transaction. The conditions have impacted the broader M&A market that Bill just walked us through. It also is very similar to what we're seeing within the ESOP portfolio or our prospective clients. That said, the key differentiating factor is that ESOPs are an internal transaction. You don't have to find a buyer, which is a favorable condition where there might be limited buyers or there's a legacy to maintain. While you do have a buyer built in, it's important to keep in mind these are regulated transactions. ESOPs are negotiated on an arm's length basis with an independent fiduciary to make sure they're fair to the employees.

Even though you have an internal buyer, the impact on the market disruption, if any, will be reflected in the key deal terms like the valuation you'd see in a third-party sale. Even though transaction volumes took a sharp turn initially in 2020, it was an interesting time to be in the business. I'll say since first quarter 2021, we've seen a notable uptick in ESOP deal activity and we continue to see heavy industry volumes and new formations, whether 100% sale or partial sale, recaps to seller notes, refinances of prospects looking for a bank that understands ESOP. Volume is very active and the pipeline is super robust.

Also, in talking to industry professionals, we all agree that the increase in transaction is due to pent-up demand from 2020. And tax reform, in particular for ESOPs, the discussions around capital gains and C-Corp tax rates proposed changes driving the demand along with like-kind exchange changes. As those still haven't happened, it's still part of discussion as we talk to companies today.

You heard Tim mention, and I'll agree with it too, there's definitely been what we call a flight to quality where capital is chasing the most attractive, highest credit opportunities. And then to bring us home, because it is a tax driven product, legislation support is out there supporting ESOP products. As of the last month, the House of Education and Labor Committee approved two bills within the Workforce Innovation and Opportunity Act and Protecting America's Retirement Security Act, to promote retirement and savings with workforce innovation. This is huge. What this is going to do is it's going to establish within the U.S. Department of Labor to provide grants to state and local governments to provide ESOP education and other technical services such as feasibility analysis to business owners looking to transition to employee ownership. Again, both pieces of legislation are going to the House floor for consideration, so who knows what's going to happen. I don't have a magic glass there.

And then lastly, I'll just say ESOPS are incredibly flexible and because of this flexibility, you can sell a very small amount, so a portion of your company, all the way up to 100% depending on your goals for yourself and your business. Interesting, because of this and the pent-up reform that we saw during the pandemic, we definitely saw a handful of smaller transactions, 30% partials. Because it's a nice way for owners to take chips off the table, get some money in the bank and then continue down the road. It also keeps options wide open for a full sale or full transition to ESOP down the road if the timing is right. 

Maggie Warrier:               

Thank you, Amy. Building upon your comments on tax, Jonathan, the tax conversation caught great momentum last year. At this point, what are you hearing as it relates to taxes? And are there any potential changes that you see business owners focusing on specific to their wealth and personal planning?

Jonathan Lander:              

Indeed. Thanks, Maggie. There's never a dull moment in Washington. In March, the administration released its revenue proposals for fiscal year 2023 in a publication colloquially known as the green book. This comes out every year. This is nothing we haven't seen before. And in fact, many of the proposals that were put out in the green book were in the Build Back Better Act which has, of course, stalled in the Senate. Who knows is anything is going to happen, right? There are a number of proposals that business owners should at least think about, be aware of, but again, let me emphasize, these are proposals. And who knows if any of these are going to pass. With that said, here are some of them.

The green book proposes raising the top marginal income tax rate to 39.6% for those with high taxable incomes. It would raise the rate on capital gains and qualified dividends to those of ordinary income tax rates for taxpayers with taxable income over a million bucks. For marrieds filing separately, it's half a million each. There would be minimum tax of 20% on the total income of taxpayers with wealth, assets minus liabilities, of greater than $100 million which gets fully phased into $200 million. But what's really different there, and that's important to note, is that income includes unrealized capital gains. You're marking assets to market for the minimum tax. That's a big change. Big change.

Also, when you're talking about capital gains, you're talking about taxing unrealized capital gains by gift or on death. Let's give a nod to our neighbors to the north, sing Oh, Canada, because they tax income at death too. But that's been proposed. Okay, so some of the cool toys your planner gets to play with, well, they're kind of under attack right now. You're talking about marking to market unrealized gains in trusts and other noncorporate entities that haven't been taxed in 90 years. Okay, so you think, well 90 years from now, I can count that out, that's a long time ago. Well, no, sorry. The first recognition event under this proposal would be December 31, 2030 which means they're starting to account from about 4 months after WWII started. That's coming, maybe.

Transactions with grantor trusts. We use those all the time for folks doing planning and they move assets back and forth without a capital gain. That would go away. Also, grant GRATs, our favorite tool, would go away as well. Because now you can zero out a GRAT where you can push all that appreciation out without a gift tax. Now, under this proposal, 10-year minimum term. 25% required actuarial remainder when you set the thing up. You know what that means? You're looking at a gift tax or at least using up some of your gift exclusion. And then, you've got the grantor trust proposal kicking in there, so when you pay back that annuity with appreciated assets, there's a gain. 

These things, they're taking aim at these things. Now again, I have to stop. Stop, stop, stop. These are just proposals. We don't know if they are going to pass. But do pay attention to the effective dates. Because for those folks thinking about doing GRAT planning now, because they're in the middle of a deal or they are afraid these proposals might actually pass, some of the effective dates would impact existing GRATs, causing a gain when you pay back that annuity in an existing GRAT. Do be aware of it.

A couple of other things that are out there in this proposal, I mean there's lots in the green book, but there are a couple of others of interest. Generation skipping trusts would be limited to couple of generations. You can't do those wonderful perpetual trusts to keep assets out of the estate tax system forever, whatever that means. It would increase the corporate tax rate to 28% which would mess around with some of the foreign tax rates too like GILTI. And for those who do real estate investing, the 1031 like-kind exchange would be limited as well. Gain deferral gets really cut back.

One interesting thing though that's not in the act, not in the proposal, not in the green book, no changes to the gift and estate tax exemptions. They're still at their high amounts. But, before we jump up and down and say that's wonderful, do remember that those exclusions are set to sunset in 2026 taking you back to where they were, indexed in 2017, indexed for inflation. Figure you're going to cut them about in half from the current $12.06 million to about $6 million and change, give or take, we don't know. Unless Congress does something, we are halfway to sunset. January 1 of this year was halfway. If you're thinking about doing planning, you remember what happened at the end of last year when everybody thought the tax rates were all going to change, the exclusions were going to drop, everybody panicked and you couldn't get an appointment with your lawyer. Plan now. Avoid the rush.

Now, in this forum, I don't normally talk about rulings. But this is one that really could impact business owners. The IRS Chief Counsel's Office issued a doozey this year. Now remember, Chief Counsel memoranda are not precedential. But it's going to give you guys an idea of what the IRS' lawyers are thinking about. I'm going to say it in a sentence. Don't play fast and loose with valuations. Here's what happened. In the ruling, a business owner decided to create a GRAT, an estate planning and gift tax planning tool. But used a 7-month-old valuation which was created for another purpose, created for deferred compensation purposes. And just didn't include the fact that the company had received multiple offers to be purchased. Just a little thing. And, shortly after the GRAT was created, the company actually did sell it for about 3x the valuation that was in this flawed appraisal.

Normally, normally GRATs self-adjust. They're formulaic. They self-adjust. Here, Chief Counsel slammed the taxpayer. The IRS said, because of the egregious nature of this, in other words, using a valuation you knew was defective, IRS called it an operational failure and disqualified the annuity. Now, that's really a bad result. Because when that happens, the retained annuity is valued at zero. And IRS treated the entire amount put in the GRAT as a gift. Horrible result for the taxpayer. Just be aware that valuations do matter when you're doing these transactions.

As we're thinking about it, and if you have noncorporate structures, remember, IRS is starting to take aim at those structures where the donor retains control and gives away nonvoting interests. What do we make from all of this? There's always stuff going on in tax land. Careful planning still works. Pigs get fat while hogs get slaughtered. Don't wait until the last minute to create a plan. Especially if you're looking at a sale, do it early, and be aware of proposals that can limit the use of grantor trusts. But remember, transfers can still be made, may be considered using non grantor trusts. And also, heck, these are just proposals. Most of them already stalled in the Senate, so take them for what they're worth. Maggie?

Maggie Warrier:               

Thank you. Jonathan. Clearly, a lot for us to consider. In the context of the market conditions each of you just described, Tim, what are some key trends or areas of focus that you are seeing from privately held businesses across the national footprint? 

Tim Brady:                        

Yeah, it's been interesting. Folks are really taking a step back and reassessing their business. And just naturally, what has occurred over the last 2 years with the pandemic, a lot of companies spent that time just trying to keep their head above water or being more reactive than proactive. But as we've seen over the last 9 to 12 months where things have normalized, folks are more on stable footing, hey, let's look back into our business and make sure we're running things properly or at optimal levels. Folks are looking back at margins, especially with inflation and supply chain issues, that they're maintaining the margins they want to hit. Working capital efficiencies, that they're staying on top of that. Return on invested capital, their CapEx strategies, making sure they're doing all the things to drive shareholder value now that we have made it through this pandemic and things are starting to normalize.

I touched a little bit on this in my previous discussion point with those charts. You saw debt levels increase a little bit in 2021 and some cash balances be used up in this first quarter of 2022. And I think that has been mostly attributed to these next 3 points. We saw a lot of folks do a lot of things that I just brought up about normalization, getting through this pandemic. People taking advantage of a dividend recap. Profits are at an all-time high. Balance sheet is really strong. It afforded the opportunity to make that one-time special dividend for the founders, management and key employees, especially as folks are looking to retain top talent in this really tight labor market.

The other is a shareholder buyout. If you are second or third generation, nearing that retirement age, pandemic was enough to kind of kick you a little bit in the rear-end to perhaps transition the business to the next generation. They made it through, this company is in a good position, it's time for the next generation to take over. Saw a lot of financing going to that transition of the business.

And lastly, something Bill touched on, and was looking more at private equity angle, but a lot of corporates too, if you made it through the pandemic and you're more in power of strength now, you're performing well, it's a great opportunity to go out there and acquire. Especially with the aging demographics, there's a ton of business owners that are at or near retirement age and don't have succession or transition planning in place. If you're being proactive out there calling these companies, getting the word out that you're looking to grow through acquisition, it's a great opportunity right now to go do that. Especially as we saw before, rates rising here in 2022, but again in 2021 where rates were really at an all-time low. 

Maggie Warrier:               

Thank you, Tim, for that perspective. I'd like for us to spend some time talking about one of the key themes you just highlighted, companies deploying capital for growth. Bill, for those companies that are focused on investing excess capital and growth through acquisition, what would management teams be focused on to be as prepared as possible for the acquisition process?

Bill Watkins:      

Maggie, look, buyside, everyone we talk to, putting private equity out to the side because that's their business model which is acquiring and existing businesses, but everyone we talk to in the family and founder-held world discusses buyside, how do we acquire companies to grow? And it's just not something you can wake up one morning and say, hey, let's just go buy a company. Jonathan was referring to the tax side and planning. We recommend the same approach to a buyside strategy and M&A. It's really pulling your executive team together, really understanding the strengths and weaknesses of your business and what you're trying to gap fill in terms of M&A. Not just growing from the topline, but what other things can you do to help make your business better and utilize M&A to do that? It's creating that strategy and then putting parameters around that strategy and sticking to it day in and day out.

We recommend having dedicated resources, whether that's someone internal, that supply to help lead an M&A strategy, whether that's using an outside firm or perhaps blending both to help create, again, momentum around a day-to-day strategy for M&A. It's not let's just go buy a company today and see what happens. It's a ton of work internally to build a team because once you're fortunate enough to make an acquisition, then the important part is integration. I mean I'm sure everyone has heard stories about how a very large percentage of M&A deals fail. And absent knowing what the definition of success or failure is in those studies, what tends to be the "failure" is just the lack of focus on integration. And people are still rushing really, really hard to acquire and kind of win on the frontend of making the acquisition. But what's lost in that is having the right team in place, having the right culture that's built around integration. 

All of this is every single day, it's blocking and tackling. It's not just, hey, let's go buy a company. It's a purpose-built strategy with parameters, with support, with focus and really relentless focus. Because when you're in an environment like we have been, and I talk about today, but frankly, absent 3 or 4 months of COVID, the M&A market has been really strong for the last 10+ years. When you're in that kind of environment, competing for businesses, you have to be laser-focused and on your game every single day. You can't take a breath. You just can't pause. Or otherwise, you won't be successful. And then we find with companies who perhaps may take a year or 2 years, 3 years to make their first acquisition, they tend to lose focus. They lose patience, then they kind of walk away from the strategy. Again, the focus and preparation upfront, getting everybody onboard and driving hard in that strategy is the key, and it has to be unwavering. There can't be slowing down from a redline down to 35 miles per hour. When you make the commitment and invest the resources, you have to stick with it in this environment to make sure you're successful. 

And then I would be remiss if I didn't say integration, integration, integration. Again, having a team in place. Perhaps a different team than the folks focused on helping you acquire the business, but making sure the integration, that first 100 days as you're bringing the new company and new employees onboard, is incredibly important to make sure it becomes successful in whatever definition that is for your respective business. 

Maggie Warrier:               

Thank you, Bill. Clearly, as we discussed, preparation by the management team well in advance of the transaction is critical to ensure a smooth process and higher likelihood of success. Tim, as Bill alluded to, just as important, thinking about post-acquisition, what are you seeing management teams focus on as they integrate the target company and look to drive additional shareholder value?

Tim Brady:         

Yeah, great question, Maggie, and Bill brought up some great points there. It's always been investor important, but I think it's more of a premium now in this tight labor market we're in. We're seeing a lot of folks acquire for adding-a-talent acquires. Going out there, they're not able to find the talent to help support their growth, so if they can acquire a business that has talented individuals to help them achieve those goals, you're seeing that occur more and more. What folks are really interested in and are focusing in on is culture and having that seamless transition as the two companies integrate. What you're seeing is, in the diligence process earlier on, the buying company is looking to meet with management and key employees to make sure they can ensure that seamless transition and it's a good cultural fit for both businesses. Because the last thing you want to have is to buy a company and then a portion of those employees leave immediately. Trying to avoid that, so make sure everyone is on the same page. 

Another thing that we've seen happen more too is a lot of value has been driven in the market recently if you have recurring or repeatable revenue. Companies that are more episodic in their sales or create a widget, sell it and then usually aren't reconnecting with their customers base for a couple of years, are looking to add software services or some sort of maintenance so they are touching those customers more often and getting paid either monthly, quarterly or annually in some fashion. When you integrate those services or solutions, making sure you want to cross sell into existing customer base efficiently. 

Lastly, just integrating all the software. And Bill touched about using a third party to do this. Most accounting firms do it. There are folks that specialize in integrating the ERP, CRM, your accounting, human resources. Having all that data in one place as soon as possible so you can see that holistic picture of the combined businesses is very important. 

We talked about too driving shareholder value. I think it can come in a bunch of different ways through efficiencies for business. In my previous life, I worked on the buyside pretty frequently and there was this large family-owned distribution company that acquired all the time. It's a very fragmented industry. After doing 5 or 10 acquisitions, they found out that they typically pick up 6% margin improvement from the company they're acquiring, but it always came in a little bit different flavor or fashion. A lot of it came from economies of scale, so being able to pick up margin just shipping through the same products. But it could come through something else like delivery routes, optimizing those, locations of those warehouse centers, and really focusing in on products and SKUs and having better inventory turn. Every acquisition is a little bit different. Those are some key themes. 

Another thing to keep in mind as you're acquiring companies is multiple-arbitrage. This is something that private equity firms have been doing for a while, but really seen this large ramp in private equity activity over the last 10 years due to this multiple-arbitrage of needing to generate value, manufacture stronger returns by consolidating an industry or having an aggressive rollup strategy. Just to give you an idea of how this can work, if you own a company that let's say is north of $10 million of EBITDA, you're likely going to have some sort of valuation for your business at or above 10x EBITDA multiple. If you're going out there and acquiring a company that's 2x or 3x EBITDA, likely their multiple is going to be in that 6x -- 5x, 6x, 7x, 8x range. So instantly you're picking up value from acquiring the businesses due to that delta of the value just due to the size of the company. There's a lot going into integrating a business, but there is that nice backstop or knowing that there's this multiple-arbitrage to help with the valuation or shareholder value created from an acquisition. 

Maggie Warrier:               

Thank you, Tim. Continuing our conversation on growth, Amy, are there any key considerations for ESOP owned companies when contemplating deploying capital towards growth?

Amy Schuster:    

Yeah, Maggie, thanks for the question. But first, to answer this, I just want to set the framework on ESOPs, Employee Stock Ownership Plans. For those who maybe don't know anything about ESOPs, ESOPs were first passed into law in the late 70s and through today as well, they have broad congressional support for them because the idea of employee ownership makes U.S. companies stronger and more competitive. They give employees ownership stake. By working hard, employees don't have to invest their own money in the business that otherwise wouldn't likely have in doing do. The alignment interests of the companies, of the employees with the interests of the companies for the end results of being as stronger company with greater overall retirement security for employees to participate. With that as a backdrop, and we talked about deploying capital towards growth, from the standpoint of the company itself, there are meaningful tax deductions available. 

In situations where ESOP buys less than 100% of the company, the deductions can add up over time to equal the full ESOP purchase price. An example, if you sold 30% of your shares to an ESOP for $30 million, you could ultimately end up with tax deductions up to $30 million over time. The greatest tax benefit for ESOPs, and the most common form of ESOPs, is that 100% S-Corp ESOP. These ESOP structures pay no federal taxes and in most cases no state income taxes. This is because the ESOP itself is a tax-exempt trust. As a shareholder of an S-Corporation, it wouldn't owe any taxes on the share of the company income. If the ESOP is the sole shareholder, the company would then have no need to make distributions to shareholders for the purpose of paying income taxes. Maggie, you talk about growth capital, so this structure puts a company in position where they're paying no federal taxes. It's a huge solution to deploy capital. 

With all this said, the basis of tax laws in play in connection with the ESOPs are very intentional. They were designed to incent owners to consider selling their business to their employees through this latest preservation and tax savings. And to enhance cash flows as we just discussed, the 100% S-Corp ESOP pays zero federal income taxes. Because the S-Corp ESOP pays no federal income taxes, we typically see with the lifecycle of ESOP if we talk about capital deployment, in the first 0 to 7 years, they're using that excess cash flow to service their transaction related debt for the purchase of that company. In years 5 to 10 and maybe a little bit further, they're focusing on paying synthetic equity to the structure, reinvesting in the business, saving towards repurchase liability payments. But the last bullet point is my favorite. In the later years, more mature ESOPs invest in the business. They work on buying companies in similar industries or they might diversify their portfolio with this federal tax savings. A lot of the ESOPs across the United States definitely take advantage of this tax shield. Thanks, Maggie.

Maggie Warrier:               

Thank you, Amy. We've talked again about growth via acquisition. But Tim, broadly speaking, when looking across the portfolio, what are you seeing executives focus on when driving an aggressive organic growth strategy?

Tim Brady:                        

Yeah, great question. What I always try to talk with folks, management teams that are going through this, right on the cusp of some explosive growth, in the throes of going through it is, make sure you're always stepping back and looking at the needs of the entire company. Because it's real easy to get caught up in all the excitement around growth. You almost have blinders on or laser-focused on executing on that growth. But you want to make sure you step back and assess the business as a whole. Because if you have a bunch of growth expected in the next 3 to 5 years that's going to require capital to help fund that, or debt that will fund that, you also want to assess, hey, where are the shareholders at? Look at the cap tables. Is anyone at retirement age or nearing? Because we've seen that happen that folks don't kind of plan that out. You're in the middle of this growth and you've got to use some of your profits or your debt capacity to fund this buyout that can hinder or sometimes pause some of that growth that you had planned. Make sure you understand everything going on in the business. 

We're helping another company within the corporate advisory group that is growing at a very robust clip. And they're in the services industry, so they don't require too much capital to grow and scale, but due to their growth, they want to move from renting or leasing their space to building their own headquarters. Want to plant that flag in their hometown and build this very nice, brand-new headquarters. But we had to put it in context that this is going to suck up some of the capital that your company is creating or cash flows your company is creating to fund this. Where it could be probably better used to continue to spur or help that continued growth as they're projecting still to double or triple over the next 3 to 5 years. Just realizing everything going on in the goals of the business as a whole.

But focusing back in on companies that again are right on cusp for growth or in the middle of it, really try to focus on extensive modeling. It's tough to know what's going to happen next week, next month, let alone 5 years out, but you know your business and industry better than anyone else. Do your best guess on what you expect your company to do. And share that with your bank so they can help support that growth. We here, we'll help with sensitivity analysis. What happens as margins compress 1% or 2% due to labor costs going up? Or now all of a sudden, due to this growth, it's attributed to a large Fortune 100 company. Their typical days outstanding or how quickly they'll pay you won't be those 30 or 60 days. They'll be looking for 90 days. How does that impact you line of credit usage? Build that model out, share with your bank, run sensitivity analysis on it too to make sure you have a debt structure in place to support your growth. Something you can grow into this during subperiod of rapid growth.

Maggie Warrier:               

Thank you, Tim. We've discussed the preparation and planning at the corporate level that goes into growth. Jonathan, from a planning perspective, is there any advice you have for shareholders at a time where their company is focused on driving growth in the business?

Jonathan Lander:              

Indeed, Maggie, there is. Planning strategies can be deployed before, during and after growth. For example, before growth, before it really takes off, senior generation shareholders can consider transferring equity that is their value to trusts for junior generations. This actually removes shares from their estate, the growth on those shares from their estate, which also prevents the estate from growing as the company grows. And of course, prevents that growth from being taxed by the estate tax later on down the road. 

But of course, I'm the first to admit, making big gifts can be a little scary. Making big transfers can be little scary, especially when you're talking about stock in your company. If you're not comfortable actually giving away existing wealth, before the company takes off, consider a freezing transaction like a GRAT or a sale to an intentionally irrevocable defective trust. By the way, defective doesn't mean broken. It just means the shareholder has made a trust that is a grantor trust for income tax purposes and out of the shareholder's estate for estate tax purposes. I don't know why they named it that. Well, who knows? In the way that the original value returns to the shareholder, so you've given it away into a trust, but you've kept a mechanism by which the original value returns to you either in the form of an annuity or a note payment, so that only the appreciation over a required rate of return is transferred out to the beneficiaries or to trusts for their benefit.

In essence, you've frozen your estate at its current value plus some rate of return. Now, as the company gets going and starts growing, and cash accumulates on the balance sheet, or even if it doesn't, by using leverage, shareholders can pay themselves a dividend. Again, removing cash from the company creates many benefits. But for now, because there's lots of things we can talk about here, let's focus only on the planning side rather than all the things you could do with that money. 

By removing cash from the company, the owner can manage the owner's personal investment risk. There's an old maxim. Concentrated positions build wealth, diversified positions preserve wealth. Concentrations build, diversification preserves. By removing cash from the business, a shareholder can begin to diversify away from holding much if not most of that shareholder's wealth in the concentrated position known as the business. 

Also, by removing cash from the balance sheet, we're adding leverage to remove that cash from the business, the per share value of the business may be reduced. This makes interfamily gifting or sale transactions much more affordable. As the value of the shares are lower, they're more affordable to give away, they won't use as much gift tax exclusion or even cause a gift tax. We hate to talk about that. But as more shares can be gifted with the available exclusion amounts, or junior family members or trusts pay less for the shares. Again, with the result that you move things out of the estate and perhaps in the future now you have a lower estate tax. 

And lastly, well, what did we start taking about here today in the tax world? The administration is again proposing raising income tax rates on capital gains and qualified dividends for wealthy taxpayers. You're moving from preferential rates to ordinary income tax rates. If you believe that this proposal might actually be enacted into law, and forgive me, I dopped by crystal ball and broke it, I have no idea whether this is going to happen, paying a dividend or selling shares today would lock in the currently lower income tax rates on capital gains and qualified dividends. Throughout the growth cycle, Maggie, there's lots of ways to plan. Either before, during and then even after, but that's not the topic for today. 

Maggie Warrier:               

Thank you, Jonathan. Each of you noted the importance of employees needed to execute a company's growth strategy. I'd like to shift our focus of the conversation now on strategies we are seeing companies execute across the portfolio to attract and retain those key employees in the backdrop of an ultra-competitive labor market. Amy, ESOPs naturally give a broad range of employees an ownership stake in the company. How has the current talent landscape impacted companies who are employee owned at some level? And alternatively, what impact does that talent consideration had on owner's decision to sell or a portion of their business to the employees? 

Amy Schuster:                  

Yeah, Maggie, a very timely question. This whole talent conversation is on the top of the mind of 100% of the companies we see and talk to today and probably every company that has called into this webinar today. Owners are trying to have greater engagement with their employees and attract and retain talent and lessen turnover. Period. Some of these incentive ownerships can come in different forms. As you know, they can come in direct ownership, synthetic equity, or employee ownership. The benefits of employee ownership that we've outlined on this slide, the structures allow these companies, and I'm just going to take a second because they are just such good bullet points, they allow companies to be more competitive, more resilient, great places to work, they create value for the workers and the economy and they have a superior retirement benefit.

Employee ownership is just one solution that might help mitigate turnover and keep up losing employees and recruiting talent to fill vacancies. Having to rinse, repeat recruiting talent and fill vacancies, that process is super expensive and hard on the culture. If you are a new ESOP, after your ESOP transaction occurs, you're probably asking yourself, how do we get leverage from this ESOP, if you haven't figured it out, by putting in this transaction?

The number one thing I can say is communicate. Communications should start day one and they should become a permanent part of the business. Be very communicative to your employees so they know what it means to be an owner and the benefits they can achieve through the ESOP. Not enough communication and reinforcement of employee culture with employees can lead to a lack of understanding and a lack of buy-in. One of the greatest things you can do is help the employees at all levels understand the connection that exists between what they do every day, so just showing up to work as a shareholder, and how that drives shareholder value. 

The second thing I'll bring up is if you're an ESOP today, a lot of my companies today are looking at the eligibility requirements. There's age limits when employees can start a plan, whether it's 18 or 21. If it's 21 and you're trying to attract talent, younger talent, you might change your eligibility requirements to allow 18-year-olds and on up into the plan. In addition, hours of service. Some of the older plan documents out there might say you need to have a year of service in before you're eligible to start in this employee ownership plan. A lot of my companies today are adjusting that years of service because they want the talent in as soon as they can get them. If this is something that you're considering or you thought it was a good idea, just consult with your law firm and your plan document to look at your design.

And then benefits of employee ownership for the company and employees have been increasingly been clear during the pandemic maybe. ESOPs as a recruiting tool, E&Y did this really great analysis out there for SCA. SCA's employee ownership, S-Corporations of America. And they took a look at retirement plans from 2002 to 2019 and they looked at what you would think. Net asset value, number of participants, average account balances, and distribution of participants. And in doing so, they saw that the S-Corp ESOP employees saw returns at a higher return than the S&P. And they also saw individual owners participating in S-Corps get nearly $26,000 a year as an added benefit. This figure takes into account contributions and increased job security along with S-Corp assets. Maybe all that to say is employee ownership is definitely forefront and top of mind as companies look at succession alternatives today. 

Maggie Warrier:               

Thank you, Amy. Moving away from ESOPs now, Tim, how are owners thinking about key nonfamily executives as part of transition planning? 

Tim Brady:                        

Absolutely. This is something we keep seeing more and more. As you see companies surpass that 100-year anniversary, 150 approaching 200 years. Naturally, you're getting the third, fourth, fifth generation of these family-owned businesses. Naturally, as these companies get older, that family can lose interest or just not be as passionate or involved in the company. To keep the growth going, a lot of folks are using nonfamily members, folks on the management team or key employees that have been with the company for a while that know that business better than anyone. Allow them the chance to buy in and help with that succession or transition planning for the current shareholders. And when they have that extra incentive of owning equity, obviously it's a lot of what Amy just touched on, extra incentive to continue to grow and do best by the business. We're seeing nonfamily members buying in more and more. 

Perhaps if you have a family-owned business and it's not the right time to think about nonfamily members joining the cap table or ownership team, what we're seeing a lot of folks focus in on though is having them incentivized properly. Thinking about phantom or synthetic stock or some sort of bonus structure that's tied to the performance of the company. Because what we want to avoid is, when companies get later into that third, fourth, fifth generation, it can kind of almost become an orphan. The founders or the ownership team isn't as motivated or passionate about the company. The management team or the folks running the company aren't properly incentivized. And you see companies start to flounder, plateau or shrink. Avoiding that, making sure you have the right people on the cap table or ownership team or incentivizing those running the business properly.

Maggie Warrier:               

Thank you, Tim. Jonathan, curious, what are some other strategies that you are seeing companies utilize around those key executives as they think about their compensation and broader benefits packages?

Jonathan Lander:              

Well, Maggie, I've found over the years that planning questions usually have a personal side and a numbers side. On the personal side, particularly when they're both family and nonfamily managers, be sure that the personnel policies of the company are published, that they're evenhanded and understood by everyone. Especially the criteria for compensation, bonuses and promotion. It's going to be really hard for any company to retain important nonfamily mangers or even employees if there is a sense that less qualified family members always receive preferential treatment. And also understand that not all the company's key employees will be senior managers or even highly compensated folks. There may be workers on the line who produce and have great potential or exceptional junior managers who can grow into senior leaders. 

This is your company's bench strength. If you follow professional sports, you know that a team with a weak bullpen or bench is unlikely to win a championship. Now of course, you always identify your franchise players. But also know who are the rising stars. Provide compensation and other incentives to keep both in the game. What do I mean by that? Well, there are lots of ways to compensate employees. We just heard about ESOPs. And in this time of the great resignation, increased current compensation, better health benefits, a 401(k) plan or an ESOP might be as critical simply as maintaining your workforce. But for your key folks, more might be necessary. The folks you never want to lose, you might have to go more. 

There are many ways to structure compensation plans to retain your employees, but most importantly, each plan must fit the employee. For example, a nonqualified deferred compensation that lets a senior executive defer income, defer income taxation on bonus payments might be just right for that highly compensated employee. However, for the rising star, somebody maybe a junior manager on the floor, with a young family, and you know how that is, 3 kids and a mortgage, well that plan might have less appeal. So perhaps that employee might want more life insurance or extra cash bonuses. The plan should fit the employee. 

Now, to lock in employees, and encourage performance, we've heard about equity-based compensation plans already. But here I have to say one thing. Stop. Stop. Equity-based compensation does not mean you actually have to give your employees stock. Because once somebody owns stock, they have rights. They have rights as a minority shareholder. Before doing it, talk to your lawyers. Know what's going to happen if you do that. 

But you can give, the company can give, use synthetic equity to give rights like stock such as a phantom stock plan or stock appreciation rights to align those employees with the company and its objectives so that when there is an event like a change of control or a sale, they benefit. Now, there are any number of ways to fund these nonqualified deferred compensation plans. Employer contributions, employee contributions, cash, life insurance. Tailor the plans. However, just remember, consult good advisors. Because if you don't follow the rules, and they are complicated, you can get additional tax and penalties. And you really don't want something good turning into something bad. Work with experienced counsel. And it's already been said and I'll emphasize it again, be sure your employees know all the good things that you're doing for them. Maggie?

Maggie Warrier:               

Thank you, Jonathan. Lastly, Bill, closing out our conversation on talent, can you talk about the role talent plays when preparing for a sale?

Bill Watkins:                    

Yeah, Maggie. Look, I think from a preparation standpoint, it takes a tribe to get everybody prepared for the sale. It's a ton of work. Even with a team of advisors, there's a lot of effort involved in that. Key members of that team and as you look at your org chart, you can probably understand who those would be at the executive level, are incredibly important to be motivated, to make sure they're maintaining confidentiality throughout that process, and then also helping support that and help drive value over the course of the engagement. What I'd also say just about talent from an M&A standpoint is, everyone wants to focus on EBITDA multiple, revenue growth. I mean those are all results from a process and the process is the talent. It's the person driving the truck in the warehouse. It's the service tech repairing a robot. It's the customer service representative. To have incredible talent at all levels of the organization is what helps drive the best revenue growth, the stronger EBITDA margins. And that eventually gets to the better multiple, and overall, the better story for your company. 

Doing all the things that our colleagues here on the panel talked about in terms of motivation, communication, engagement, that's incredibly important to make sure you have the best people sitting in the right seats at the company. All seats at the company. Not just the 5 or 15 people in the inner sanctum behind the curtain who are thinking they are the entire business. It's everyone involved, not just the executive team that's helping drive the value. 

Maggie Warrier:               

Thank you, Bill. The last area of focus I'd like for us to touch on today is how to execute shareholder goals which may require capital while continuing to support a growing business. In some situations, capital may be required to facilitate a sizable distribution to shareholders, for employee diversification and personal liquidity. While in other situations, capital may be required to facilitate a shift in the shareholder roster. In either situation, capital deployment considerations are critical. 

Tim, for those companies looking to execute a generational transition, or an ownership transition across nonfamily members, what are the key considerations management should be focused on? And conversely, what are the key considerations shareholders buying and selling should be focused on? 

Tim Brady:         

Yeah, great question, and it kind of reminds me of a question I was asked just a few ago about aggressive organic growth strategies. I kind of told the companies or management, founders to step back and look at the business holistically and other needs outside that growth. Think about the inverse here. Done got just laser focused on the shareholder, the transition, the buyout here. As you want to also consider what the business will need to continue to operate or grow and flourish during the same period. Understanding what you'll need from a working capital or line of credit use, CapEx spend, and others to hit your growth and operating goals for the business. Take everything into consideration. 

And then when you're going through it, figuring out what type of transition is this going to be. Are you buying out one or two shareholders? The remaining ownership team is just going to grow their shares pro rata, so thinking more of a share redemption. Or are new people going to be buying in or change of ownership within the ownership team, so more share repurchase. Thinking about gifting. There's a lot that goes in and every sort of transition is going to be unique and different. But what you want to do is try to plan ahead so it's most tax advantageous as possible. And everyone is on the same page from a transparency and understanding what to expect. 

We saw this yesterday. I got a call from a banker here in the Midwest that they're just having a quarterly meeting with one of their clients over lunch. And as they were leaving lunch, just in passing, the President and CEO, and he's second generation, mentioned at the end of the year I'm going to retire. It's time for third generation to take over. However, there is nothing in plan to execute on that transition. Start that planning as soon as possible so everyone knows what to expect when that day comes. 

Maggie Warrier:               

Thank you, Tim. Jonathan, building upon Tim's comments, can you touch briefly on why the tax and legal elements are such a key component around the mechanics under which you execute a transition strategy? 

Jonathan Lander:              

Indeed. Thanks, Maggie. Every entity has certain tax characteristics. Of course, there are general rules with respect to taxation. Partnerships are taxed differently than corporations. Corporations can be taxed under Subchapter C or Subchapter S of the Internal Revenue Code. And each of those has very different rules. Then, each entity has its own tax characteristics. Each particular company has its own characteristics and no two are alike. If it's an S-Corporation for instance, how much AAA is there? If it's a partnership, what is the inside basis of the assets versus the outside basis of the partnership interest in the hands of its partners? Is there a Section 754 election in place? All of these things are going to impact the taxation of any transaction. And it's actually not possible to go through all the permutations here because each company is different. But there are general things you should think about. If one shareholder is selling to other shareholders, is it better to have the corporation repurchase the shares or have the other shareholders purchase them? Well, there's a difference. If the corporation repurchases the shares, the remaining shareholders have increased ownership in proportion to what they own. And those shareholders, although they now have increased value in the value of their company interests, may not have any more basis in them, pushing up any future capital gain liability perhaps. 

On the other hand, were the shareholders to purchase the shares, they could do so disproportionately and would likely receive basis equal to the cost of the shares purchased. Different structures do different things and have different results. Also, how should the purchase price be financed? If the corporation is going to make a distribution, and if it's an S-Corporation, consider that distributions must be proportionate based on shareholders. Would the distribution cause an income tax? What if the corporation lent money to the shareholder to buy the shares? Of course, then the shareholder could make a disproportionate purchase, may not have income subject to tax, but now it will owe money back to the corporation. And if the corporation had to borrow to make that loan to the shareholder, what would be the income tax consequences to the corporation and the shareholders of that borrowing and lending? 

And of course, on the economic side of things, would the increased debt service be a drag on operations? These all have to be answered as you're going through the analysis. And there are considerations upon considerations upon considerations. And it's just not the general tax rules that must be considered. Each company is unique and the characteristics of that particular company impact the transactions. The tax and economic impact on the corporation should be considered and the tax and economic impact on each shareholder as well. In the end, Maggie, there is no substitution. There's no substitute for doing the analysis when determining which structure works best for a particular entity and its particular owners. It's really a matter of doing, I hate to say it this way, doing the math. Maggie?

Maggie Warrier: 

Thank you, Jonathan. Coming back to you again, we're seeing dividend recapitalizations utilized more frequently to provide shareholders with liquidity and diversification. What should shareholders be focused on as it relates to their personal finances when their business is contemplating a leveraged dividend or distribution? 

Jonathan Lander:              

Well, I'm a planner at heart. I'm a broken-down old tax lawyer, so I like to look at money and I say, money can buy things. What can money buy? Okay, so we know money can buy things like boats, cars, houses, all that good stuff we like to have. But I don't want to focus on those things, Maggie. I want to focus on the intangible things that money can buy. And it's those intangible things that the planners like to work for. What can you buy with that money? Risk management. You can buy risk management with that money. By removing cash from your business, you can invest in other assets and those assets might zig when the business zags. You can also manage risk by providing protection for your family should something happen to you. For instance, what would happen if you couldn't work? If you were the driving force in the business, would the business falter, leaving your family without income? And of course, if there are multiple owners, how long would your partners want to carry your family? 

This is risk management on the personal side as well as the business side, so there are different types of insurance that you can purchase that would protect your family in the event of your disability or death. And as corollary to risk management, removing money from the business protects those assets from the risks of the business. Business creditors. Poor creditors. Think slip and falls, car accidents. And also, from the downturns of the business cycle. What else can money buy you? Money can buy you time. And time is really valuable. Because money outside of the business can allow you as the owner to have resources you can draw upon while you train up the next generation. If you are planning a family transition, having resources outside of the business can allow you to sell to the next generation, perhaps on more generous terms, which could help ensure the success of the business. And in the end, if you took back a note, ensure that you really get paid. 

And then money can buy you opportunity. I like to call it edge. Money outside of the business can buy you an edge. Why? Because once the money is off the balance sheet, you have resources to do something else. To move in a different direction. Or even take advantage of someone else's misfortune. Your competitor across town, as that whole segment of the business world goes down in value, you can swoop in with money. 

You could create a different business structure. For instance, I once had a business owner, he was going to tell me that he was going to purchase a new business inside his existing business. Okay, well that really for taxwise didn't make much sense. Because by bringing another business into his existing business, he just increased the value of that business and he increased his estate. I always look out until when people die in the estate tax, right? But if the assets were outside of the business, he could have created a trust to buy that new business and then all of the business which could still benefit his family could miss the estate tax. It allows you flexibility in creating structures. 

And lastly, money that you own not in the business can help you retire. I know, nobody wants to retire, but it can help you retire. Investing in the auction markets, the financial markets, is different than investing in your business. You can't control the markets in the same way you can control your business. And if you'd like to maintain a similar lifestyle in retirement, it will take wealth invested in the financial markets to support it. You may have been taking funds out of your business, salary, bonus, but not just money. Think about all the other things your business provides you. Your car perhaps. Your cell phone. Those business trips coupled with a little bit of fun. Investing in the stock market, in the public markets may not produce the same amount of income for you. Start building your investment portfolio as soon as you can. That way, when the time comes to retire and sell the business, the sale price tops you off. And there's no shortfall in what you need to live your good life as you would define it. Maggie?

Maggie Warrier:               

Thank you, Jonathan. Thank you, panelists, again for joining me today for a robust conversation on growth and transition strategies. That concludes our prepared remarks. I'd like to open it up now for audience questions. Okay, this first question, Tim, I think you can answer this. For companies with limited debt capacity, what strategies are you seeing management teams implement to create value for shareholders? 

Tim Brady:                        

We see this quite frequently. There's a couple of areas where I would recommend these companies to look at to unlock some cash or be able to give a little more cushion when their debt capacity can be tight. First is working capital efficiencies. Dive into figure out is there a way to incent your customers to pay you earlier? Is there a chance to delay payment to your vendors? And there's a way to be more efficient or more quickly turn your inventory so you don't have cash tied up in idle inventory. Looking at your working capital efficiency to see if there's ways to improve those or pull some levers to unlock cash.

Another, and it's silly to even bring up, but just looking at is there a way to improve your margins, especially in a market like this where you're seeing inflation and supply chain issues. Folks have been able to pass on those surplus, or sorry, those increases in price or costs to their customers fairly easily. Reassessing and making sure you're keeping margins where you want then to be. The other one is CapEx strategy. Any piece of machinery or anything to operate your business, is there a way to extend the life of that product or that vehicle or perhaps take a look, instead of buying, is it more efficient to be able to lease some of that equipment? The main ones are really working capital and CapEx strategy, but other things you can look at to make sure you're running your company optimally. 

Maggie Warrier:               

Thanks, Tim. For this next question, Bill, I think you can address it. For a company that is considering a sale, but recently executed a growth strategy via acquisition, how many months or years of performance of the combined entities would buyers typically want to see to feel confident in evaluation of the combined companies? 

Bill Watkins:                    

Yeah, Maggie, that's also a great question just given how active the M&A markets are today and how many companies are employing an M&A strategy. First and foremost, and I don't mean to kind of go on a tangent here, but having a very strong accounting firm or some type of financial advisor help you through a quality of earnings review is incredibly important. And in doing so, as they put really the lens in the business of a buyer, that work helps you kind of unpack data around the acquisition. You can look at perhaps the last quarter of running the business and then use data behind that and forecast out what the next 3 to 6 quarters may look like. So that proforma run rate analysis is incredibly important to do under an independent lens and a group of folks who have committed to scrub the numbers and help you do that. 

I kind of just gave you the answer. If you do have 3 to 6 months under your belt of that performing acquisition, and very good data behind it, so again, I think Tim was talking about systems earlier, making sure you have the right systems in place to cut, slice and manage and then report back the data to you as the business owners, but then more importantly, sharing that data out to the eventual buyers looking at the business is incredibly important. But the days of waiting at least a year to have a full TTM under your belt, we have moved well beyond that just given how aggressive the market is today. Having 3 to 6 months behind you with again, good data to support that business, is enough to really extract value on a proforma basis. 

Maggie Warrier:               

Thanks, Bill. I think we have time for just one more question and I think, Amy, if you could address this, what is your top advice for someone committed to doing an ESOP? What things should the company be thinking about to make sure the transition is successful?

Amy Schuster:                  

Yeah, Maggie, great question from the audience. I'm going to keep it brief because I know we're running short on time, but most ESOPs are highly successful and they do go on to achieve what the owner had in mind in pursuing. But maybe that said, mistakes do happen and ESOPs that could be successful are not as successful as they could be. And these common mistakes are avoidable. From my experience in this space, and you heard Jonathan and Bill talk about it earlier, but planning is important. Planning and deciding a prudent transaction upfront and talking through all of the ideas and solutions you're trying to accomplish, is very important. And that takes time. 

The second things I'd say to be successful is getting the proper advice. Surround yourself with professionals who are highly qualified and prudent to do these deals. And then lastly, committing fully to the idea of employee ownership. Through the transaction and post transaction as I talked earlier, continuing to communicate to employees the importance of ownership and what it means to them. Thanks, Maggie. 

Maggie Warrier:               

Thank you all for joining us today. That concludes our webinar. A replay will be available and you will also receive the slides. Thank you.