If you go that route, you keep the continuity and all those soft feelings that we talked about before, and the company doesn't get absorbed into some massive bureaucracy. But you want to make sure your employees can get this done; don't even think about selling the company to them unless you believe they can get it done. So you help them. You introduce them to three buyout firms, and you give them a six-week lead before entertaining other offers.
That way you've created a good dynamic, because you've given your employees a proprietary shot. But they're on notice that if they screw it up and the deal doesn't get done, the company gets sold to somebody else. It creates consternation in the organization on one hand, but on the other you've given them a proprietary shot. That's fair.
Inc.: Does that happen a lot?
Rickertsen: It's one way it happens. The other is that the owner basically says: "Look, I built this business. I own all the equity. I deserve the biggest payday possible." And really, the best way to get the biggest payday is to conduct an auction.
If it goes that route, two things can happen. Option one: there is an auction, and the employees never get involved because the owner is worried about all those conflicts we talked about before. But if the founders don't let the managers bid, they almost always pay a bonus to the employees from the proceeds when the company gets sold. The number depends on the size of the company, but it usually works out to be about 5% for sales up to $20 million, a lesser percentage as the price tag goes up. By doing that, owners keep everybody on the reservation while they're going through a tough process. It's not only nice; it's smart business.
The second option is, the owner sells the business through a process but gives the employees an equal -- not a proprietary -- shot, and they run around and try to make a deal happen. In those circumstances, what I've often seen is that if the employees show up with an offer that's within 10% of the high bid, the owner will often sell them the company. If they're much more than 10% lower than the high bidder, they usually don't get it.
Inc.: One reason owners might sell to their managers at a discount is that they don't want to sell to some real or imagined enemy, right?
Rickertsen: Absolutely. But there is a flip side to that. The owner says: "I've run this business for 20 years, and I've done OK. I sell it to my employees. It does three times as well as OK. The only variable is, I'm not running the business. I don't think I want to be in that position." All parents want their children to do better than they have. And then when they do, the parents feel really uncomfortable.
It can happen. The way to protect yourself [as the owner] is to ask for "home-run warrants." You sell the company to your team, and say: "Look, I'm selling you this thing for $7.5 million. I want you to be successful. But I want a warrant that says if you guys sell it for more than $12 million, I get 15% of the proceeds [over $12 million]." That protects you on the back end.
Inc.: What happens if the management group bids and loses?
Rickertsen: They need to be prepared for that going in. You must be prepared to lose. Be gracious about it, but don't be stupid. Ask for a fee at the time of the sale. You helped build the company, and you should get something.
Inc.: How long does the whole process take?
Rickertsen: Normally, 120 to 180 days. Some deals drag on for up to a year if they're very large and complex.
Inc.: What is a common mistake that owners make during the process?
Rickertsen: There are two. First, they wait too long. Sell when things are going very well. Buyers need to believe that they can make money on the deal. A lot of owners sell after the cycle has crested, and they just hurt themselves, because the buyer knows the company is past its peak. Buyers are never dumb. And they'll see that you are trying to sell during a downturn. The result? You'll get four times cash flow, rather than the six you would have gotten a year ago when things still looked pretty good.
The second mistake is, the owner doesn't have a strong succession plan. If you're the owner, you're just going to hurt yourself, because the buyers are going to pay a lower price -- my price goes down by 30% -- to reflect the fact that your leaving represents a massive business risk.
So it's really important to think about it in advance. Be strategic. Put in a good succession plan and all the necessary systems [complete with financial reports]. And sell when there's still some money on the table, because that's when you're going to get the best price.
Inc.: If managers had a piece of the action to begin with, would management buyouts become extinct?
Rickertsen: Absolutely. If America were smarter about how it compensated its executives, you would find much less management-buyout activity. And you'd find that companies would have greater profits and would perform better.
