The sharing of ownership with employees is another factor with which the entrepreneur must be comfortable. The advantages of an ESOP notwithstanding, bringing in minority shareholders can be risky. Smith argues these can be more trouble than they are worth, especially if the business suffers a downturn. Depending on state law, he says, minority shareholders can force the dissolution of the company, or the buyout of their shares at a premium. “I’ve seen it a lot,” he says. “So sometimes, someone trying to create liquidity might end up shooting himself in the foot.”
From Your Side of the Table
Five essential questions to ask your financial advisor about liquidity strategies for your company: | 1. Do current interest rates and my company’s credit quality make a leveraged recapitalization a viable option for obtaining liquidity? 2. Would the costs of establishing an ESOP outweigh the benefits for my company? 3. How do I ensure I obtain an accurate valuation that an ESOP trustee cannot challenge later? 4. Can I take my company public and still maintain control? 5. Can I sell a stake to a private equity firm and still bequeath control of my company to my children? |
Taking a company public is, for an entrepreneur who is interested simply in gaining some liquidity, a drastic step. While it certainly delivers liquidity, and (depending on the stake offered to investors) allows the owner to maintain a degree of control, this strategy comes freighted with caveats and considerations. “This is the last thing we’d recommend,” maintains Tony Greene, a cofounder of StillPoint, a family office based in Atlanta. The costs of going public and of complying with securities and accounting regulations can total several million dollars. Indeed, most underwriters take 5 percent of the proceeds, at least, as a fee. “Frequently you don’t create as much wealth as you might think,” Greene notes.
Even those owners who maintain a controlling stake must realize that managing a public company differs significantly from running a private one. The intense scrutiny under which public companies operate is unlike anything that most family run businesses endure. With thousands of stockholders questioning every move management makes, business decisions can no longer be made with an eye strictly to long-term goals. Investors and analysts demand quarter-by-quarter performance. They nose around the operations and look askance at the quirks that over time can spring up in family businesses. “The fact that you pay Aunt Susie $200,000 a year to come in twice a week to empty trash cans, well, guess what, in the public markets you can’t do that,” Greene says. This leaves the private equity route, which allows the owner to retain control in the short run, but usually requires him to cede it in the longer term. Joe Greco ultimately chose to sell a stake in his company to Summit Partners, a well-known, Boston-based private equity firm. He says he now benefits from additional credibility with client prospects, who before worried about PSC’s long-term viability. Summit has two of five board seats at PSC and has already helped grow the business by introducing PSC to its own portfolio companies, two of which are now customers. “These guys are savvy and smart, with all kinds of contacts. They have experience dealing with banks, and they have experience on the M&A side, all of which will help grow the business.”
Selling a large voting stake in a company will often deliver a higher valuation, a larger payout and attractive tax benefits. Many entrepreneurs—like Greco—eventually come to terms with taking on business partners and accept the trade-off of cash for control. However, this is only a first step: Private equity firms and venture capitalists want an exit strategy three to seven years down the road. “You’re committing to a liquidity event or impairing the balance sheet through a loan,” Isdale points out. “You don’t want to go the private equity route unless you’re comfortable with that.”
For Greco, coming to grips with the fact that he would no longer be in sole control of his company was difficult, and took time. “It was a psychological hurdle,” he says. “You’re thinking, ‘Oh my God, I’m not going to be the only one in the room.’”
However, he determined that the benefits of partnering with Summit outweighed this cost. “I was able to take some money off the table, and never have to worry about money again,” he says. “Depending on what the final exit strategy is, I’d be OK if we sell to a larger firm and they say, ‘We want you to stay,’ or if they say, ‘We don’t need you.’ In that case, I’ll just start another business.” Michael Sisk, based in Pelham, N.Y., is a regular contributor to Worth. michaelasisk@yahoo.com
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