25 Years in the Making
The timing could not have been better for the launch of our new online magazine, given our tagline “The Business of Lighting Design.” A few weeks ago, IALD hosted a webinar, “Business Transition Planning— the Who, What, When, Why.” The IALD does a great job with their webinars, which are just one of many tools they offer the industry.
After the call, we caught up with Barbara Horton, Co-CEO of Horton Lees Brogden, and she expanded on the discussion allowing me to better understand the HLB transition plan.
Barbara explained that they are an open management company following the practices of “The Great Game of Business ® ” where everyone is aware of the overall financial picture of the company on a weekly basis. A few of the HLB designers create the critical number and then using their data forecast sales, expenses, revenue, etc., for the entire company. In this additional duty, the designers collect data every week and provide a complete financial picture of the company.
Jules Horton is the founder and the inspiration of HLB. Barbara joined the firm in the early 80s, and by the mid 90s she and Stephen Lees sought professional advice from a management consultant. They created the Internal Ownership Transition Plan, which turned out to have been the springboard for their firm’s continued growth. Barbara stated, “We wanted to continue Jules Horton’s legacy while giving an opportunity for others in the business by paying it forward. The transfer strategy had to have financial rewards for everyone. Looking back over the 25 years since we started the plan, we have had a good success, not just for the legacy owners but for the firm and the leadership team.”
Barbara and Stephen, the sellers, were in their 40s and set up a strategy for selling shares over a 25-year period. During this time, they continued to identify limited pools of internal buyers. Barbara explained, “You can’t be totally top heavy, as there can only be a certain number of people in ownership roles.”
Carrie Hawley, Co-CEO spoke about how HLB develops people. Carrie considers herself a boomerang, one of eight associates who left HLB and returned. She became an owner in 2007. Patricia Farnsworth, Partner in Lawson & Weitzen, was the attorney who helped set up the deal, and she also provided some insights during the call.
The group discussed four questions to be answered: The Who, What, When and Why. There was a major theme that weaved itself throughout the discussion and that was the effect of emotion throughout the entire process.
The who are the existing associates, but not necessarily all lighting designers. The CFO is also an owner. People are chosen based on growth and their ability to bring in business. The buy-in gives rising talent the opportunity for personal growth with a solid future. Creating future shareholders creates ongoing stability within the company. HLB continues to canvas their employees to see who may be interested and who has what it takes to be an owner. When a candidate is identified, they are invited to begin a discussion. Even though HLB is intimately familiar with their work, the potential buyer will submit a portfolio, similar to if they were applying for a job. The present owners will study their performance metrics and also consider contributions to the industry. It is about a two-year process.
The sellers and buyers need to align their goals. From the seller point of view, it does not mean giving up total control, but it does allow the buyers to share the risks as well as the rewards. From the buyer’s perspective, the buy-in is personal career growth with a meaningful stake in the success of the firm and the chance to control their own destiny. Ownership does come with risks and with a good plan, but the risks can be mitigated. The team pointed out that Generation Z has different needs than Generation X and it is important that the program evolves.
It is never too early to start planning. The team strongly recommends that the best time to begin an ownership transition is early. The process takes longer than most people think. One of the first steps is to participate in ownership-transfer workshops.
Every ownership team will have their own reasons to sell. HLB has over 90 associates in seven cities and they wanted to continue, even strengthen their legacy and the reputation of the firm, while providing a solid future and financial rewards.
There are many ways to exit a lighting designer firm: passing the business to heirs, selling to co-owners or key employees, an ESOP, a merger, or sale to another firm. The least desirable is liquidation. Determining the best path is why it is important to have an attorney and an accountant at the start of the process.
There are different factors to consider in deciding between an internal sale and an external sale. Important factors for an internal sale are preserving the legacy, paternal/maternal feelings, loyalty to key long-term employees, retaining high value employees, maintaining the culture, and maintaining control for period of time. Important factors for an external sale are maximizing the sales price, positioning the business better to compete, concern about capabilities of the next generation and the risk intolerance of key employees. The attorney pointed out that there could even be a hybrid sale— internal and external.
The attorney stated that the return for an internal sale is usually a little less than an external sale. She also commented that giving up control can be emotional and, with an external sale, that control is given up immediately. With an internal sale, it is done over time. The attorney emphasized the need to manage emotion and feelings and to understand the difficulty of founders who created a successful and financially profitable business as they begin to give up decision making. There is also emotion from the buyers who have invested their money and have newer and sometimes diametrically opposed ideas for running the business.
Take time to establish the framework by creating a roadmap. Start with establishing a vision and determining a succession timeline. The attorney recommended a minimum of five years and ideally ten to twenty years. Identify successors or buyers early in the process. Who are the key teammates who can become successful buyers? Do you see them being capable of taking over? Have you communicated your belief in them? Do they even want to own a business one day? If the answer is no to the majority of these questions, the sellers may need to consider recruiting new talent for succession.
Once the successor candidates have been identified, business evaluation should be prepared. One of the most important issues is determining a methodology for funding the purchase. There are several ways for a buyer to pay for their portion of the business: Cash up front (most will not have this), down payment with a promissory note, life insurance or bank notes and bonus investments. For HLB, the sale was financed in essence by the company. As the business valuation increased, the buy-in became harder for the younger generation so terms had to be changed. Every year HLB pays bonuses and many of the buyers use the bonus to buy shares. In some cases, the buyer has put up a down payment of 25% and in other cases only 10%. The notes are usually paid out over five to ten years.
Once the who, what, when, and why have been established, it is important to work with a good team of advisors and the attorney mentioned PSMJ, Zweig Group or the Pompeo Group since they have a strategic alliance with Tounge Associates. As the process begins to formalize there are three areas of focus: communications, continue mentoring and managing emotions.
INTERNAL AND EXTERNAL COMMUNICATIONS.
Create a presentation for internal candidates to include the value proposition, the proposal, and the risk and rewards. With a M&A deal, it is critical to communicate with internal staff explaining the benefits and the plan for integration. Expect some distrust and questions which need to be worked through.
This is the most important part. Identifying, training, and building trust is critical. Convey the importance of responsibilities and risk, while highlighting the rewards. Include financial literacy training and teaching to manage people beyond design. With the Covid-19 crisis, now is a great time to teach about the cyclical nature of downturns. Instead of fearing them, they should not only anticipate them but also create future profit-sharing techniques and rainyday funds for the downturns.
Be prepared for emotional high and low moments and get perspectives from outside experts. It is a little more complicated than a marriage. There is no them; the new mindset is we. Consider what is best for the company as well as all owners. Emotional intelligence can be exhausting but deeply fulfilling. Be prepared that the deal may not work out and that is OK. In addition to an M&A attorney and an accountant, the attorney recommended that the services of a good therapist may also be valuable.
This article originally appeared in the August 2020 issue of designing lighting.