“Off the Wall” Podcast
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Best Practices for a Successful Business Exit | Kevin DeSanto
If you’re an entrepreneur who’s considering selling your business, tune in to gain valuable advice and insight into preparing for and going through the process.
In this episode of Off the Wall, hosts David Armstrong and Jessica Gibbs welcome Kevin DeSanto, the Co-Founder, Managing Director, and Investment Banker at KippsDeSanto & Co. Kevin has broad experience providing advisory services to companies going through mergers and acquisitions and working with business owners looking to sell their business.
By the end of this discussion, you’ll learn some of the biggest mistakes people make when selling a business and how to avoid them during your own business exit. Kevin breaks down the required planning and preparation along with the step-by-step process from attracting investors to completing a transaction. He also highlights the factors that influence the valuation of your business, your options for receiving the proceeds of the sale, and much more!
“When you’re thinking about going through a process of potentially selling your business or bringing an outside investor in, you have to think about your business as an actual full-scope lifecycle business, not just a capability or a solution. It’s a very different way of thinking. It’s a very different way of articulating your story.” – Kevin DeSanto
Episode Timeline/Key Highlights:
[01:00] Introducing Kevin DeSanto & The topics of today’s episode.
[02:40] Breaking down the process and timeline of a business sale transaction.
[11:09] The benefits of getting a business valuation and managing expectations before selling.
[14:54] Preparing for the emotional side of selling your business.
[17:03] Major mistakes entrepreneurs make when exiting their business.
[23:08] Options for receiving proceeds from a sale: Cash, earnouts, retained ownership, etc.
[35:21] The role of the M&A attorney and investment banker in a business sale transaction.
[39:04] Tips for maximizing the efficiency and reducing the cost of a business sale.
[40:58] Why the last few days of a transaction are the most intense.
[43:09] About KippsDeSanto & Co.
[46:27] Is the business sale process for large companies different for small businesses?
KippsDeSanto & Co.: http://bit.ly/3Ef78Tv
About Kevin DeSanto:
Kevin DeSanto is the Co-Founder, Managing Director, and Investment Banker at KippsDeSanto & Co., where he focuses on executing and providing advice on M&A and financing transactions for companies in Government Contracting, Aerospace & Defense, and Technology. Kevin leverages his unique combination of investment banking and entrepreneurial experience to help clients make informed decisions around selling a business. He leads teams that advise senior management, boards of directors, and shareholders. He helps companies assess value and make strategic decisions while quarterbacking them through the exciting yet cumbersome M&A process.
Connect with Kevin:
Connect with him on LinkedIn: https://www.linkedin.com/in/kevin-desanto
Read the Full Transcript:
Jessica Gibbs (Co-Host): Okay, here we are with Episode 35.
David B. Armstrong (Co-Host): Wow! I feel like we should throw a party.
Jessica Gibbs (Co-Host): I know! I’m excited about it!
David B. Armstrong (Co-Host): We’ll throw a party at 40.
Jessica Gibbs (Co-Host): Sure! But we’re back. We are talking about business exits, one of Monument Wealth’s favorite topics. We enjoy interacting and collaborating with business owners. And we have a fantastic guest today. His name is Kevin DeSanto. He is the founder and managing director of KippsDeSanto and Investment Bank focused on helping companies, technology space, aerospace, and defense sectors. He has broad experience providing advisory services to companies going through a merger or acquisition and primarily works with business owners looking to sell. This episode is certainly for you if that describes you now or in the future. He has seen a lot over the course of his career. And he is here to share some of the biggest mistakes and lessons learned when it comes to selling a business. So welcome to the podcast, Kevin.
Kevin DeSanto (Guest): Thanks for having me. I appreciate it!
David B. Armstrong (Co-Host): It is also worth mentioning that we started our businesses at the same time in 2008. As a matter of fact, I believe how we originally met was, within 12 months of each other starting, so I said, Hey, we’re entrepreneur buddies. We should meet each other.
Kevin DeSanto (Guest): We were good friends and had a crazy time with the late odds, global financial crisis, and everything else happening around us.
David B. Armstrong (Co-Host): That’s funny because when I instruct budding entrepreneurs, I say, Listen, people like Kevin, and I nailed it. We started in 2007 or 2008 just when everything was going great. It was fantastic. What a heyday!
Kevin DeSanto (Guest): Surviving the first few years in general is tough, but if you can deal with that right along with it, it’s even better.
David B. Armstrong (Co-Host): Yes, exactly! It was also fantastic to have my personal credit score not affected, which was great for me as well. But thanks for coming in, and I really appreciate you doing this for me. In addition, we’re doing this live in our podcast studio, which means we’ll be doing more of these in the future. So Kevin, walk us through what you would say is the perfect process and timeline for a business sale transaction. In case everything goes smoothly, how do the steps look, and what does the business owner do from start to finish?
Kevin DeSanto (Guest): I would take that and break it into two primary pieces, and they’re both big and a bit overwhelming. As a business owner, it begins with the months or years leading up to deciding you want to sell, merge or raise outside capital for your business. When I think about this, there are a lot of very distinct elements to it, but a lot of it is about preparation. Whenever we approach a company to build relationships and understand its goals and objectives moving forward, we’re trying to get them to think about value. And a lot of owners, businesses, and management teams don’t think about value. They think about operations. Each day, they think about what they have to do to get through the week, month, or year. How do you plan? What do you do on the HR front? How do you deal with your customers and your product?
In the end, businesses become absorbed in the day-to-day operations of their business, so we take it away and pull it back up by getting the management team, shareholders, or board of directors to look at their business from a shareholder or value perspective. To help people think about what they are trying to accomplish, we spend a lot of time and have lots of conversations even before we start that process. Do they want to run a business for 20 years that have great cash flow and great opportunities for their team, or are they looking to run and build a business for five or seven years and eventually find liquidity?
It’s important to have those conversations early on so we can figure out the direction to take and if a process makes sense. I characterize it that way because the core of your question is something that takes six to nine months to accomplish and is likely to be one of the most challenging business events in one’s life. It’s a transaction by nature, but if you are a business owner, it’s one of the most monumental events of your life. So, six to nine months can be much more effective if you’ve done a lot of planning and research. It’s a series of both emotional and physical experiences that we go through with companies over the course of six to nine months. I often talk about this with our clients since this is often their fourth job. Besides running their businesses, they have families, and interests outside of their businesses, and then they have to do this. It takes a lot. You have to be ready for that. Having the right team involved, being prepared, and deciding to embark on that process for the right reasons are all necessary. We’ll talk a lot about objectives and priorities and what you want to accomplish. Was this an emotional decision because you’ve had a tough year, or is this something that you’ve been planning for the last four or five years?
In other words, good planning and preparation lead to a more successful process than if you don’t plan ahead. It’s about having the right story, having the right positioning, and having the right message that’s going to resonate with the broadest group of buyers or investors once you’ve gotten into the process. In many cases, companies do not have a story to tell. When you are selling a product or service or engaging with a client or customer, you consider your business. If you are considering selling your business or bringing in an outside investor, you need to think of it as a full-scale lifecycle business, not just as a capability or a solution. It’s a very different way of thinking. It’s a very different way of articulating your story. Most of our clients have never done this before because they don’t think about shareholders or value when they’re out there. So we work hard upfront to get the right positioning.
David B. Armstrong (Co-Host): I think you’re trying to get them to think in terms of how your company has a target market for its goods and services, but now you have a second target market, which is the acquirer or counterparty. That’s a totally different marketing messaging perspective I never considered before.
Kevin DeSanto (Guest): Yeah, it’s a totally different way of looking at something, so we get people focusing on it. So that potential buyers and investors can have a good idea of what we expect in the future, we build sophisticated financial forecasts that are bottom-up and line-by-line. And that’s really how most people value a business. It’s based on what the future state will be. And most of the companies that we work with across aerospace, defense, government, and technology, end up being businesses that are acquired or invested in because they are major growth companies. Ultimately, that’s what we’re trying to position or what we’re trying to convey with that financial forecast. Typically, it takes us a month or two to establish all that, sometimes a little bit longer on the front end.
It takes about two or three months to find buyers and investors who are interested in this kind of business, get the information in their hands, ask them how much they think the business is worth, and then take a step back with our clients and tell them what we discussed earlier about priorities and objectives. Are these the things you were thinking? Are these the things you hoped for? Does this make sense for you considering how much time, effort, and energy you’ve invested in the business to get to this point? If one or two or three are worthwhile, then we typically run the back third of the process through due diligence, negotiating legal agreements, and organizing around a potential transaction, the closing. Each of those is pretty distinct.
It takes a lot of labor and restructuring your business, as I indicated earlier, but there isn’t much pressure during the middle stages. But your emotions can get in the way. It’s almost like an eighth-grade dance where you’re not sure whether anyone will ask you to dance or whether it’ll work out. And what if nobody shows up or invites you? What if nobody likes our business there? So there are lots of anxieties that tend to pop up in that time. In the back third, there is a complex framework of legal agreements and business deals that shape the deal – not just the price. That can seem overwhelming because you haven’t considered it before.
Oh, I get paid, but I also have to indemnify or cover any risk I created before selling the business, so it might not just be a simple purchase price, but a purchase price less something. I didn’t think about that. That wasn’t part of my calculus. That’s why they should probably be talking to you all along the way to understand all net proceeds and what they mean. How does that affect you? Because these are complex concepts, there’s a lot at the tail end. Tax always jumps out at me. Most people just get their taxes done on an annual basis. Although you don’t think too much about it, it’s amazing how complex taxes are when you go through these transactions. As you’re trying to sell your business, seek an investor, talk to your employees, and think about the impact on your customers, it can be pretty daunting to learn that on the fly. And it ends up being an entirely different and unique experience on that back third. I’d say not generally, but some of our clients will get there, and say, “That was fun. I did learn a lot.” But it’s usually in the after-action report, not during that process.
Jessica Gibbs (Co-Host): Yeah. I mean, I am listening to you, and you brought up that they should be talking to Monument Wealth. When I worked as a financial planner for one client, I helped them do their planning in advance, model their scenario, and consider what would happen if they sold their business for X dollars, Y dollars, or Z dollars, so that when an offer came on the table, they didn’t have to wonder, “Will this be enough to do everything I want to?” Is this the right offer? To use your analogy is this the right date to take to the dance so that they could feel confident going through that process? Okay, there’s an offer on the table, it’s this much, let’s accept because I know that that’s going to help me do everything else that I want. The interesting thing about that is that I think valuation is something maybe where you could tell me that when it comes to valuation, you might be able to have a valuation done and identify some things so that when you go back to the market, you can clean up your business, clean up your books, and prove something. With the sale process that you’re describing, it sounds like once you decide to sell, you’re committed.
Kevin DeSanto (Guest): That would be our advice—do this only once, and that’s it. Hey, I’ve been through this, I’ve spoken to a lot of people, and it’s not working out—that is the stigma. Consider how much time, effort, money, and resources are used in that process. And it’s difficult for them to commit that amount of time, energy, effort, and money into the deal if they don’t think they’ll end up with a concluded transaction. And so if something hasn’t gone right in a previous process, it’s a red flag. Because of this, we make an effort to frame our decisions in terms of the business life cycle. When is the company performing at its highest level, or very nearly at its highest level, under your direction or ownership? And if we can identify that upward trend, we can usually put together a deal that is at least as valuable as the business itself. Now, if we told you we could get you $10 and that’s what we did, and you said, “Well, I was looking for $20,” that is when the dialogue you are referring to becomes really crucial.
David B. Armstrong (Co-Host): Or they can say, “My friend received $15, why shouldn’t I?”
Kevin DeSanto (Guest): That’s right! And just having good expectations or healthy expectations are a big part of being successful. And as I made earlier, breaking it up into two pieces. Before you get into that process, there are a lot of planning and discussions about setting levels, providing healthy expectations, about making sure people are aware of what the ultimate value of the business will be or what the market will typically yield in that situation. And that’s hard for entrepreneurs to do. Being an entrepreneur means accepting that there’s an ultimate value to your business, and it’s probably never what you think it should be because you live and breathe it every day. But if the market comes back and dictates that the value is within a certain range, then that’s the reality.
We have witnessed situations where people have said, “You know what? It simply isn’t enough. I had assumed it was $20, even though you had told me it was only $10, but in reality, after I’ve paid all of the fees for my advisers, distributed some to my management staff, and paid taxes on the remaining money, I only get $5. Simply put, I didn’t think like that. That wasn’t the case. Again, having many of these chats beforehand is beneficial since you can bring up many details, nuances, and other issues that people don’t frequently consider when going through this.
David B. Armstrong (Co-Host): And I appreciate the subliminal messaging back a few minutes ago when you called it a monumental event. It was fantastic. Nevertheless, I can imagine that people will look at this and say that, after everything’s paid, it doesn’t really change their lives, and that’s probably one of those emotional things.
Kevin DeSanto (Guest): Even if it does change your life, maybe it isn’t enough, or maybe it isn’t what you expected.
David B. Armstrong (Co-Host): I’m in my fifties: what am I going to do for the rest of my life? It’s all about that!
Kevin DeSanto (Guest): That’s a huge one! And many of the discussions I attempt to have with people in the early stages before we begin the process begins with, Well, why? What are your plans? Where would you like to go? It isn’t always the end of the road. It can be, and that can be a choice but particularly in today’s market when private equity investors play such a significant role in the setting in which we interact with potential buyers and investors, you might discover that this is merely an inflection point and not the final destination. And I believe that’s something that our clients have discovered to be exciting: maybe I won’t need to plan out exactly what I’m going to do in my late 50s after I get through this because I can go for the next five years and be a part of this business in a way that’s special and different from what I have been. That’s one of the things that we’ve seen a lot of our clients get comfortable and excited about.
Oh, and I simply want to finish. That is certainly a place where one might live, possibly purchase a farm, unwind, go surfing in Costa Rica or do anything. But I’m concerned about it. I wonder whether this is the correct thing to do given that life is long. You want to be engaging and relevant. And when you have a business, it tends to be there every waking moment, and you don’t have to try, but to then not have it and go and try to be relevant or get engaged or try to build out your ecosystem can be daunting, especially if you’ve been running that business for 10, 20, or 30 years through most of your life can be challenging. Your identity is comprised of your connections. And before we start the process, we ask people to consider that. Though none of us have any training in psychology, psychiatry, or anything similar, there are moments when it feels required.
David B. Armstrong (Co-Host): I’ve got some on-the-job training but I don’t know much about it.
Kevin DeSanto (Guest): Or at least know the right questions to ask, right? I don’t know if I give or could give great advice on that firm.
Jessica Gibbs (Co-Host): Every little bit helps. So, you mentioned red flags earlier. Can you talk through what are some of the biggest mistakes you’ve seen people make who are selling or looking to sell their business?
Kevin DeSanto (Guest): Here are a few key points. Working with an advisor like us requires open, transparent discussions about the history and future of the business. Being surprised positively or negatively typically impacts the success or probability of completing a transaction. If, for instance, you are about to win a hundred-million-dollar contract, we probably do not want to start trying to find a buyer or investor for your business right away. As an example, if the timing does not work out, you won’t be satisfied with the outcome due to the expectation of that contract. On the negative or risky side of things, many things take place internally throughout a business. Contracts cover the legal, human resources, and client-customer aspects of a business. Companies are living, breathing things that are very challenging to operate and manage, very challenging to keep up with, and frequently very challenging to document.
We see surprises that have an impact on deals all the time. We can solve them many times, but it takes additional time to solve those problems. And time is the enemy of all deals. Moving quickly, keeping it within that 6–9-month window is the cliché. However, there are some things we have no control over. When a customer is unhappy, and it’s a material part of your business, and we don’t find that out until the buyer talks to that customer on the last day of due diligence, we are likely to have wasted six to nine months trying to get the deal done. It’s important that we know what’s going on, why it’s going on, what the fix might be, and what opportunities can arise from it. Therefore, it’s not just one thing but rather a series of surprises or disclosures that occur over time that people say they should have known. Now I’m worried that there might be more.
Since I have my antennas up, I am concerned that the culture of the organization is closed door, not transparent, and is avoiding dealing with things at the moment. And that’s probably the biggest problem we see in building up that reputation in front of the buyer or the investor. It is hard for people to get comfortable doing a deal in that setting. Therefore, I would advise just being completely honest and transparent from the start. Nearly all of them are solvable, either by timing the transaction or by working as we complete it. Therefore, we put a lot of time and energy into the first 6–9 months of the process to conduct our clients’ due diligence.
And a lot of people will put off creating a data room, which is the DNA of the business and documentation. They’ll wait to do that until they have a buyer. We do it first in order to acquire a sense of what is available. We want your legal counsel to learn about the options available. We want to be aware of potential problems upstream so we can either address them or disclose them. Just returning to some of the tax-related topics I discussed previously would be a fantastic example. Incorporating your company, electing a certain entity type, and filing taxes, making dividends or distributions to your shareholders, unit holders, or members, most companies don’t always get that right. And while it’s not irreversible or unrecoverable, it frequently takes time to file the proper documentation, receives the proper responses, and move into a situation where the problem has been fixed. Therefore, they are the kinds of issues that we are watching out for. That’s why we are on the lookout for these types of things so we can fix them before we see anyone.
David B. Armstrong (Co-Host): That’s great! I love the part about disclosing it upfront because you didn’t graduate from college and start KippsDeSanto. Despite the fact that you’ve been in business for 16 years, there are many years before that. Moreover, you and all the people involved in a deal, whether they’re attorneys or counterparties, are very sophisticated. If something is being swept under the bed, it’s coming out.
Kevin DeSanto (Guest): Suppose that when we open a data room for a client’s prospective buyer, they have a law firm, which will have 10, 12, or 15 people working there. All of them are subject matter experts in their various fields, from benefits to contracts to human resources in general. Additionally, you’ll have consultants who will guide buyers through the process. It would be difficult for something to slip through the cracks if the buyer had all of their subject matter experts in there. We’d have 50, 60, and 70 people doing due diligence on a client. And for anything to be overlooked, it’s hard to imagine. And then there are different interpretations of things. There are different interpretations of the issues that come up. In other words, we may see something one way and be perfectly right, while a buyer might see it another way and be perfectly right, and then we have to resolve those differences. We get caught in the buyer’s view if we don’t know about it on the front end, and it’s difficult to help them manage from that point of view. As a result, if we examine every document the company has ever produced during a 60-day due diligence process with 50, 60, and 70 people involved, it’s hard to imagine it won’t come out.
Jessica Gibbs (Co-Host): Okay, so let’s say you successfully make your way through due diligence. You cover that hurdle and now you are at the stage where you’re selling your business and you have an offer on the table. Typically, from what I’ve seen, there can be a few different ways that a business owner could receive proceeds from a sale. You could be looking at, I’m just going to pay you straight cash, the entire amount up front, or you could be looking at a holdback, an earnout, or even a deferred payment like a promissory note. So can you start by explaining what those different options mean?
Kevin DeSanto (Guest): Transaction structures are complex. Having said that, I would think of the progression as cash is king and that’s usually where most people start when they enter this field. My top priority is to get an all-cash purchase price at the closing of the transaction. That’s the holy grail.
David B. Armstrong (Co-Host): I had six figures of student loan debt for graduate school to learn that cash is king. Monument Wealth Management saved everyone a hundred grand. Thank you!
Kevin DeSanto (Guest): There you go. Exactly! And it is a very specific experience after that. Therefore, the way that each company and each customer come together to discuss the various levels of how the purchase price is paid for or received is highly particular to each circumstance. When conducting transactions on the internet, earnouts are a common topic of conversation. I’d say that the term “earnout” is used very consistently throughout transactions. Usually, it’s done since that’s the style and method a buyer wants to employ when purchasing a company to minimize risk after the purchase.
Typically, you’ll witness the emergence of a business with some risk or future milestones that are unpredictable. And in that sense, an earnout can be utilized to manage the risks associated with the company’s performance. There is also the chance that they will achieve something far larger than where they are now, according to the leadership team and the shareholders. And if they reach milestones that go above and beyond where they are now, they would like to receive more proceeds. Earnouts are, therefore, a tricky topic because they might be presented to you from a variety of angles or with a variety of justifications. And we make an effort to handle that by using as many transaction structures as we can.
David B. Armstrong (Co-Host): You try to work the earnout out of it?
Kevin DeSanto (Guest): To not have it! Because of the complexity of running a business post-transaction and achieving that. If you give up control, you ultimately impact whether or not you can drive success there, and so that’s just a fundamental change that occurs when you sell the company. I don’t know what empirical studies would say about how many are achieved or not. The trust and faith that everything will be organized on the backend so you can achieve the financial performance that’s going to earn you those earnings is a bit of a leap of faith. But it can be done, and it can be very successful. The company can do exceptionally well. However, if we can work that out, we’d appreciate it. What follows is an example of a private equity transaction. What I would refer to as seller financing may take the shape of a seller note if, using the $10 example from earlier, the buyer brought $7.50 to the table and requested that the seller contribute $2.50 to complete the deal.
Consider it as effectively being a loan into the transaction that may be interest-bearing. It might be distributed over several years. It can resemble what you could receive in a bank loan or a promissory note quite closely. Another option is retained ownership. This is frequently referred to as rollover equity or reinvestment in the company. As a result, in the $10 example, you might receive $7.50 and deposit it in the bank. From there, depending on the fees and taxes, who knows what it gets to? And then you still own $2.50 worth of equity in the business on a go-forward basis. A very common model for private equity groups is to use this method since it allows them to not come up with 100 percent of the financing. It also keeps the selling leadership team or ownership team involved.
Those who sold then get the proverbial “second bite at the apple.” So, if you just consider this over the long term, your $7.50 goes into the bank, you handle it as you normally would here at Monument, and then the $2.50 might turn into $5, $7.50, or $10 on its own if the company is established and grows as the private equity group anticipates. In that case, even though you sold the business for 10 million in the first place, you might have ended up with $17.50 on the backend.
Due to the fact that private equity has increasingly played a significant role in M&A across all markets and sectors, clients now frequently have this chance or choice. As a result, you begin by treating cash as king before realizing that there may be more methods to monetize the asset or that you might want to engage with someone who is quite knowledgeable in seeking to create significant value. And a lot of that learning happens as part of the process for our clients.
David B. Armstrong (Co-Host): They are analyzing and evaluating the risk of that $2.50 cause that $2.50 could go to $0.
Kevin DeSanto (Guest): Absolutely!
Jessica Gibbs (Co-Host): Right. How often does the non-upfront cash option work out? They’ll holdout before earning out the deferred payment? Does it ever happen that they don’t work out as planned for the seller?
Kevin DeSanto (Guest): There are no good reasons for it; it just depends on how well the company performs. There are so many contributing aspects, and I believe people want to blame the investor or the buyer, but who can tell what has happened along the way? I’d say that overall, we think we do a great job of putting a client in a position to obtain that earnout. We put a lot of effort into structuring the purchase agreement, but occasionally contracts are lost or not won in the way that was anticipated by the leadership team. Maybe the market changed, and the budget dynamics changed on you, and you weren’t expecting that.
Having confidence in our forecast model is a big part of why we go through the preparation on the front end because we want to set the right targets. I think it’s harder to say whether it might be 50% or 75% It almost comes down to how it’s structured. Sometimes, contingent payments are based on a single event, and if you don’t win that one event, you might not care. If you win, it might be beneficial. Therefore, it’s not always bad; it may just be that it’s your general assumption and you had the chance to gain something more significant there.
David B. Armstrong (Co-Host): How frequently does a buyer approach a seller and say, “You can take $7.50, or you can have $7.50 plus $2.50, your choice?” Does it ever come to pass in that way?
Kevin DeSanto (Guest): Yes, it is possible. I believe that part of it might be, and if I were the buyer, in that case, I might make you an offer of $9 all cash at close or a $10 split. i.e. $7.50, $2.50. Because I’m trying to think about how does the financing work? What is the cost of capital in that situation? If the leadership team is well funded, how motivated are they? Because I won’t be receiving seller finance or participation on a moving-forward basis, I may end up paying less. In any case, I don’t think you would provide $10, since most people, to return to our previous point, would probably think of it in terms of “cash is King.”
David B. Armstrong (Co-Host): With my ignorance of deal transaction size as a constant, how often do you encounter this choice? Forget the dollar.
Kevin DeSanto (Guest): That happens all the time!
David B. Armstrong (Co-Host): Oh really, all the time. Wow!
Kevin DeSanto (Guest): “Okay, I want to sell, I want to be out, I want to go.” This is part of the exciting adventure we go through with a client. Then you look at this and think, “Wow, this is awesome. I can be the chairman of the business. I could be the chief strategy officer of the business with 75% liquidity and have the chance to do something big, participate in more M&A deals, work with sophisticated partners, learn what it’s like to be on a board, and travel the country or the world to be a part of this growing, expanding business.” And some people go to that stage, and say, “No way! That’s scary. I don’t want that. I’m not at a point in my life where I want that or my family wouldn’t be supportive of that.”
People get there in different ways, but almost always we manage to provide our clients with various options. Our job as investment bankers is to present you with options and allow you to choose a comfortable setting where there is as much transparency or visibility as possible. That’s why we think milestones are important, as well as all of the options being presented at the same time. So you have that complete site picture in making a decision. It would be understandable if we gave you the $2.50, $7.50 option today, then gave you the nine options in a week, and then came up with another one in a week after that, and you would say, “Now that I know all three, I probably want the first one, and we turned down the first one since we didn’t know the other two were coming.”
David B. Armstrong (Co-Host): That’s how we’ve interacted. We assist clients in determining whether they can achieve all of the goals and objectives for the post-tax money they will receive without the earnout or whether they must accept the earnout to achieve those goals and objectives. This is because our observation of that side of the deal is similar to yours: when we have more runways to work with a client on this, we help clients evaluate this. To help customers decide which offer to accept or at the very least frame the decision in terms of actual analysis of their aims and objectives, we have been framing conversations with them before a transaction. We like to say that what’s the money for? And if the money that comes out of it is the $9 walk away number that you mentioned, you might respond, “Well, if you aim to sell the business and retire, why would you take the earnout and work for three more years if the $9 covers all you ever want to do with the money?” Anyway, I just find it kind of fascinating how everything circles back.
Kevin DeSanto (Guest): I understand, and then you usually aim for more money no matter what. So, regardless of what we stated, we keep going all the way with those at bats. When you get there, you just never feel like it’s enough and you never want to give up, I suppose that’s just human nature.
David B. Armstrong (Co-Host): Although we have seen people walk away from it. We’ve seen some.
Jessica Gibbs (Co-Host): That’s where the planning feels fine. If you’re like, Okay, I’m willing to gamble with the earnout, maybe that’ll work. My planning work has shown me that even if the earnout goes into crap, and I only get $7.50, I’m fine, and that’s gravy, but my kids will still have a hard time inheriting this crazy wealth. And that’s a whole other topic to discuss. From my perspective, there has been a point where people sell their businesses for so much money, and then they’re in a whole different wave of the problem of not knowing what to do next. I don’t want to spoil my kids. Besides, I don’t want them to feel like they don’t need to work, or how about discussions and challenges surrounding very serious charitable giving, regardless of the dollar amount?
David B. Armstrong (Co-Host): Because we’ve looked at clients and asked, Do you understand that, given your age and life expectancy and your kids’ age and life expectancy, if you lived until 92 or something like that, if you just assumed a 6% growth rate every year, your kids will be leaving with a nine-figure net worth? They don’t even see that sometimes. However, I wanted to ask a question about the different team members you mentioned before. What role does the M&A attorney play in the transaction, and how do they work with the investment banker? Because if you think about it as a triangle, they are part of this deal, maybe not initially, but they always come into play.
Kevin DeSanto (Guest): Absolutely! I see legal counsel or lawyers as super important partners in all of this because their job is to minimize the risks associated with that value or the proceeds you receive. And so that’s as important as getting the money in my mind. I think of them as 50/50. Both should be at the top of the list. And having an experienced lawyer who understands transaction structures and knows how to work within that type of agreement is important. We work with many great people in that world, especially in the DC area, who have a lot of transaction experience, which is just night and day for those who haven’t.
The deal team for us is thinking of it in five pieces. First and foremost, it’s the company, and having the right leadership team or transaction team is very important. The business doesn’t need 20 people, but three, four, or five people who can run it on a day-to-day basis and turn it around. You want a group of people that are incentivized and excited about going through this even though it may be daunting, and inevitable. You just want that team internally so that you can get the proper preparation done. Secondly, you must bring in your wealth management, family planning, and estate planning early in the process. When you get into a transaction, it’s typically hiring the investment banker, the KippsDeSanto’s of the world, to oversee that process, which is what you mentioned earlier about having those healthy discussions about net proceeds, expectations, timing, and what we’re trying to accomplish.
We would bring in legal counsel immediately. Oftentimes, if they’re not there before we get there, they’re coming in right after us because we want to be partnered with them from the beginning. I mentioned data rooms and having them review your documents and your materials. We want good corporate hygiene when we start the process. So we bring legal counsel for those purposes. They will be there with us the entire way. We discussed earlier that the amount of work that they do will ebb and flow and large flow significantly in the back one-third of the two months during which you are dealing with purchase agreements, non-compete agreements, employment agreements, disclosure schedules, warranty insurance, etc. That’s really where the legal council is the quarterback of a major part of the process. Therefore, we view them as 50/50 partners in getting a deal done.
The lawyer doesn’t do what the investment banker does and vice versa. But we can contribute and partner with each other to make sure to achieve the best solution. And then the fifth piece of it is accounting. When you have an accounting firm at your fingertips that have done your tax work and is familiar with your financial statements and system, it’s very helpful to have an external resource there to assist with some of those complex tax structures. It is also important to be involved in some of the other negotiations that go on outside of just the purchase price, the balance sheet of the company, and what is conveyed at closing. Therefore, having a good accountant on your hip or with the deal team can be really significant as well.
David B. Armstrong (Co-Host): Makes sense! When you start talking about attorneys, one of the most challenging things is the bill because it’s hourly, not to mention the accountant. Is there anything you can suggest for maximizing efficiency and doing it cost-effectively, Anything you can pass along to somebody and tell them, Hey, here are some things to keep in mind to not let your bills run away? Do this first, and be ready to go with the stuff.
Kevin DeSanto (Guest): Proactively managing those relationships is the best path. Having the data room ready when they are hired is a great way to minimize the amount of time, effort, and energy. Producing disclosure schedules is a big part of the purchase agreement. It’s a long way of documenting what’s in the data room, or what the company looks like. Our clients can do a lot of that work efficiently and effectively on their own if they’re willing to, and you can manage down the cost or the burden that you put on the lawyers in that situation. To be willing to participate in the negotiation of the transaction agreement and to have a business mindset that says, “I care about this, I don’t care about that, I want this and I don’t want that,” and to listen, respond, and provide input to legal counsel can be helpful.
People fear that it’s just an hourly running bill, and we don’t work with people who would treat it that way. The ultimate value of the lawyer, whatever it is, is worth it. There’s no doubt about it. But you can maintain some control over that if you’re willing to be actively engaged in that part of the process. And we try to do that as well. We try to help with it but we’re ultimately not the decision-maker. As a result, we can say that you needn’t worry about this or that, but if we were in your shoes, we would do the same thing. Therefore, being decisive, and engaged can be a great way to manage any exposure that you might have on that side.
David B. Armstrong (Co-Host): Everybody loves a good story as we get towards the climax. Do you have a great story to share? You can either share a great success story or tell us about the nightmare you dealt with a long time ago. Let’s wrap up with a story.
Kevin DeSanto (Guest): I don’t know if I have a good singular story that I’d be willing to leave out here on the air, but I characterize it like your golf game.
David B. Armstrong (Co-Host): My golf is horrible, so I know where you’re going. It’s not right.
Kevin DeSanto (Guest): It does not matter how you got on the green as long as you got there in regulation.
David B. Armstrong (Co-Host): There you go. No pictures on the scorecard. That’s Right!
Kevin DeSanto (Guest): Exactly! Most of the stories that we have in the trenches and most of the things that we’re experiencing are like, “You can’t believe that somebody said something. You can’t believe the decision they made. You can’t believe how long it’s taking. You can’t believe how complex it’s been.” Deals are so unique, and it’s such a journey with many ups and downs that it’s hard to pinpoint just what you want. It’s just every day for us, what’s coming up? What’s somebody going to do? How are they going to do it? There are a lot of stories we hear offline over at cocktail, maybe Two, about the last miles, about a buyer going haywire, or about a client saying they no longer want to do it despite everything done.
And you think, “How is it even possible?” How on earth did you waste this much time? Once there, you realize that you are powerless to communicate the situation to the people. The best part of our job is that every time we finish a transaction, we get to work with a fresh group of people. As you move on to the next, you develop wonderful friendships and partnerships. But after that, when you say, “That was fun, let’s move on to the next one,” it seems a little bit like a cold type of break. With your cash and your new partner, owner, or whomever else it may be, you two will depart and carry out your respective tasks. But the root of the problem is simply humans. The good and the challenges that we see along the way are as well.
David B. Armstrong (Co-Host): It’s a podcast so nobody can see this except the people sitting here in the room, but you have been smiling the whole time while telling me that story. And that tells me, Kevin DeSanto is one of the not miserable investment bankers out there in the entire world. You’re having a great time, you like what you do for a living, or you wouldn’t be sitting here smiling as you’re telling all those stories. As we conclude, as I listen to you tell the stories from the past 40 minutes, what resonates with me is that you love what you do, and a large part of that stems from KippsDeSanto. So, tell people a little bit more about KippsDeSanto and why you have this big smile on your face 17 years later still.
Kevin DeSanto (Guest): Sure, great partners are number one for us, and we started the business in 2007 and many of us had worked together long before then. And I’ve spent my entire professional career working side by side with Bob Kipps, and it’s been an awesome partnership. He’s been a great partner and part of the team that we’ve built together. Our co-founders, Mark Marlin and John M are just amazing people. I always say our team just gets up and goes to work. We love working with these companies. We love going through the ups and downs and having that experience. And so we’ve got a team of about 50 people in Tyson’s Corner that all get up and do aerospace, defense, government technology, sell-side M&A transactions.
A lot of it is founder-owned businesses or private equity firms that have built great businesses that will have major liquidity opportunities and life-changing events for their partnerships and investors since it’s in the lower middle market, so think sub 500 million of enterprise value or purchase price. We’re dealing with meaningful transactions with people. It’s a little bit different from that mega-deal, multi-billion dollar publicly traded company with thousands of shareholders. We’re typically influencing somebody’s life or several people’s lives in super beneficial ways. Our organization’s culture is to take pride in that, to be engaged in that, and to have fun doing a hard job. If you don’t enjoy it or don’t get some satisfaction from the things that happen every day, I don’t know how you would do it. You cannot win everything. You can’t close a deal every day. You can only do it after six to nine months of investment, and you’re at risk that entire time and you have no idea where it will go or how it will come out.
And so I think for us, our culture is also about preparation. Over the past 15 years, I believe we have been able to have some semblance of success because of the way I described it earlier, to engage in conversations with people to help them think through things, to be there when they don’t expect it, or to be a sounding board for folks when they are trying to decide how to spend their resources. And to do that in a completely detached, unengaged, or no economic relationship with a company for 5, 10, or 15 years. Those are our big commitments to us. We don’t always even get selected at the end, but it’s okay. You just need to try to be a good partner in the ecosystem and then good things tend to happen. And so we’ve been able to build the firm on that, “Invest a lot, learn a lot.” Spending time with folks is self-serving because we are getting better, we are learning more, and we are seeing more as a result.
David B. Armstrong (Co-Host): It’s very similar to the same thing. “You can’t win them all. You learn along the way.” We talked about the process, and then you just mentioned your niche, and we have a niche too. Do you think the process that you laid out changes materially based on who is involved or what you just said to someone who is listening to this and their business is a little smaller than yours? Could they take this to mean that the process is probably going to be similar, even though my business is smaller than their niche? The things that you just talked about for the past 45 minutes: are they all applicable to a smaller size deal?
Kevin DeSanto (Guest): It applies to any size deal and any situation. It still makes sense to structure it this way even if you only have one buyer in mind. You still want to make sure to be prepared. The most important thing is to make sure you get the offer out of them and then execute it.
For smaller deals, maybe it won’t take nine months. Maybe it’ll take three months or four months, or maybe it won’t take a straight line. It might start here, take a break, then go a little further. But it generally will go through those phases. Even if it’s suggested to you that you don’t have to think about it in that way, it’s usually in your best interest to do so. If you start negotiating with a buyer before you’ve built your forecast or thought about what your value proposition is, they won’t get it right. They will never give you full value because they won’t know what it is. And so it’s our job as a seller to make sure that you convey.
David B. Armstrong (Co-Host): That’s great. Thank you so much for coming in and spending time with us. I truly appreciate this. I will wrap up this on one note because you did talk about Bob Kips before. His golf game is not getting any better either.
Kevin DeSanto (Guest): But he does play a lot more than I do.
David B. Armstrong (Co-Host): But thanks a lot for coming. It’s fun to do this. I’m glad we met 16 years ago and we’ve stayed in touch and shared stories. But this is great because you’re sharing your experiences with people who can take something away from it, and I think it’s great.
Jessica Gibbs (Co-Host): Yeah. Thank you!
Kevin DeSanto (Guest): Thanks for having me.
David B. Armstrong (Co-Host): Thanks, Kevin!
About “Off the Wall”
Off the Wall is a podcast aimed at helping you answer the questions: What is the point of my wealth, and what actions can I take to accomplish that purpose? Your answers to those questions will be different from everyone else’s. As Wealth Managers, we’re skilled at helping our clients think through these challenging, but important, questions.
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