Baby Boomer Exit
What will happen with the businesses grown by the baby boomer generation aged between 55 and 74?
According to a report by KPMG, 40% of small businesses in Australia (comparable to the US) are owned by baby boomers, which equates to around 420,000 businesses employing 1.4 million people annually. They contribute significantly to the Australian economy and form a vital element of the fabric of communities nationwide, and in many cases, currently support the livelihoods of their children who work in the business.
In the US, it is estimated that 8-25% of baby boomer-owned small businesses will sell, potentially leaving over 90% unsold and left to close their doors or sold for cents on the dollar. Many of these owners will rely on the proceeds of an anticipated sale to partially or fully fund their retirement. If the owners primarily rely on the proceeds of a business sale, it will create several issues and have them potentially reevaluate retirement altogether—a daunting prospect in any scenario. So where are the buyers?
Most businesses need to be more significant to be attractive to private equity buyers at any level. And most people don't have one, two or three million dollars to buy them. So, the small buying pool will cause fear among these business owners looking to exit into retirement. If the owners rely on the sale to fund their retirement, passing the business on to the next generation doesn't solve the problem. The business will then be left supporting more mouths to feed, and if it doesn't scale, it will ultimately leave the business vulnerable under the added financial demands.
If little planning is done to consider the transition into retirement and business sales, it will likely result in a compromised outcome. Fewer second-generation family members are interested in taking on the family business, which leaves boomers with one less succession option. Another solution is employee or management equity opportunities, which can be a positive solution by integrating existing internal knowledge into the ownership structure. It may mean a longer exit timeframe if the funding isn't readily available; however, it can give the owners a viable exit pathway in the trusted hands of existing employees. This method is becoming increasingly popular, and business owners must consider all options, including employee share plans.
Sadly, decades of work for hundreds of thousands of businesses will see unfortunate outcomes for their hard-working owners.
So why isn't there a sophisticated market for these types of businesses?
As mentioned above, the value of the businesses needs to be more significant for private equity (PE), and there are limited private cashed-up buyers. Private equity relies on scale and the ability to introduce efficiencies in businesses to drive growth and profitability to generate investor returns. Another consideration is the amount of resources a PE firm requires to invest in the company's management. Investing in larger businesses is worth more of their time, contributing resources to more sophisticated (in theory) businesses. A portfolio of 10 x 25 million dollar businesses valued at $250m per company requires less oversight and resources than 100 x 2.5 million dollar businesses.
What's a solution?
Smaller-cap PE firms acquire small businesses, incorporating existing management into the ownership group with a plan for management to increase equity over time.
The PE firm introduces consistent systems and processes across the portfolio to enable efficient management structures. The firm can be industry agnostic or specialise. However, the internal processes are intended to be consistent.
Sophisticated models like this are emerging in the US, and private investors are waking up to the opportunities the baby boomer business exit boom presents. Often well run with loyal customer bases and experienced employees where more value can be extracted and see these businesses thrive for years to come.
No matter the outcome of the baby boomer business transition, the fundamentals of running a sound business, good systems and processes, experienced staff, and loyal customers will remain. These will go a long way to making your business as attractive as possible to a limited buyer pool.
This only scratches the surface of the exit challenges and opportunities facing small businesses today and in the future, not only for the current baby boomer generation but the generations to follow.
How will you transition your business to the next generation after your time at the wheel ends? Family, employee or third-party sale succession. Consider thoughtfully, often incorporating independent advisors along the way.
AV
