Monitor-ing
Kautt’s itchy succession problem, meanwhile, had gotten worse when the Monitor Group became too big to sell internally. He had looked at having younger advisors come in for grooming, but they became “runaway brides,” he says. Tibergien told him that for a firm his size, the only thing was to align himself with another firm with an established management structure and the same business philosophy.
The devil, of course, is in the details, and in Kautt’s explication, that’s where a lot of deals fail.
“A lot of people want to maximize the value of the cash flow of their firm,” he says. “How do we do that? … It’s real simple. The maximum value you can extract is if you run it into the ground and die at the desk.” That’s because the owner often fritters away his future cash value to make a deal, he says.
“Let’s take a million dollar cash flow guy,” Kautt says. “He’s making $200,000 as a salary. And he takes out $800,000 in cash. So I don’t care how big his firm is, and I don’t care how fast he’s growing. He’s taking a million bucks in cash. So some guy comes up to him and says, ‘Your company is probably worth, on a price-to-earnings ratio, 5 times net earnings, it’s probably worth 5 million bucks in cash. So I’ll stroke you a check for $5 million today. Here you go. See you. But oops! Wait a minute, you don’t get 5 million bucks. Here’s what you really get. You know we have to have someone to take your place, Glenn, so that’s going to cost, oh, $200,000. So actually your net cash flow is only $800,000. So I’m not going to pay you $5 million, I’m going to pay you $4 million.’
“Oops! Wait a minute, we have to pay taxes on that in most states—federal and state taxes. Oh, let’s call it 20%. Let’s just be real simple. So 20% of $4 million is about $800,000. So let’s say you’re now down to $3.2 million and you may have some other expenses, lawyers and stuff like that. Let’s say you walk out the door with only $3 million bucks. Go invest it. Now what can we make on $3 million bucks prudently. Six percent? Five percent?
“So let’s do the math here. I was taking a million out, now I’m taking maybe at best $200,000 out. What person in their right mind would do that? Nobody. Unless they are forced to by health or some other family or technical reason. … Nobody in their right mind would give up 80% of their income. That is reality.”
But letting the firm die, on the other hand, was unethical and unfair to family, friends and clients. Also, it’s harder for someone in his 60s to sustain the growth, he says.
In the deal that emerged between Savant and Monitor, no one took money out, Kautt explains. The assets of both firms’ assets went into a shell company (technically, it wasn’t even a merger, note the lawyers, but a “combination.”) Nor was it an acquisition. Kautt says he took a pay cut in essence with all the expenses, sold no stock and got no cash back. The new calculus was this: a massive company with accelerating growth of 20% (outpacing his 16% or so annual growth previously) would put him back to where he was in five years or so.
“If I have massive growth for the combined firm and the longevity of the combined firm is bigger than my net present value, whoa! We’ll be bigger. It’ll be bigger than if I crashed it against the wall.” And the real growth rate actually turned out to be higher than the forecast growth rate. (He’s now back where he was, but in a much better position, he says.)
But there was that nagging point: What to do in seven or eight years when Muldowney and Kautt were in their 70s? To Muldowney, it was important to “protect the dividend,” Kautt says.
That’s where Brodeski and Kautt say the deal got novel—novel enough to be a model for others in the industry. The logical response, he says, was to treat the company as a public company in its organization inside a private wrapper, says Kautt. Public companies, after all, survive hundreds of years.
“So we have an active board of directors and everything works the same inside,” he explains. “We spent a lot of money on legal bills to set it up so the active board of managers, or directors in this case, hires and fires the CEO … approves the overall budget and sets and manages the dividend.”
That meant a permanent governance structure and a flexible management team and a growing handful of shareholders who represented the interests of the people who work at the firm, he says.
And most important, “Even if I step off the board, the firm will go on,” says Kautt, who is now Savant’s vice chairman. “And my dividend, such as it is, will be protected. And every one of the shareholders feels that way.”
Checking Egos At The Door
September 2, 2014
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