Changes In Company Ownership, Leadership, Or Structure In Middle Market Companies
Executive Summary
In the middle market, major transitions—such as a change in CEO,
the acquisition of another business, the sale of the company,
or some other event that significantly affects the leadership,
financing, and future of an organization—are extremely common.
More than three-quarters (77%) of middle market businesses
have either experienced such a transition in the past five years or
expect one in the next five years, while 54% say they fall into both
categories. In other words, more than half of U.S. middle market
companies can expect to face two major transitions in a decade.
That number may climb even higher in the near term, because of
circumstances that create a “perfect storm” of business transition.
First, baby boomers are at prime retirement age. Given that
an estimated 40% of middle market companies are owned by
boomers (and many others are led by them), there is a great deal
of transition just waiting to happen.
Second, an enormous amount of capital is looking for a home—
“dry powder” waiting to be invested. Prequin, a company that
specializes in collecting data for alternative-asset investors, says
private equity firms worldwide are sitting on more than $2.1
trillion in funds ready to be put to work. Third, low interest rates
mean debt capital is cheap and easy to find—another incentive
for acquirers. Fourth, owners, for their part, may be lured to sell
thanks to near record-high valuations and prices. According to
PitchBook, the median private equity deal closed for a price
11.1 times EBITDA last year—the highest multiple in more than a
decade. For many owners, who still have vivid recollections of
the last recession and valid concerns about the next one, there’s
much more willingness to listen to solicitations that they once
might have ignored. Those solicitations are literally pouring in:
Executives tell us they get, on average, one to two inquires a
month regarding the sale of their business.
Top prices and high rates of activity are good for sellers, and
most executives say the transitions they have experienced have
had positive results. Still, nearly half of all firms experience
both positive and negative outcomes. Revenue growth and
efficiencies are high on the plus side, but disruption of culture
and employee or customer turnover can significantly deflate
the results. Transitions not only affect the bottom line, they
change things dramatically for the owners personally as well as
for the employees who have helped them build their companies.
Both the good and the bad, from both an economic and human
perspective, need to be weighed carefully before pulling the
trigger on any change.
The more companies prepare for transitions, the better results
they get. This statement holds true regardless of the type of
transition. Whether it’s a routine CEO handover, company sale,
restructuring, or any other, middle market companies that
consider their transitions a resounding success invest the time
and effort to consider carefully their business goals, which vary
based on whether the firm is family-owned, private equity-owned,
or both. They then prepare rigorously. Virtually all leaders
who say their company was “totally” prepared for their last
transition report that it was a success, and almost four out of five
say that it was more successful than they’d hoped. By contrast,
satisfaction among companies that were less prepared is just
33%. Many negative consequences—lost sales, damaged culture,
dissatisfied and defecting employees, and lower selling prices—
could have potentially been avoided with better preparation.
While most middle market companies prioritize business
transition planning, more than three in 10 put it down the list of
business priorities, despite the likelihood that transition is bound
to happen and that preparation is key. Even among companies
that prioritize transition planning, the data suggest that
executives are putting less time into the effort than they should.
More than 40% of companies said they began planning for their
last transition only in the year in which the transition occurred;
the same number say they’ll wait to plan for future transitions
until change is in sight. Only about a third of companies have
written CEO succession plans.
Companies with private equity investment do better in all of
these areas—not surprisingly, since private equity firms buy
companies in expectation of selling them a few years later.
Executives of these companies enjoy higher satisfaction rates
as a result. But all middle market companies, regardless of
ownership structure, have much to gain from a comprehensive
approach to transition planning. This may include expanding
the planning horizon, supplementing internal expertise with a
team of advisors that can help leaders understand all facets
of the transition, creating concrete succession plans, and
communicating clearly with employees throughout the process.
Starting this process sooner rather than later, and ideally
before the transition clock starts ticking, can put middle market
businesses, their owners, and their employees in the best position
to reap the rewards of change while circumventing the pitfalls.
Business Transitions in the Middle Market: An Overview
Change happens in all businesses. But, as growing businesses that fuel the U.S. economy, middle market
companies are more dynamic than most. Indeed, more than three-quarters (77%) of middle market
organizations have experienced a major transition—such as a merger, ownership change, new CEO, or
restructuring—in the past five years, or are preparing for one in the next five years. More than half (54%)
of companies fall into both categories: they’ve recently experienced change, and they plan to transition
again soon. The fastest-growing middle market firms are among the most likely to undergo frequent
shifts and, not surprisingly, they do it for growth-oriented purposes, such as pursuing new business
opportunities, acquiring new technologies, or becoming part of a larger organization.
The transition experience can vary largely depending on the type of transition as well as the ownership
structure of the company (see sidebar, p. 16). However, our study reveals several overarching insights,
the most important of which are that transitions are highly likely to happen in the middle market,
preparation is key to success, and transition requires careful collaboration between company leaders
and their trusted advisors.
INSIGHT 1
Transitions are (mostly) good for business.
+ 63% of middle market
companies experienced
major transition in the
past five years
+ Three-quarters of firms
experiencing transition
were highly satisfied with
the outcome
+ 49% experienced some
negative consequences
including disruption to
culture and employee
turnover
Nearly two-thirds of middle market businesses have undergone some type of major
transition over the past five years. Executives of those companies say that the results of
these changes have been decidedly positive. (We should note that the men and women
we surveyed were financial decision makers—that is, they do not include former leaders,
whose experience might have been different.) Executives, especially at fast-growing firms,
cite a range of positive impacts on company performance, with increased revenues being
the most often noted desirable outcome. Companies also point to increased efficiencies;
access to new technologies, product lines, and geographies; and positive impact on people.
Indeed, more than half (58%) of executives say their company’s most recent transition was
more successful than they expected it to be.
Executives are most positive about transitions that yield growth, such as the acquisition
of another business or division. They are less positive about transitions in which they
yield control or ownership, such as selling to private equity firms or a strategic buyer or
going public, and the least positive about CEO changes. Still, even among companies that
changed ownership, 73% of businesses were extremely satisfied with the transition. Among
organizations that changed the CEO, 61% were highly satisfied.
Despite positive perceptions overall, transitions are not without their risks. Executives worry
about the impact of a transition on culture and their current employees, and those concerns
are well-founded. Nearly half (49%) of businesses noted some negative outcomes of the
transition. Culture disruption and employee turnover are the most common downsides
INSIGHT 2
Transitions take time and preparation is key.
+ 98% of companies that
adequately prepare for
transition are highly
satisfied with the
results
+ Among less prepared
firms, just 33% report
high satisfaction with
the transition
+ Most companies begin
preparing one to two
years in advance of a
transition
Across all types of business transition, the degree of preparation dramatically affects the
success of the change. Virtually every company saying it was totally prepared for its last
transition reports that it was highly satisfied with the results; almost four out of five say that
the change was more successful than they’d hoped. By contrast, among less well prepared
(somewhat, not very, not at all) companies, only a third report high levels of satisfaction.
How much time it takes to be fully prepared for an impending change depends on the type
of transition at hand. Ownership changes take the most legwork and companies say they
spend 1.6 years, on average, getting ready for these types of events, compared to an average
of 1.2 years for mergers or acquisitions. Some companies spend even longer preparing for an
ownership change: About a quarter of firms say they start the process three to four years in
advance of the sale date.
The most important preparation activities also vary somewhat based on transition type.
Overall, preparation steps fall into four categories. Preparing the company from a legal
and accounting standpoint comes first and is almost always critical regardless of transition
type. This preparation includes obtaining a fair valuation, making sure the books are in
shape, and conducting risk assessments. A second set of actions, which are especially
critical for companies looking to complete an acquisition, merger, or sale, revolve around
getting the company in shipshape condition. This set includes cutting costs, increasing
efficiency, and improving working capital management. Third are actions designed to
strengthen relationships with customers, suppliers, and employees. And fourth are personal
preparations—making decisions about one’s own finances and future.
INSIGHT 3
Middle market companies see business transition planning as a top priority.
+ More than two-thirds of
middle market companies say
transition planning is among
their top business priorities; it is
the number one priority for one
out of five firms.
+ Still, planning and preparation
timeframes are somewhat
shorter than experienced
advisors and other observers
believe is needed
+ Fast-growing businesses are
most likely to go through a
rigorous preparation process
and to prioritize business
transition planning
+ Firms with private equity
ownership place high priority
on business transition planning
and are well prepared for their
transitions
Nearly four out of five (78%) companies told us they were well prepared for their
last transition. A similar percentage (70%) feel confident in their readiness for their
next major business change. However, more than 40% of companies began planning
only in the year in which the transition occurred. Looking forward, the same number
say they’ll wait to plan until the next change is in sight. One out of five companies
indicate that planning for transition is their top business priority and another 50%
say it is on par with other top business focuses. These businesses tend to have higher
growth rates and higher annual revenues than companies that place less priority on
business transition planning. They tend to be family owned and the majority also
have private equity involvement. More than two-thirds of these businesses went
through a transition in the past five years and nearly three-quarters (73%) plan to
transition in the next five years. New acquisitions, restructuring, and bringing in a
new major investor are the most expected types of future transition for these firms.
On the other hand, a third of middle market companies (34%) say planning for
transition does not rank among their important priorities. This could be a mistake
for several reasons. First, a transition of one sort or another is going to happen, and
sooner rather than later based on impending baby boomer retirements and current
economic conditions. Indeed, middle market executives say they are approached
about selling their businesses one to two times a month on average. Second, our
data clearly demonstrate that preparation is essential to successful transition and the
positive outcomes of transition are much more pronounced among middle market
companies that prioritize transition planning. Finally, experienced advisors tell us that
the planning horizon for most transition types should be considerably longer than
a year—and, among the fastest-growing middle market businesses and companies
with private equity ownership, it is. These companies are most likely to say they go
through a rigorous preparation process and they are more likely to say transition
planning tops their list of business priorities, especially when it comes to planning to
make an acquisition.
INSIGHT 4
Middle market leaders are confident in their internal abilities to successfully manage transition.
+ Seven in 10 leaders
are certain that their
companies have the
expertise to manage
M&A, ownership transfer,
leadership change, or
restructuring
+ A firm’s executives and
top management play
the most important
role in planning and
executing business
transitions
Middle market leaders have a do-it-yourself mentality when it comes to many aspects of
running and growing their organizations. They take charge of their own fate, so to speak,
and their tendency to use advisors sparingly shows up in their approach to transitions.
Given that transitions are so common in middle market companies, it’s not a surprise
that they draw on their past experience. Leaders see management expertise as the most
important factor for business transition success, followed by strategic and financial/
accounting expertise. In other words, they rely upon themselves when it comes to
setting the strategic direction for the transition. Then they use their own internal
resources to manage the tactical and financial aspects of the change, both of which
are imperative to keeping the ship sailing while transition is underway. Companies, and
especially those with PE-ownership, believe they do quite well in these areas; very few
say their expertise is lacking.
While upward of 90% of middle market firms rely on their internal resources—especially the
CEO and CFO—to lead transition, they do still call on outside experts when transitions are
occurring. In general, they go outside for specific technical skills and expertise—valuation,
investment banking, tax or legal advice—while ensuring that the overall direction remains in
management’s hands.
Only a handful of middle market companies (18%) believe they do not have what it takes
in-house to execute a successful transition. These companies likely represent the few middle
market firms that have not undergone transition before or don’t plan to in the future. Some
of this group say they have no need for business transition expertise.
INSIGHT 5
Outside advisors are critical to ensuring transition success.
+ Four out of five companies
seek assistance from
advisors outside of the firm
for business transition
+ Lawyers, consultants, tax
advisors, and accountants
are the most commonly
used advisors
High confidence and use of internal expertise notwithstanding, most middle market
companies still need outside support for managing business transitions. Four out
of five companies used external advisors during their last transition; the same
percentage plans to bring in experts to help smooth the next transition. Businesses
rely on a team of consultants to help fill in the gaps in their technical expertise
including lawyers, business consultants, tax advisors, and accounting experts. Some
companies invite their investment bankers to the table as well. Collaboration among
these experts and the company’s internal leaders is essential to smooth transitions
and achieving the positive outcomes business leaders expect.
Transition type, of course, impacts how much and which external advisors are
involved. When ownership is changing or a new investor is entering the business,
external support becomes especially important. Outside lawyers are the most critical
player on the team during this type of business transition.
A NOTE ON OWNERSHIP STRUCTURE
Companies with private equity ownership take a rigorous approach to transition planning.
PE-Owned firms:
+ Place higher priority on transition planning
+ Experience transition much more frequently than other firms
+ Are much more prepared for business transition
+ Are more likely to believe they have the internal expertise to handle transition
+ Are ultimately most likely to consider their transitions a success
It shouldn’t come as a surprise that private equity-owned firms approach transitions much
differently than family-owned businesses do. PE owners buy companies in order to change them,
often with new management, and ultimately sell them for a profit, typically over a five to seven-year
period. Because transition is a fundamental part of their business model, they bring a level of
professionalization of management that others do not.
Family-owned companies, by contrast, expect to keep the company in the family, passing it on
to a daughter or son when the current owners retire. However, studies show that this doesn’t
materialize as often as expected. Indeed, the likelihood of a family company staying in the family
is less than 50% with each succeeding generation.
Family businesses would do well to prepare for a transition that may or may not involve their
own lineage. Preparing both a robust Plan A (family succession) and a well-developed Plan B (a
transition to non-family management or sale) is a formidable challenge, in terms of both strategy
and family dynamics. However, PE firms also stand to learn a thing or two from family-owned
executives. These leaders tend to emphasize business continuity, employee morale, and company
culture in order to leave behind an organization that reflects their legacy and supports the needs
of current employees. Ultimately, both activities lead to the same results: a lucrative sale and a
business that is positioned to flourish in the hands of the next owners, whoever they may be.
Of course, many family-owned businesses also have some level of PE investment. And these
companies may represent the best of both worlds. This group is the most likely to believe it is well
prepared for the next transition. And these companies are significantly more satisfied with the
results of the last transition than family-owned organizations that do not have any PE investment.
ABOUT SUCCESSION PLANNING
Middle market companies have plans for succession—but they may not be as concrete as they should be.
+ 65% of companies with past transition experience have concrete succession plans
compared to 50% of firms that have not undergone recent major transition
+ Half of middle market companies have identified successors for their CEOs and owners
+ Companies with written succession plans and identified successors are more satisfied with their last transition and more confident in their preparation for the next one
While most middle market companies have at least a general idea about how they will handle succession, only about a
third have concrete, written succession plans in place. Just half have a plan in place to handle someone in a leadership
position leaving unexpectedly. Companies that have experienced past transition are significantly more likely than those
who haven’t to have solid plans and to involve their in-house lawyers in the process. Past experience with change, it
appears, reinforces the importance of having a buttoned up, legally sound plan for the future.
Businesses with recent transition experience are also much more likely than other firms to have identified a successor for
the current owner or chief executive. And they have done their homework in more ways than one: Four out of five have
considered personal or family preparation steps ahead of the sale of the business, including financial planning and setting
up trusts. The current owners have their long-term plans ironed out; whether they will retire, work in a different capacity,
or work as a consultant, they have a good picture of what the future holds and they are well-prepared to embrace it.
KEY STEPS TO A SUCCESSFUL TRANSITION
Planning in the "Green Zone" so that you are prepared for the "Red Zone."
Transitions are inevitable. CEOs retire. PE firms sell portfolio companies. A family decides to turn the business over
to professional managers or exit it altogether. A business falls on hard times and must restructure to survive.
But while inevitable, they are rarely predictable. Often transitions are triggered by causes a company cannot
control: an economic crisis; disease, divorce, or sudden death; an out-of-the-blue offer that is too good to refuse.
In our 2018 study of middle market M&A, we found that 45% of sellers had not been expecting to sell their
company—and 21% of buyers had no plans to buy, but acted when an enticing opportunity abruptly appeared.
All the data in our current study underscore the fact that preparation is the key to success in transitions. Here
as in so much else, the best time to make a plan is before one is needed. We call that “the green zone”—a time
when the business is running well and no transition is in progress. It stands in contrast to “the red zone,” when the
transition clock is ticking. Red zones come unexpectedly, or they might be planned, as when a private equity firm
decides to sell its stake in a company or a CEO’s retirement is scheduled for the end of a fiscal year. Many red zone
activities are urgent; some are even emergencies.
Green Zone
WHAT THE GREEN ZONE LOOKS LIKE
The business is humming, with stable leadership
and satisfied investors; the issues it faces are “good
problems”—strategy, growth, profitability, customer
satisfaction, etc.
WHAT LEADERS SHOULD DO IN THE GREEN ZONE
- Have “the talk.” Bring investors, family members,
and executives together to envision the future of
the company—and begin the conversation with
the end in mind. What are the options? How do
key individuals see their own futures? Contingency
planning and what-if scenarios should be part of
the discussion, even if they are not pleasant to
think about. In other words, what does Plan B look
like if things don’t pan out as expected? Better to
understand stakeholders’ hopes and goals when
there is not an immediate action to take.
- Clarify decision rights. Many mid-sized companies
are governed informally, with no express delineation
of who is responsible for what. The time to sort that
out is before there’s a crisis.
- Clean up your books. Undertaking due diligence
and knowing the real value of a company removes
a major difficulty for middle market deal makers.
Better accounting will help you improve business
now and get a better deal later.
- Improve daily management: better strategic
planning, process and operations management,
working capital management, and talent planning
all make transitions more successful while delivering
performance benefits now.
- Check and upgrade risk management. Weak
cybersecurity and spotty risk management not only
expose your company unnecessarily: They can delay
deals and lower prices.
- Upgrade your stable of advisors. Your lawyer, your
accountant, your banker: Are the people you’re
using now the same people who you would hire
if you were starting fresh? Do they have—or have
access to—the expertise you will need when a
transition comes?
- Deepen your ties to your best customers and
employees. When change comes—and it will—you’ll
want to know they will be with you on the other
side of the transition.
Red Zone
SIGNS YOU ARE ENTERING THE RED ZONE
Something happens that makes you realize a transition will
come very soon: health problems, divorce, family issues,
an unsolicited offer, competition changes, loss of a major
customer, etc.
WHAT LEADERS SHOULD DO IN THE RED ZONE
- Don’t panic. If you planned in the Green Zone, you’re
ahead of the game. Regardless, you probably have many
elements of a plan, however informal.
- Appoint a transition war room. A dedicated small
team will help you separate the need to cope with
transition from the need to keep the business running.
Management, ownership, and outside advisors should
be included in the war room team. Make sure the
“continuing operations” team has the authority it needs.
- Rank your priorities. Top price? Fastest deal? Best
transition for employees? You can’t navigate the
complexities of the red zone if you don’t decide which
outcomes matter most.
- Assemble a team of deal-savvy advisors—people who
do this type of work every day. Remember, there is
no time for a learning curve in the red zone! Then,
clarify their roles. Banker, lawyer, tax expert—different
transitions require different advisory skills. A normal
CEO succession doesn’t need insights from a tax
advisor, but a family succession does. Investment
bankers are indispensable for mergers, but for
restructuring, commercial bankers matter more.
- Communicate as much as you can—then dare to
communicate more. Employees, customers, and other
stakeholders will know something is up; the more you
keep from them, the more they will imagine the worst—
and the less likely they will be there when the post-transition
world arrives.
BALANCING COMPANY AND PERSONAL GOALS
People need to prepare for transition as much as companies do.
Personal plans will influence what choices executives make about their business. Just three out of 10 middle market business owners want to retire post-transition. Almost as many—26%—want to continue working in the company indefinitely. Smaller numbers want to consult, teach, or start a new business.
In general, executives appear to prepare much better for the future of their business than for their own. Even among
family-owned businesses, fewer than a quarter have taken the time before a transition to plan family roles and
succession, make personal plans for what’s next, define their personal and family legacies, set up trusts, or do tax
planning. Instead, they wait until after a transition has occurred—and, in many cases, set themselves up for conflict or
disappointment, and sub-optimize the transition itself.
CONCLUSION
Carve out the space to
work on your business
and personal goals.
Running a business is challenging, hands-on work that requires a great deal of time and
attention. Yet, given the frequency of major transition in the middle market—changes
of magnitude that shake up who will lead a business and how it will be run—owners
and C-suite leaders need to make the space to work on their businesses in addition to
working in them.
Working on the business requires different types of conversations (some with different
people at the table) than conversations pertaining to current business strategy, goals,
KPIs, and budgets. And it requires a different mindset, longer-range vision, and the
consideration of personal goals and agendas in addition to those of the business. One
eye-opening finding of this study was just how few business owners take any personal
or family preparation steps ahead of the sale of the business. While not necessarily
surprising (middle market business owners and executives are busy!) it does point to
a need to think longer term and carefully consider what happens when the business
is ultimately handed off in one way, shape, form, or another. The transition—when it
happens—will have an impact on you, your family members, your business partners,
board, top people, and, in some cases, your key customers. They should all be part of the
conversation. Your trusted business advisors should be, too.
Making space to work on the organization can have significant positive impact on
its operations and performance right now. Many of the keys to preparing for future
transition—improving risk management, sharpening accounting, succession planning,
improving efficiencies, and solidifying relationships with customers, suppliers, and
employees—instill a level of professionalization of management that immediately
translates into a healthier, better performing company. When you operate the business
today as if you were transitioning it tomorrow, you’ll be in the best position to succeed,
whenever that change ultimately occurs.
About This Report
In the middle market, major business transitions—such as
the sale of a company, an intergenerational transfer, or CEO
succession—happen with great frequency, even more than one
might expect. Whether leaders are actively looking for these
opportunities, or they are sprung upon them, the impact of this
dynamism is significant. Transitions may change a company’s
ownership, strategy, and growth prospects; they can also affect
the company’s partners, suppliers, and customers. The changes
have personal implications for the futures of the business
owners, leaders, and employees. And, given the importance
of middle market businesses to their local economies and to
the U.S. economy overall, the success or failure of frequent
transitions clearly matters on a grand scale.
The National Center for the Middle Market and its partners took
a closer look at the specific types of major transitions in which
middle market companies engage. We set out to understand
how often companies experience transitions in ownership or
governance: The sale of all or part of the company, an intra-family
transfer of control or leadership, a CEO succession,
restructuring or bankruptcy, large new investment, or some
other change that has a significant and lasting impact on
how the company is financed, organized, and run. The study
explored how middle market companies prepare for and
execute transitions of this magnitude, and what challenges
they face during the process. We considered the data by type
of transition (acquiring versus selling, for example) as well
as by ownership and governance structure of the company.
While approaches to and preparation for transitions vary
considerably, we found insights that apply widely to middle
market transition, revealing practices that characterize the
companies that handle these changes most successfully.
HOW THE RESEARCH WAS CONDUCTED
The National Center for the Middle Market worked with
experts from SunTrust Banks (now Truist) and Chubb and
with the Center’s Academic Director, Oded Shenkar, Ford
Motor Company Chair in Global Business Management, The
Ohio State University Fisher College of Business, to survey
404 middle market leaders with active responsibility for
strategic business decision making. Three out of four of
those companies have either experienced such a transition
in the past five years or are preparing for one in the next five
years: 262 companies (63%) had gone through a business
transition in the past five years, 279 companies (67%) expect a
transition in the next five years, and 54%—more than half—both
experienced and expect a transition in those periods. A total
of 214 of the companies are family-owned, and about half of
these business (104) also have some degree of private equity
investment. Among the 190 non-family owned firms in the
survey, 51 firms, or 27%, are private-equity owned.
The survey respondents completed a 20-minute self-administered
online survey conducted between November 11,
2019 and November 19, 2019. The findings in this report are
weighted to the makeup of the total U.S. middle market.