Private equity firms use pools of capital that are raised from a variety of sources. This capital comes not only from wealthy individuals, but also from insurance companies (that pay retirement plans and annuities) and pension funds.
As a result, school teachers, police officers and others often have a portion of their retirement assets allocated to private equity, which bolsters the overall investment returns of the fiduciaries that run these funds. These higher returns are increasingly important in today’s low interest rate environment. Private equity firms use this capital to invest in all sorts of companies, creating jobs and economic growth along the way.
“Private equity firms are easily and inaccurately portrayed as corporate pirates,” says Jackie Hopkins, managing director, Sponsor Finance Group, at FirstMerit Bank.
“But these firms are willing to invest in businesses that need capital to grow as well as companies that might go bankrupt if not supported with new capital in exchange for ownership. In order to induce them to accept the risk of these investments, private equity firms need high returns. Sometimes the returns are very large. Sometimes the firms lose their investment. Either way, they provide critical capital that allows the economy to grow.”
Smart Business spoke with Hopkins, who lends to private equity firms, about how these serial entrepreneurs operate.
How does the private equity world work?
Private equity companies use pools of capital from investors, called limited partners. The general partner of the private equity firm is tasked with finding good investment opportunities to generate above average returns. The partner is usually paid operating expenses and a portion of the profits earned. In most cases, the general partner buys a controlling interest in a company with a leveraged buyout (LBO), and uses his or her expertise to improve revenue and profitability, such as helping a Midwest firm expand product sales internationally. After three to seven years, the company is typically resold.
What is a leveraged buyout?
In an LBO, an investor uses debt to finance a portion of the purchase price of a company. Depending on the underlying business risk of the transaction, the amount of debt can be very low or up to 65 percent of the purchase price. Using debt allows the investor to amplify his or her return. In addition, interest costs are deductible while equity capital is not, providing a built-in bias toward debt financing in the capital structure.
The debt to equity ratio changes depending on market conditions — today, the average equity investment for a middle market company is 40 to 45 percent in a LBO. For larger companies, it is usually less, because a bigger company can absorb more financial risk.
How is private equity financing different than traditional middle market bank loans?
Traditional middle market loans focus on the balance sheet —assets, inventory, receivables, equipment, real estate, etc. — so if the company is unable to service its debt out of earnings, the collateral can be sold to repay the debt.
Private equity financing tends to be enterprise value loans, looking at the company’s earnings before interest, taxes, depreciation and amortization (EBITDA). Financial institutions look at selling the entire company as an enterprise for a multiple of EBITDA. They consider how sustainable the EBITDA is to figure out how much debt the company can safely carry. So, if you think the average multiple of a middle market company is six times (that is, its total value is six times its most recent EBITDA), the bank might lend up to three times. The inherent risk is the possibility that EBITDA will decline or that the prospects for the company or the industry lead to a lower multiple. So to qualify for this type of enterprise loan, a company should have a sustainable level of EBITDA that is not too concentrated in terms of customers, products or suppliers, and is not prone to cyclical swings.
Jackie Hopkins is managing director of the Sponsor Finance Group at FirstMerit Bank. Reach her at (312) 429-3618 or email@example.com.
Website: Get information about FirstMerit’s Sponsor Finance Group services.
Insights Banking & Finance is brought to you by FirstMerit Bank
The Affordable Care Act (ACA) contains a total of 91 provisions, bringing change to the insurance market and impacting the type of coverage employers offer their employees.
“Many of the upcoming ACA provisions depend on the size of your employee population,” says Marty Hauser, CEO of SummaCare, Inc. “Employers need to understand these provisions, as they will likely determine what kind of coverage you offer your employees.”
Smart Business spoke to Hauser about how some key provisions impact employers.
What are some provisions impacting all employer groups?
Although some provisions of the ACA are based on the number of employees an employer has, others apply to all employer groups, regardless of size. These provisions include, but are not limited to, guaranteed issue and renewal of health insurance plans, no pre-existing condition exclusion, employer notification of the health insurance marketplaces and an increase to the maximum allowable reward for health-contingent wellness programs.
Beginning Oct. 1, 2013, employers will be required to notify employees of the availability of the health insurance marketplace, formerly known as exchanges. The marketplace is an online portal that will allow consumers and employers to find and compare different health insurance options. Employers must provide employees, regardless of plan enrollment status or part-time or full-time employment status, a written notice informing them of their coverage options. The Department of Labor (DOL) has created three different model notices for employers to communicate this information to employees, and these are available on the DOL’s website.
Another provision impacting all employer groups is the increase to the maximum allowable reward for health-contingent wellness programs from 20 to 30 percent of the cost of coverage. The program must meet five regulatory requirements to qualify as a health-contingent wellness program.
What are some provisions impacting small group employers?
Beginning in 2014, the marketplace will operate a Small Business Health Options Program, or SHOP, that offers choices when it comes to purchasing health insurance for small group employers — with up to 50 employees in 2014 and increasing to 100 employees in 2016 — and their employees.
Through the SHOP, employers will eventually be able to offer employees a variety of Qualified Health Plans (QHPs) from different carriers, and employees can choose the plan that fits their needs and their budget. In 2014, however, small group employers will be limited to offering only one QHP to their employees, as the provision allowing choices between multiple carriers has been delayed until 2015.
In addition to the availability of the SHOP, small group employers with fewer than 25 full-time employees, or a combination of full-time and part-time employees, may be eligible for a health insurance tax credit in 2014 if they offer insurance through the SHOP and meet other criteria, such as the average wages of employees must be less than $50,000, and the employer must pay at least half of the insurance premium.
What are some provisions impacting large group employers?
Effective Jan. 1, 2014, employers that employ an average of at least 51 full-time employees are required to offer employees and their dependents an employer-sponsored plan or the employer pays a penalty, often referred to as ‘pay or play.’
This provision has specific criteria meant to not only define and determine the number of employees in the group, but also to confirm the employer is providing affordable, minimum essential coverage. Part-time employees count toward the calculation of full-time equivalent employees, and there is no penalty if affordable coverage is offered.
If an employer doesn’t provide adequate health insurance to its employees, the employer will be required to pay a penalty if its employees receive premium tax credits to buy their own insurance. The penalties will be $2,000 per full-time employee beyond the employer’s first 30 workers. Penalties paid by the employer will be used to offset the cost of the tax credits.
Marty Hauser is CEO at SummaCare, Inc. Reach him at firstname.lastname@example.org.
Insights Health Care is brought to you by SummaCare, Inc.
Federal and state laws generally require that employees are paid minimum wage, as well as overtime compensation when they work more than 40 hours in a week. Many white-collar workers are exempt from these rules, but employers need to be careful about how they classify employees.
“There is no system to ask the federal government if a certain position is exempt. So, employers need to make educated guesses about the duties of a particular job and, based on language in the regulations, decide if that position is exempt,” says Stephen P. Bond, a partner at Brouse McDowell.
Smart Business spoke with Bond about how to properly classify employees as exempt or nonexempt, and the risks involved with improper classification.
Does paying a salary mean a position is exempt?
No, although that’s a common misconception among employers. The first test is that the salary must be at least $23,660. Then, the employee’s job duties — not title —must also fall under one of the exemptions in the regulations. The title doesn’t matter because it doesn’t necessarily mean the same thing at different companies.
What job duties can be exempted?
There are three main exemptions:
? Executive — Exactly what it sounds like: primarily being the head of a business or a department, and supervising other employees.
? Administrative — White-collar, management-level worker whose job involves discretion or independent judgment. Clerical work wouldn’t qualify because it isn’t directly related to management of the business operations.
? Professional — This is the most ambiguous area. It requires that the worker have special knowledge or expertise, typically based on a college degree. However, a college degree doesn’t necessarily make a person exempt.
There also are exemptions for certain duties in the computer field and outside sales, as well as one that covers any employee making $100,000 who regularly performs at least one of the duties of an executive, administrative or professional employee.
How can an employer lose an exemption?
One way is by not being consistent about paying the employee a salary. If you dock someone for missing part of a day, that demonstrates that he or she was not really a salary employee, and cannot be exempt.
However, there is a separate provision that applies if an exempt employee is off work for Family and Medical Leave Act purposes, and allows for deductions that do not affect exempt status.
What are the penalties for incorrect classification?
If an employee’s claim is deemed correct and an exemption did not apply, he or she may be able to claim unpaid overtime for the past two years, as well as collect damages and attorney fees. A disgruntled employee could contact the Department of Labor’s (DOL) Wage and Hour Division and trigger an audit that could result in back pay awards for several employees.
Even when employees are correctly classified as nonexempt, companies can run into trouble in terms of hours worked. If employees work at their desks during lunchtime, that counts as paid time. If you give an employee a smartphone and say he or she has to respond to emails even when at home, that also is work time. Those types of claims can cost a lot of money because employees typically have a record of their hours and the employer doesn’t have anything to contradict it.
How can companies avoid misclassification?
You need to have a qualified human resources person conduct an analysis. It has to be someone who understands all of the implications, and will take the time to consider the various positions and where they fit.
Also, it’s a good idea to re-evaluate exemption status as job duties change, especially if you’re going through a reorganization.
A lot of times, management makes decisions based on what makes economic sense at the time. That’s fine as long as everyone is getting along. But then an employee is fired or disgruntled for some reason and files a claim with the DOL
Stephen P. Bond is a partner at Brouse McDowell. Reach him at (440) 934-8110 or email@example.com.
Insights Legal Affairs is brought to you by Brouse McDowell
Performance-based compensation is the variable component of total compensation that may be paid to an individual, team or even companywide upon achieving some defined performance metric. For instance, when a salesperson is paid a commission for achieving a sales target, or an annual bonus is distributed after meeting a companywide goal.
“You need some form of performance-based compensation to keep top performers motivated and happy,” says Brian Berning, managing director at SS&G’s Cincinnati office. “They want to believe that they can make as much as they possibly can if they are able to achieve goals. And with a variable component, there’s rarely a ceiling on it.”
Smart Business spoke with Berning about using incentives to benefit both the employee and the company.
How do companies typically pick incentives for performance-based compensation plans?
It’s largely based on defining goals and setting performance benchmarks around them, which can be for an individual, team, companywide or any combination of the three. It’s important to understand that without consequences, positive and negative, it’s not a goal — it’s a wish. The best companies develop incentives with clear, objective and measurable goals, stating exactly how to successfully get to the target.
You also want to target the right people. A shop foreman of a manufacturing company can influence on-time delivery but shouldn’t be tied to goals for meeting sales initiatives.
Which incentives can be problematic?
Those that are difficult to explain, to measure or achieve are prime for failure. Remember you’re trying to reward results that are largely influenced by behaviors in connection with the company’s goals. So, if the incentive is tied to a behavior that the responsible party has no control over, or the performance measurement isn’t in alignment with meeting the desired goals, it simply won’t work. Employees must be able to understand it, measure it and achieve it.
Why is it important to avoid rushing in?
Look at various scenarios and test to make sure that they mathematically work — that they’re achieving your desired goals. There’s nothing more embarrassing than implementing a performance-based incentive structure that doesn’t work.
On a commission-based structure, for example, be careful when trying to reward certain behavior. If you sell two products, product A and product B, and you want to encourage additional product B sales, you may increase B’s commission. But if everyone is focused on selling product B, there could be a loss of sales in product A. It’s better to use minor awards or only change the commission structure minimally, enough to keep people conscious of it, but not enough for them to ignore product A.
So, talk to your staff and others, and make sure the plan is designed properly.
How can awarding equity in a private company be problematic?
There seems to be two situations that prompt a company to look at a plan like this.
1. Senior management thinks that by giving employees ownership, it is going to motivate results. But by giving stock, you haven’t tied that to goals. The award isn’t instantaneous; employees don’t have more cash. As an owner, how is an employee going to behave any differently?
2. The business uses this as a tool to recruit talent when cash flow is tight. It may work, but it can have consequences later if it doesn’t work out with that employee.
There are other options that look and feel like equity, such as contractual arrangements that don’t necessarily result in the award of true stock or units in a partnership.
What should management be doing to measure, review and adjust these plans?
Measure it frequently and pay promptly. Otherwise, people will lose interest in it.
When reviewing or adjusting the plan, that should be far less frequent. If you’re continuously tweaking your plan, you’re going to create confusion. If there’s some anomaly, fix it immediately, but if you’re making wholesale changes right away, you made a mistake and didn’t do your due diligence. A well-defined performance-based compensation plan provides employees with an upside they feel they can achieve that ultimately helps the company.
Brian Berning is managing director at the Cincinnati office of SS&G. Reach him at (513) 587-3270 or BBerning@SSandG.com.
Website: SS&G was named a top workplace in Northeast Ohio.
Insights Accounting is brought to you by SS&G
Some leaders take an “old school” approach to change management — employees get a paycheck, so they’ll deal with any changes without a need for much explanation. But that sets the organization on a path toward failure.
“The biggest problems are when leadership does not account for the fact that resistance is definitely an option,” says Mark Deans, practice leader in Organizational Development & Change Management at Sequent.
“You could build a perfectly streamlined business process, or add the most efficient tool, but if employees don’t understand how to execute it to meet your expectations, it’s not going to succeed. Try as you might, you can’t make people do things,” Deans says.
Smart Business spoke with Deans about ways to ensure successful implementation of a change process.
What is involved in change management?
It’s supporting a change in business processes or systems, technology, etc. The practice of change management applies to any significant change in an organization, including leadership change as part of an acquisition or divestiture. It’s about how employees are supported through the change process.
The methodology is that there is a journey the organization, departments and individuals go through, and each has a completely different time path. Two people might do the same job, but each has his or her own change capability, and it’s a matter of identifying and managing all of those within an organization to make the change as seamless as possible.
How does the change process work its way through an organization?
First and foremost, leadership must be on the same page. Start with getting leaders aligned so they can be the driving force behind the change, helping each individual understand his or her part.
Organizations are taking a more holistic view nowadays. A change might mean more work for some departments but provides an overall net benefit for the organization. It used to be that each silo fought for its own interests. Now, it’s about how departments operate together, and some teams taking a hit if necessary to ensure the overall organization is as successful as possible.
One of the first steps is acknowledging the need to change, and the benefits. There should be some compelling reason, whether it’s regulatory changes, an attempt to improve market share or boost the bottom line. If the overarching goal is to improve margins, explain what that means for each group, and ultimately for each individual. You have to manage change upfront and get everyone onboard at the start rather than waiting for problems. It’s analogous to going to the dentist. If you see your dentist on a regular basis, keep your teeth clean and get X-rays, you can catch cavities when they start and are easier to fix, instead of not going for a long time and having major damage. The same holds true for change management, if you start a project and haven’t thought about how to communicate it to employees, going back and fixing it is much more difficult.
Is it important to state a desired outcome?
Absolutely. That is where some companies fail as well. They make a change and aren’t sure why. A company buys hundreds of iPads as part of a mobile technology strategy without addressing the intended use. So people are updating their Facebook status or playing Angry Birds because they don’t have a burning business reason to utilize these tools. That might be a ridiculous example, but there are plenty of cases in which companies want to hurry up and do something because it’s a shiny, new object.
You also need to accept it if a change didn’t work. Evaluate the success of the change, including what happened and didn’t happen as planned. Change projects always take longer and cost more than expected. Organizations that handle change well go back and figure out what they did well, and what could have been done differently. Then they remediate anything that did not get executed as well as planned. They learn from the experience so the process can be improved next time.
Mark Deans is a practice leader in Organizational Development & Change Management at Sequent. Reach him at (614) 410-6028 or firstname.lastname@example.org.
Website: Visit our website to understand how to successfully incorporate change at your company.
Insights HR Consulting is brought to you by Sequent
For 27 years, Ernst & Young has championed the entrepreneurial spirit of men and women pursuing excellence in their businesses, teams and communities.
Ernst & Young founded the Entrepreneur Of The Year Program to recognize the passion of entrepreneurs and to build an influential and innovative community of peers. We received more than 1,680 national entries for this year’s program, from the country's most deserving entrepreneurs. Their triumphs stand as a testament to the role they play as visionaries and leaders.
Entrepreneurs change the world and make it a better place to work and live. We honor them for their fortitude and resilience, and we celebrate their ability to forge new markets, navigate uncharted territory and fuel economic growth.
We gather here in Northeast Ohio and in 24 other cities across the U.S. to honor all of the finalists and welcome the new class of entrepreneurs into our Hall of Fame.
Congratulations to all of the 2013 Northeast Ohio Entrepreneur Of The Year finalists and winners. We applaud them all for their unyielding pursuit of business excellence and we are honored to share their inspiring stories with you.
Whitt Butler, advisory partner, Ernst & Young; program director, Ernst & Young Entrepreneur Of The Year Northeast Ohio.
Here are the 2013 Northeast Ohio Entrepreneur of the Year winners and finalists:
Distribution and Manufacturing
Education and Non-profit
Health Care and Pharmaceutical Services
Finalist – Scot Lowry, president and CEO, Fathom
Retail and Consumer Products
Winner – Kris Snyder, CEO, Vox Mobile, Inc.
Family Business Award
NEO Ernst & Young Entrepreneur of the Year
Ralph Della Ratta Jr.
Western Reserve Partners, LLC
When Ralph Della Ratta Jr. gets asked, “What were you thinking starting a new entrepreneurial chapter in your life at age 55?” he responds that he missed three things: being engaged in the game, doing great things for great people, and providing strategic direction.
After retiring from a remarkably successful career in the investment banking industry, Della Ratta had a revitalized vision of a project that would delve into the Cleveland mergers and acquisitions market. He approached three former colleagues with a proposition that held an unsure outcome without the smallest guarantee.
However, between Della Ratta’s deal-savvy reputation, proven track record and constant ambition, these three individuals made large personal investments to help get Western Reserve Partners, LLC, up and running based solely on their faith and trust in Della Ratta.
Western Reserve Partners was formed to bring middle-market clients high levels of quality and service usually reserved for much larger companies. The company provides M&A, capital raising and other financial advisory services to middle-market companies across a focused set of industry verticals, including industrial, business services, consumer, health care, technology and real estate.
Each engagement is tailored to the client’s specific objectives and relevant market dynamics. Thoughtful advice, keen market insight and well-crafted transaction processes have resulted in more than 80 percent of the company’s sell-side engagements closing at valuation ranges that meet or exceed expectations.
Western Reserve’s senior professionals share an extensive background in large-cap advisory work and have advised on dozens of transactions of $1 billion or more. The company brings the benefits of this experience to its middle-market clientele, and its assignments are all actively managed by senior professionals from kick-off to closing. Western Reserve’s managing directors average nearly 30 years of experience and have collectively executed more than 600 transactions during their careers.
Della Ratta has been determined to position Western Reserve Partners as a reputable, respectful and innovative institution.
How to reach: Western Reserve Partners LLC, www.wesrespartners.com
NEO Ernst & Young Entrepreneur of the Year
Wireless Environment, LLC
Wireless Environment, LLC, founded in 2006 by David Levine and Michael Recker, is a JumpStart company that invents technology and manufactures products to enable LED lights to perform effectively when off the electrical grid.
Wireless Environment provides design services for lighting manufacturers looking to gain a competitive advantage through proprietary power management features and off-grid operation. The company’s technology allows LED luminaires and lamps to determine the optimal times to draw power from the electrical lines and when to go off-grid for reasons such as unreliable power or outages, spikes in energy cost, and heavy demand on the grid.
Wireless has also developed and launched a line of battery-powered LED light fixtures that improve safety and security and operate during a power failure. These products — under the Mr. Beams brand — use a patent-pending power management system and have radio frequency capabilities to network throughout the home.
Currently, Wireless has three product lines — Mr. Beams, a line of indoor/outdoor portable LED light fixtures; ReadyBright, a wireless power outage lighting system; and SwitchSense, a module that turns LED luminaires and lamps into power failure lights.
When Levine, who is president, was deciding how to sell his company’s products, he knew entering the retail market was risky. So Levine chose to sell through Amazon.com instead of a traditional store-based model. By selling through Amazon.com and other Internet-based selling formats, Levine mitigated his risk. Wireless has the ability to sell its products at a higher margin than if it were to sell to a large retailer.
Another area where Levine took on significant risk was with the company’s patents. Having patents on technology, brands and products are very important to the success of the business. Levine has spent several years trying to patent ideas on wireless lightning, and it has been a challenge to accomplish. Wireless Environment currently has five patents with more than 17 patents applied for and pending.
How to reach: Wireless Environment, LLC, www.wirelessenv.com
NEO Ernst & Young Entrepreneur of the Year
Kris Snyder is a driving force in the high growth, billion-dollar managed mobility services market. Having founded Vox Mobile as an entrepreneur inside a $200 million systems integrator and ultimately spinning it into its own venture, Snyder demonstrated his thought leadership and insight into the growth trends in enterprise mobility.
Starting Vox Mobile in 2006, Snyder recognized the potential to create value through mobility services before anyone else. At that time, organizations were becoming increasingly reliant upon mobile devices.
While plenty of competitors and organizations had invested in technology to implement and deploy personal computers, he recognized that there would soon be a need to provide these same services for mobile equipment, which has increased since consumer products like the iPhone and iPad were released.
Enterprises are now facing significant challenges ensuring issues like mobile enterprise security, employer software configuration and customer support do not decrease the productivity of their respective organizations worldwide. These issues are coming to a head as organizations contemplate how to allow employees to “Bring Your Own Device,” or BYOD, rather than issuing company devices.
Snyder’s customers call upon Vox Mobile to design, procure, deploy, support, manage and analyze their mobile devices. Snyder emphasizes and provides a culture to enable and empower his employees to provide satisfactory solutions to its callers every time to reduce customers’ frustrations and potential down time.
This requires a commitment to hiring top talent who are inventive, knowledgeable and believe in his vision. During 2012, he nearly doubled the number of employees, and Snyder continues to promote the innovation of software that allows for incremental scalability.
Snyder’s vision and ability to innovate in this niche industry has enabled the growth of Vox and mobile technology as a whole. This has created more than 40 percent sales growth during the last two years, with an additional 40 percent growth being forecast in 2013.
How to reach: Vox Mobile, www.voxmobile.com