28 Jul Post Combination Employee Consolidation: Do’s, Don’ts and What to Expect
Human capital: retaining talent before, during and after a combination. Listen in while the Revenue Rocket team discusses the do’s and don’ts of employee retention.
Mike Harvath 0:04
Hello, this is Mike Harvath with this week’s Shoot the Moon podcast, broadcasting live and direct from Revenue Rocket world headquarters in Bloomington, Minnesota. As you know, Revenue Rocket is the premier growth strategy and M&A advisory firm to IT services companies worldwide. This week, we are talking about key employees and how to keep them engaged post transaction. With me, I have my partner’s Ryan Barnett and Matt Lockhart. Welcome, gentlemen.
Matt Lockhart 0:37
Hey, Mike, great topic today, obviously, you know, absolutely crucial for a services firm, to get the most out of an acquisition is engaged, happy and, you know, fired up team members. So I think this is a great topic.
Ryan Barnett 0:57
Yeah, I agree. Mike, Matt, I this is something that we hear from buyers often is, when we are going through an acquisition and acquiring a firm, how do we ensure that the talent that we’re buying and working with and we’re about to go on a partnership with are going to be really critical members going forward? And Mike, I’d love to you just mentioned something in our prep here about kind of the fear of losing employees and kind of some false stats that are out there. I’d love to hear kind of your impression and thoughts of, you know, is there a lot of turnover when it comes to employees and IT services companies after deals done?
Mike Harvath 1:41
Yeah, there’s a there’s a lot of fear about that. Because what you’re buying really are those folks, right? They’re the economic engine in an IT services company out of people, it’s a people business, you’re not manufacturing widgets, and shipping them, you’re really leveraging the knowledge capital, if you will, or the intellectual property and the heads of all those consultants that work for you. Yeah, to, you know, be an economic engine and driver. And so many buyers have fear that, you know, hey, if we have a turnover of that, of those staff, we’re gonna be in trouble. And oftentimes, buyers talk themselves into that they have to model in all kinds of potential turnover and risk associated with turnover and this stuff. But as a practical matter, only about 1% of staff turns over in an IT services company, within the first year of post transaction. So there’s very low turnover typically doesn’t mean there’s not individual situations where that might be high. But I think how you plan and manage the communications with those staff members, if you’re a buyer, and a seller, frankly. How you take care of them sort of through the transaction and post transaction, the timing of the communication with them. And then ultimately, the opportunities that are presented to them as part of being part of something bigger or part of something different with a new owner, are certainly all critical to keeping them around.
Ryan Barnett 3:24
This perhaps brings up the question that almost need to reverse a little bit, when a seller goes through a transaction when are critical employees notified that that transaction is happening?
Mike Harvath 3:39
Yeah, that’s a great question. So you know, we typically have said that it makes most sense to tell your key staff on a need to know basis. And typically, as an owner or business owner, you will need to bring in key staff to the conversation at some point. Usually, that’s post a letter of intent. And pursuant to diligence, now, we think it’s best that you bring them in later in that diligence process, so you have a high degree of confidence that the transaction is going to happen. And there’s a couple of reasons for that one, obviously, the transact if you bring him in too early, maybe there’s something that’s found in diligence on behalf of that buyer that they choose to not move forward and now you’ve sort of played your card with your staff that you’re going to be doing a deal and, and they might be saying, Look, if you’re gonna sell, you know, maybe I don’t want to be part of this thing. And you might see some turnover might induce some turnover, or cause people that are contemplating leaving to leave. But we think generally key staff members and would be like your, you know, first line managers, the managers that really run that business with you need to be brought in as you’re getting close to close, they need to be part of the conversation. And typically buyers will want to talk to that, before they make a decision to close enough confidence that they can work with them post transaction, I think there’s quite a bit of art to the timing of when that occurs. However, generally we say it makes sense, you know, in the last few weeks to a month, before close to have that conversation with the very key top level staff in your business. But you should only do so once you have a high degree of confidence that the transaction will occur. And, you know, that generally happens when most if not all the material elements of the actual purchase agreement had been negotiated.
Ryan Barnett 5:54
That really helps give us a good time frame. My Thank you, thank you. And part of this is we look at a deal where there are three components that we look at, we look at strategic fit, we look at financial fit in but we also look at cultural fit. And this is a key component, I think keeping employees to that. Matt, have you seen any examples? Or do you have any insight on how cultures can help align to, to make sure that employees will be moving forward and happy at that the new company?
Matt Lockhart 6:30
Yeah, I mean, I think that’s a super important point, Ryan is, you know, if you think about the employees, they are going to be interested in those 3 fit things as much as anybody culture, strategic and financial fit, because it’s really all about the opportunity for them to continue to thrive. You know, when you think about culture, you know, the number one point or the number one driver to culture is, you know, is leadership, right, and understanding how employees have embraced the sort of the old leadership or the existing leadership, what parts of that, that they, you know, really enjoy, what parts, maybe they didn’t. So, here’s an example, you know, oftentimes, it, you know, in middle market services firms, we’ll just use that as an example, they may have not done sort of formal development planning, you know, with their team members, you know, they they care about developing, they want to give them opportunities, but, you know, oftentimes, it’s a little bit more ad hoc, right. And, you know, we’ve seen scenarios where the new ownership, maybe they, you know, come from larger companies, or maybe had more experience or, or whatnot, you know, really came in and talked about the development planning for, for the overall, you know, employee base, because what they’re, you know, what they’re promoting and promising is, you know, we want to see everybody advance, we want to see everybody, you know, get the opportunities that are most meaningful to them. And so, you know, that’s just one aspect of enabling, and building upon the culture that’s in place, but then seeing opportunities where where that can be improved, and, you know, many others, right, obviously, bilateral communication between leadership and the new ownership team and the overall team members is absolutely critical. But I think, you know, it really starts at the top and starts from having that, you know, appropriate intent of, you know, wanting to, to make sure that everybody is, you know, having the opportunity to thrive.
Ryan Barnett 9:07
Yeah, that’s a really great point, Matt. When we think about deals, one of the biggest portions in today’s economy is that it’s really hard to find great talent. And I believe employees are often fearful of what may happen when they go through an acquisition for the site, I think some people think back to a leveraged buyout and the shredding of employees. Mike, can you give any insight on why deals are done when it comes to employees? It seems to me that IT services companies, you’re doing a deal, because of the delivery capabilities. There may be some reduction in headcount on some back office functions, but for the majority, companies seem to be at acquiring to expand the talent base.
Mike Harvath 10:03
Absolutely, you know, in IT services companies the knowledge capitals, I call it the individual knowledge of the staff that you have delivery staff that you have is your product, right, I mean, at the end of the day, that is your economic engine. And your ability to, if you’re a buyer to attract that talent to your business, in the aggregate is certainly a big driver to do in M&A transaction. You know, it helps tremendously if, you know, the business lines up, of course, strategically, and you can get to a financial deal. But that cultural aspect is really what makes or breaks the business and the, you know, in many areas, and you know, it’s a key driver, in, you know, the business case to do that acquisition. You may have heard terms like acqui-hire, you know, people are acquiring just for the staff, that in a vacuum actually doesn’t work very well, the staff are critical. But the staff, their knowledge, the institutional memory of the business, the customers that are served, comes as a full package. It just so happens that at the current time with generally negative unemployment, in the tech services world, and we’ve been in that position for quite some time, getting really talented staff is a big driver. And we see very little to no rationalization of staff or cutting up staff in transaction. So oftentimes, if you’re an employee, a talented employee, regardless, even if you’re in back office functions, we don’t typically see those roles cut now they could be, but generally, even finding folks and understand the business function and operations in the back office in an IT services business are hard to find, right. And oftentimes, those people are kept just because to find those skills and hire those skills in the open market becomes very, very challenging. So, you know, I think understanding that the the human capital component of what you build, as a seller is super important. And the relationships between the people, and the relationships with their function are really important. I think being able to build a bridge to how that works in the new organization from a communications perspective, and listening to your team when the time is right. To do a more broad communication to all the employees will be also super important to helping that transition happen.
Ryan Barnett 13:12
Yeah, thanks, Mike. I transition a little bit here. Man, I’d love to get your opinion. What things can a seller do to help really give their team new opportunities at an acquired company or the buyer plays a huge role here? But is there a reassurance and career mapping? What kind of things can or what opportunities are there for employees when it comes to a combined entity?
Matt Lockhart 13:46
Sure, well, you know, if you go back to I don’t know if it was last week’s podcast or the week before when we talked about readiness, you know, one year out, right. And I think that this is a key aspect to it, which is, you know, in broadly thought about succession planning, but I think even more than that, it is, you know, what key employees can you provide, start to provide additional opportunities, right. So, you know, maybe it is turning over more of the, you know, operational delivery, oversight, right to key employees, maybe it’s turning over, you know, aspects of, of key customer management to employees. And you’re really starting the process of, in some senses, letting go. But, but more than that, you’re sort of jumpstarting the opportunity for some of those key team members. And then you know, positioning when you’re the seller positioning With the buyer, the work that you’ve done to to that end is only going to be advantageous to getting a getting the deal done. But then, you know, obviously, enabling that post acquisition, integration work, because, you know, again, you’ve sorted jumpstarted the process where key people are taking on, you know, more and more opportunity. Now, likewise, if, as Mike just talked about, some team members may not, they may be in a duplicate function, right? So, an example, you know, oftentimes a CFO, for example, is a duplicate role, you know, from the seller. And so, being forthright and saying, Okay, well, you know, there’s gonna need to be in transition, that individual is, is absolutely critical, but long term may not be so being open and honest, in terms of, you know, where are the opportunities for the existing employees to grow? And in some cases, where they may not have an opportunity moving forward.
Ryan Barnett 16:20
Great points. Great points. Are there financial incentives to keep employees? Mike, I know that we’re working through a few deals right now, where there’s some considerations there. Can you help me to explain what options sellers may have to help simply through some employment contracts, or through bonuses, any guidance around there?
Mike Harvath 16:51
Yes, so what I would say is that it is in your best interest as a seller and a business owner to make sure that your employees and in general, all of your employees make the transition. It is your key asset. Right. Now, there’s certain approaches to being able to manage an incentive for those employees to come across. Sometimes you provide incentives, it’s commonplace, to provide some level of incentives. Sometimes they’re called stay bonuses, or bonuses. And sometimes they’re offered only to key employees. And other times they’re offered to all employees, it just depends on sort of your thinking about it. Those bonuses are oftentimes or for the most part, come out of the seller’s proceeds from the transaction. Sometimes you’ll have buyers that want to participate in that are open to participating in that, but I’d say it’s pretty rare. I’d say most of the time, the seller will fund that will call stableness or bonus pursuant to the transaction. And, you know, I’d say most sellers see that as a reward, you know, they’re sharing some of the proceeds of the sale with the folks that have been most loyal and most involved in the success of that business. And as result, sometimes those bonuses vary in size and scope and intent. Stay bonuses oftentimes are paid at the end of a first year, for example, or to align to an earn out period, so that the seller can be confident that they’ll stay bonuses will help keep his staff in place in order to meet any obligations associated with an error. Now, sometimes they happen at the time of close. And oftentimes, there’s some combination. I guess the takeaway message here is there is no one size fits all, what we’ll call stay bonus or award bonus structure. Typically, these bonuses are paid to people who are not equity holders, typically either paid at the discretion of seller. And the amounts have everything to do with that sellers discretion. Based on their opinion of that employee’s value to the business. Their timed, you know, that they put into it and being part of that business, their direct correlation to the success and their contribution. I mean, there’s a bunch of factors that I think go into it. As it relates to, you know, what we’ll call stay bonuses or bonuses for employees. I think you know, there are some best practices certainly, as it relates to doing that in sort of amounts and timing, and when they’re paid and how they’re paid, that I think are important to discuss with your M&A advisor. Because certainly they can add perspective. You know, M&A advisors like Revenue Rocket, have seen lots of different iterations of these bonuses over the years. And I think it’s valuable for you to review. If you’re using a sell side advisor with them, and what they would recommend, as a way to ensure that the staff come over, that they’re incented, they’ve been thanked for their work, while the business has been managed under your tutelage. And certainly that they are in a position to contribute in a meaningful way post transaction with the new orders in place.
Matt Lockhart 20:58
Hey, might jump in the talk about that, you know, stay bonus. And, you know, who sort of provides for, you know, one of the things that we’ve seen a bit, you know, oftentimes you’re right, it’s great. And the sellers do this as part of the reward. Right. But, you know, oftentimes, we also see where both parties participate. And, you know, and it’s sort of like the sellers, giving the reward for, you know, the great work that team members have done to get to that point. And then, and then the buyer is providing them some incentive to say, hey, you know, we’ve got a great opportunity for you. And we really want you to, you know, give us a chance, if you will. And so we’re offering up an aspect of the bonus as well, it’s sort of like everybody’s on the same page, if you will, with regards to participating in that bonus.
Mike Harvath 22:00
Yeah, and I think certainly, we’ve seen a lot of that over the years as well, I don’t want to think that those I mean, those buyers are certainly very focused on attracting that talent, and sending a message to that talent, that they’re valued. And that they’ll have a key role moving forward. I also think, you know, a part of what plays into this, and certainly for key employees, this is important, is employment agreements, right? You know, oftentimes key employees will want to negotiate an employment agreement, or the buyer will require that employment agreement to be in place for key employees, and key roles in understanding what that is, and how it operates, and how it’s either consistent or not, with your existing employment arrangement with these folks, is pretty important. And again, your advisors can help there. But as a seller, you need to be involved with that process, it’s easy to sort of say, well, you know, new buyer, I’ll introduce you to, you know, our key staff, and they’ll get to know you, and now you can negotiate with those folks directly. We would advise against that. In that you need to make sure that the offers that come on behalf of your employees are consistent with kind of where those employees want to take their career, right. And as a seller, and as someone who has had those folks working with you, you’re probably in a pretty good position to advise that buyer on what will be acceptable and what will not be, before the initial drafts come out. We’ve seen situations where a seller may want to be less engaged in that and the employment offers and agreements offend the existing employees to the point where they either will be so upset that they won’t endorse the transaction at which the entire deals are at risk. Or they just will choose to, you know, either leave or, you know, agree to move forward but ultimately are not happy and relieved post transaction and in both situations, that’s certainly not a position you want to be in if you’re selling your business.
Ryan Barnett 24:28
Yeah, I agree. And there’s a there’s a lot of emotion that comes with this. We know on this call, we’ve all been on both sides of the table of buying companies and selling them. One of the technical things done in an asset sale is termination of your current employees and hiring them the same day. When you go through that as an employee. There’s some fear and trepidation. Leaders have to really be ahead of, and understanding the emotional roller coaster that’s gonna go on the day of, they have to look at the plans in for the future, where that’s going to take you and give a sense of confidence and calmness that allows everyone to transition smoothly. The other thing to notice most leaders are not going to be gone the first day. So use that opportunity as a time to to be smooth through a transition. And if you’re selling in to really be working with the teams and create an environment that’s exponential growth for everyone. It’s emotionally charged, it’s easy to get over when you start to look at the opportunity that everyone else can have in front of them. That was the questions I had today, Matt, any parting thoughts?
Matt Lockhart 25:56
Well, sort of replaying the tape, in a services company and not just services, any tech enabled services, SAS base, any technology company, these employees, these team members are everything. So planning ahead is absolutely critical as the seller and the buyer, you know, being open and forthright and getting those team members fired up. And then following through, right, I think it’s pretty common sense, but oftentimes overlooked. We’ve seen firms that have done it very, very well, and they’ve thrived. And we’ve seen firms that that really haven’t. And their return, you know, is certainly in question. So, you know, great topic. As Ryan said, we’ve all been through it before and so you know, we’d love to talk to you more about it more about your specific situation if you’re considering a sale and or an acquisition. So good stuff. Thanks guys!
Mike Harvath 27:09
Thanks man. I think with that, there’s nothing else, we’ll tie it out. Tie a ribbon on it as we say every week here at the shoot the moon podcast. Thanks for listening, as we say make a great week. And we look forward to you tuning in later. Take care.