Buyers and Builders
00:40:46 · Greg Geronemus
[00:40:46] S1: The drivers as I see them. So I'll lump I'll lump committed capital vehicles and holdcos together because I think they're more similarities than differences. But instead of in a traditional search where, as I mentioned earlier, searchers will raise search capital, giving them two, two and a half years of window to hunt for a business to buy. Committed capital vehicle holdco entrepreneurs will approach investors, typically the same investors where we participate equally and happily in both traditional search and committed capital vehicles. So entrepreneurs will approach us and say, I wanna raise $15.20, $25,000,000 to go out and buy... For the most part, do a consolidation of buy and build in a specific industry. So it could be a specific subspecialty of health care or a vertical within software. You know, could be... You know, you you name it. It it runs runs the gamut across across industries. And so, you know, unlike traditional search where a searcher might have a few ideas for the industries that they're gonna go after, This is a hyper focused entrepreneur or entrepreneurs. More often than not, it's it's a a team. Sometimes you'll see... You're... More and more, you're seeing three three person teams as well. So they'll they'll they'll get commitments from a group of investors to fund whether it's 15 or 20 or 25,000,000 to go after that strategy. It is referred to as a committed capital vehicle, but there's some nuance there around the committed piece. Investors have... There will typically be two or three investors that are on the board of that committed capital vehicle. And those investor board members need to approve any deal that's done or any capital that's called. So there's still, you know, a healthy governance dynamic, and it's it's certainly not the case that a searcher or entrepreneur can just call capital whenever they want to pursue anything. So in some ways, it's committed, but there are... There's governance and accountability embedded in the model as well. But fundamentally, these are for people that that wanna do a a roll up or consolidation play. That that is the strategy. So inorganic growth has to be a significant driver and component of the thesis.
00:43:39 · Greg Geronemus
I would say over the last six, nine, twelve months, we've seen a massive shift from people who would otherwise pursue traditional search, now moving into this committed capital vehicle holdco model. Nine months ago, I thought it was maybe just a, you know, a small adjustment. Now I'm convinced that committed capital vehicles are gonna take significant traditional search in the years to come, and that's that's happening real time. You asked what's driving that trend. I think there there are many things. One, there's... It's definitely an element that it's the new shiny object. So I think people... It... It's the it's the hot, sexy, exciting thing you do. So I I don't wanna I don't wanna I don't wanna overstate that too much, but I also don't wanna downplay it. You know, it's it's more elusive and and exclusive than than traditional search. The bar for the entrepreneur is higher, so the people who are able... Who self select in or are encouraged to go down that path, I think just feel special because they're doing something that not the entire ETA ecosystem would be able to pull off. So I think that's one. Two, there have been increased data points... Increasing number of data points in the... Over the last several years that inorganic growth can be a buy and build. Zero acquisition strategies can be significant drivers of outsized returns in the lower little... Lower middle market private equity investing. So there's a... This is a... In part a response to that trend. Three, you see... You know, part of this, I think, is a response to the increased difficulty in for searchers to acquire businesses. So if you have a if you have a traditional search where typically you're buying just one business and there isn't much of an understanding around buying additional businesses after that, you feel the pressure to go and buy a bigger business. So you wanna buy something 2.5, three, 3.5, 4 plus million of EBITDA. If you have a committed capital vehicle where you know that you're gonna be buying businesses, many businesses over a three to four year period, you feel more empowered and comfortable going further down market and maybe starting with a business that has $809,100,000 dollars of EBITDA that gets you in the game. It's not a you'd wrong to call it a platform, but it gets you it gets you in the action. And once you... And you can build EBITDA from there.
00:46:45 · Greg Geronemus, Mikk
So you're... It's... It it... For many people, they see it as a way to go further down market and avoid some of the competition that we were talking about earlier. And then last but not least, there's sort of a pure economic motivation for a lot of these entrepreneurs. I mentioned the equity that these committed capital vehicles are raising, $15.20, 25,000,000. We've seen few that are a little bit larger. It's just simple math. Putting more dollars to work gives you a greater opportunity to make to make more money. So, you know, a lot of traditional search deals, certainly bigger than self funded search, but a lot of them... You know, let's let's take a a $12,000,000 enterprise value deal. Maybe it's a fifty fifty split between debt and equity. You're putting $6,000,000 to work. You know, let's say you get a a four x return on that. You go from six to 24. They're $1,818,000,000 dollars of proceeds. That's what you're you're working with in terms of the percentage of of economic upside that you can that you can capture as an entrepreneur. If you deploy $25,000,000 through zero acquisition or CCV model, you get a four x on that. You have $75,000,000 worth of, you know, of economic upside from which to draw the incentive pool or carry interest or whatever you want to call it. There's a fundamentally different economic opportunity that searchers are availing themselves to when they go down this path. [00:48:38] S0: What do you prefer as an investor when a talented individual coming to you, everything prepared? What do you guys prefer?
00:48:38 · Mikk, Greg Geronemus
[00:48:38] S0: What do you prefer as an investor when a talented individual coming to you, everything prepared? What do you guys prefer? [00:48:46] S1: It's a great question. And I think we're still sorting through that real time because this trend has really taken off in the last nine, twelve months. I would say if if a if a searcher comes to us and says... And has a a really, really excellent thesis, They have prior experience in that industry. They have a pipeline that they've developed with, you know, ideally a target, maybe two, that are... With which they're in advanced conversations. Maybe they've got one of them under LOI already. And there's significant industrial logic to combining a bunch of businesses, and they have a thoughtful integration plan as to how to do that. Think on balance, we'd probably prefer a committed capital vehicle. Absent all of those factors, we would prefer traditional search. So the the bar the bar is higher. You... There's more... A lot more prework that needs to get done. For a lot of folks, they're highly pedigreed with their work experience or MBA program. You know, they can sort of roll out of bed and raise search capital. You cannot do that with a committed capital vehicle, at least not at the moment.
00:50:15 · Mikk
[00:50:15] S0: Knowing you coming on the show, I I I posted the Knicks, like, what would people like to ask? And we covered most of the things, but some people got very specific. And you sort of answered this, but I'm I'm still putting it out. Like, if you were a talented 30 year old operator with 500,000, 500,000 in liquidity today, would you seriously consider self funded search or would you still choose traditional search? I know we covered a lot of it, but maybe there is something you would like to add.
00:50:48 · Greg Geronemus
[00:50:48] S1: Yeah. I've heard variations of this question over the years, and I've always found it a bit amusing. This idea that if you have money stashed away, I think the implication the implication behind the question is, if you have the money, shouldn't you do self funded search? Or at least that's how it's often asked by by people. My thought is that even if you have some money saved up, it doesn't it doesn't mean you should do self funded search. It only means that you can consider self funded search. So if you don't have the money stashed away, self funded search is off the table. If you have some money set aside, then that gives you the luxury of choosing which one is the better path for you. And as I talked about, I think there are serious drawbacks to self funded search. There are certainly drawbacks to traditional search. Ultimately, it's a personal decision. Is... Are you drawn to where's the greatest opportunity for economic upside, for professional development and mentoring and coaching? To me, that's obviously traditional search. It's a greater... It's a better path to making more money and growing more as a professional. If you're motivated by, you know, flexibility and autonomy and you have hard geographic constraints and the ownership split on some sort of personal or psychological level is really important to you, not about money you can make, but it's just important for you to be the... A majority owner in your business, then then go self funded. But it it really comes down to what you're trying to solve for. And I I I struggle with... You know, I... Sometimes I hear people say, it's about it's about dollars and money, and therefore, I'm doing self funded search. And I think that's that's a mistake. That... Because that... That's based on an incomplete picture. It... Again, it's sort of conflating ownership percentage with economic opportunity. The two are are not the same.