WHEN SUCCESS IS YOUR OWN WORST ENEMY: DEADLOCKED ON GROWTH AND ON SUCCESSION
SITUATION
The company was a phenomenal success. Several years back, seven emergency room physicians had been offered the opportunity to manage, staff and run (on an outsourced basis) the emergency room for a hospital at which they worked. The physicians learned that they could successfully run the entire emergency room, and by the time I was asked to help them with some “internal management issues,” they were the outsourced provider to seven local hospitals with more than 125 emergency physicians working for them.
Financially they were wildly successful—each owner making more than 20x what they had made as physicians, and owning a company that was valued well beyond even their dreams.
They faced two problems, however, that had become intractable and that had given rise to below-the-surface but intense emotions that were leading to operational dysfunction. First, to grow, they would need to manage hospital emergency rooms outside their local area. They had recently won the right to run their first out of state hospital emergency room, and running it was tearing the group apart. From prior experience, they knew it typically took about 18 months to stabilize and routinize operations at a new facility and make it cash flow positive. To do so required intense in-person onsite management from the seven owners themselves. They were having to spend weeks, even months at a time at this new facility away from family, their more familiar working environment and their new luxury lifestyle.
The CEO told me (a personal first for me in management) that to get his fellow owners to go to this facility, he had devolved into asking them how much additional money it would take for those owner(s) to manage the facility that month. And the number was getting larger by the month.
They could see that they needed to find someone else to operate, stabilize and grow out-of-state facilities. The fastest, easiest and most familiar way to solve that problem would be to train from within those individuals with sufficient entrepreneurial spirit to similarly expand a new remote beachhead hospital into a cluster of local client hospitals. To have these individuals relocate, often to rural out of state areas where hospital contracts likely would be won, would require additional financial and/or reputational incentives.
The second problem was that three of the owners were beginning to think of retirement and getting cashed out over the next two to three years. The younger owners, with smaller ownership interests, were not in favor of a sale to a strategic party or even sale of a partial interest to a private equity-type buyer. Either transaction, they feared, would result in a fundamental change in their culture and, more importantly, an impairment of their right to sit at the table in running the business. At the same time, they saw the upside possibilities to rolling out their business model to different parts of the country and confidently felt their business was at the base of a hockey stick. Their personal and financial rewards would be far greater if they could buy out the owners wanting to retire and then own and run the business themselves.
When the numbers were run, however, payout of even one retiring owner would increase substantially the risk of operating the business. If even one hospital contract were lost, existing cash flows would become constrained while payments still would have to be made to a financing lender or to any retiring owner(s) willing to finance the sale of their ownership interest with the company. And, any sense of losing ground, even short term, had become intolerable to them.
BACKSTORY
While these facts are presented straightforwardly, they were anything but clear when I began my work. The owners were angry, frustrated, not certain what they really wanted or how to get there, and they had become suspicious of each other and especially of those from the outside. Admitting new owners as a matter of company maturation had been simmering as a should-address concern for more than two years. Notwithstanding the work of several prior distinguished consultants, no solution could be agreed upon. The need to address the possibility of future out-of-state growth, however, was giving the issue greater importance.
Here is where their success had become its own worst enemy. The value of the company was so great that even a one percent ownership interest was multiples of any potential new owners’ current annual salary, and debt financing of a purchase was not sustainable. Miniscule ownership interests would not provide the necessary incentive, and transfer of meaningful ownership would occur at too slow a pace to accommodate the timing of the older owners seeking retirement.
OUTCOME
The interconnection of the need for growth also as a means to accomplish the retirement of the senior owners with the ability to find an acceptable way to have new minority owners that could obtain that growth were the pivotal issues that were not understood by the owners. The only way to pay for retiring owner(s) through an internal sale, without an unacceptable level of risk and actual hit to their cash flow and lifestyle, was to grow. With their local market offering no new opportunities, they would have to grow out of state. With none of the owners willing to make the personal sacrifice of time away from home to make that happen, finding a way to admit new owners that earned their way into ownership would be necessary.
Also unrecognized but deeply interconnected were additional salutary benefits to having new minority owners: (i) it would satisfy the increasingly vocal demands of their rising stars to own equity, thereby assuring star retention; (ii) knowing and training who would be running these facilities made the potentially retiring owners much more comfortable with the future of the business and greatly facilitated their willingness to have a not-insignificant portion of their buy-out paid by the company over time (i.e., they were willing to have portions of their buy-out seller financed); and (iii) the idea of an internal sale also appealed to the retiring owners’ strong desire for a recognizable legacy.
It took time for me to develop the owners’ trust in me and eventually with each other. I spent time with each owner separately, helping them articulate their concerns and describing for them various deal structures that could meet those concerns and goals.
When I felt that each owner had sufficient understanding of the various alternatives I was proposing, I brought them together in all-day meetings where, with my intervention and guidance, we were able to hash out the pros and cons of various deal structures and refinements of structures in a joint-problem solving mode of analysis, discussion and agreement. I was able to make each owner feel safe to explore options and, by understanding the ramifications of every deal point, also feel in control of the process and of the result.
With persistence, and working closely with their accountants and valuation experts, we developed a structure that: (i) allowed the owners to maintain control and financial discretion after admitting new owners; (ii) quantified and thereby made comprehensible and manageable the growth necessary to pay retiring owners their full buy-out amounts; (iii) protected minimum distributions to the remaining owners, while giving the retiring owners adequate participation in the future upside of the company should it be sold or a change-in-control occur; (iv) gave new owners an equity interest that was meaningful to incent and that did not violate the existing owners’ requirement that full payment be made; and (v) developed a program by which the newly admitted owners comfortably could purchase additional interests for an even more meaningful and transitional equity interest in the company.
The case is a classic example of the power of collaborative negotiation science: with active listening, the ability to instill trust, creative deal structure capability, and a collaborative negotiation skillset, the deadlock was broken, and the owners were able to find a way to: grow their company; allow senior owners to retire comfortably while feeling fairly treated; give younger owners a pathway to fully maximize the opportunity before them; admit new owners with meaningful ownership; and provide a roadmap for continuity of culture and purpose.
Take Away
Many business deadlocks can be broken through a combination of business acumen, deal structure creativity, and a created environment that allows collaborative negotiation to take root.
Case Studies
Renegotiating Contracts
remorseful buyer
Renegotiating Contracts
remorseful buyer
Renegotiating Contracts
remorseful buyer
Renegotiating Contracts
2019-11-05
Bitter Sale to Competitor
selling to competitors
Bitter Sale to Competitor
selling to competitors
Bitter Sale to Competitor
selling to competitors
Bitter Sale to Competitor
2019-11-05
Collections Case
raw refusal to pay
Collections Case
raw refusal to pay
Collections Case
raw refusal to pay
Collections Case
2019-11-05
Captive Supplier
contract renewal/sale
Captive Supplier
contract renewal/sale
Captive Supplier
contract renewal/sale
Captive Supplier
2019-11-05
Leveraged Negotiations empowers you to make the best decisions for your business through proven negotiation science, legal consult, and business strategy. We help individuals and organizations navigate critical situations and close essential transactions with success.