Episode 60– Create Wealth by Converting Client Relationships into Balance Sheet Assets – Member Case with Mike Stern

C54 member Mike Stern, CEO of Connected, shares insights on how to convert client relationships into appreciating assets to attract buyers for your firm.

TRANSCRIPT

Sean Magennis [00:00:15] Welcome to the Boutique with Collective 54, a podcast for founders and leaders of boutique professional services firms. Our goal with this show is to help you grow, scale and exit your firm bigger and faster. I’m Sean Magennis Collective 54 Advisory Board member and your host. On this episode, I will make the case that a key to attracting a buyer to purchase your firm is your ability to prove you have healthy client relationships. I’ll try to prove this theory by interviewing Mike Stern, CEO at Connected. Connected is a software product development firm founded in 2014 and headquartered in one of the most beautiful cities in the world. Downtown Toronto Connected was born out of the belief that a new category of firm was needed to help ambitious companies leverage the power of product, not a dev shop or a design agency or a strategic consultancy, but a uniquely integrated product development firm built for the long term and driven by a singular focus on realizing business impact through software powered products. You can find Mike at www.Connected.Io. Mike, great to see you and welcome. 

Mike Stern [00:01:41] Likewise, Sean. Thanks for having me here. 

Sean Magennis [00:01:43] It’s such a pleasure. So let’s start by getting you to give us an overview. Can you briefly share with the audience an example of how you have built a really healthy client relationship? 

Mike Stern [00:01:57] I think my favorite example is a client that we’ve been working with for six years now, so we’re a seven year old firm. And that means that they’ve been with us for the lion’s share and they’ve grown with us. They’ve seen us from our infant stage all the way to, you know, whatever we’re at today. Yes. And that’s that’s one of the reasons that that I like them. But let me just tell you a little bit about them. They are a consumer electronics company. We don’t share the names of our clients. Absolutely. I can assure you that the vast majority of your listeners own at least one of their products, and they have a long, long history of excellence in hardware engineering. But as software showed up and the internet showed up and connectivity and IoT showed up, they started to look around for some help to accelerate their learnings and help them compete in this kind of new software powered product world. And we were, I think, lucky to be at the right place, at the right time to start partnering with them early in their journey. And again early in our journey. And I think this particular client relationship is so special to us because they pushed us to get better and better and better, just as we pushed them to get better and better and better. And I think that is kind of quintessential about what great professional services client relationships are all about. Sometimes both clients and agencies think that it’s just a one way street. Yes, but really we’ve we built something symbiotic with them and and that’s been very fulfilling and it’s been, you know, profitable and helped us grow as a business as well. 

Sean Magennis [00:04:16] It’s outstanding, and I can only imagine that the reference ability of that client because you’ve developed so much and I would, I would probably say a very authentic because if they’re pushing you and you’re pushing them, that relationship that you’ve developed is is really a co-creation relationship in a way. Does that does that resonate? 

Mike Stern [00:04:37] Yes, it does. Yes it does. Some of our service offerings that we now go to market with today are the result of this client and and our team looking at new problems and coming up with creative solutions. Yes. And then, you know, allowing us to take those new service offerings to market and as we make those service offerings in the market even better than we can bring it back to this client and help them even more than than we did before. So it’s a great virtuous cycle 

Sean Magennis [00:05:12] Brilliant and congratulations. That is a perfect example to kick us off. So what I’d like to do is get your thoughts on some of the best practices that we recommend in this area. I’ll walk you through them one by one. Get your thoughts on each. And if you want to expand on them, just feel free to do so, Mike. So the first one is we contend that when getting ready to sell a boutique professional services firm, a buyer is purchasing your assets. One of your assets is your client relationships, and like all assets, they should be proactively managed and cared for so that they appreciate in value. What are your thoughts on this concept of the client as an asset of the business? 

Mike Stern [00:05:56] Well, first of all, I think it’s important for me to say just in case my team or my clients are listening. 

Sean Magennis [00:06:05] Absolutely. 

Mike Stern [00:06:06] I want to be clear that connected’s goal is not to sell. Yes, we have a uniquely long term vision with no plan of selling. But for all the other listeners, if you’re considering joining the collective, you know, I want you to know that I get so much value from this group, just simply helping me build a better firm. Yes. And and so I’d really recommend it. Thank you. Now, you know, of course, I can’t rule out that being part of another firm in the future won’t help us achieve our vision even more or help us achieve an even bigger or more exciting vision. But that’s not the plan. Yes. And so I think that’s important to. To state up front, but onto the question, so when I first heard this advice, I was actually really intrigued. You know, I think it makes sense conceptually, but like from an accounting and reporting perspective, like I was wondering, like, do firms that take this advice actually translate that into their balance sheet in terms of how they report? Like, of course, our clients are an important asset, just like our people or our IP. But I was intrigued and then I went to my CFO and I asked her about this and she hadn’t heard about it before. Yes. And so, yeah, frankly, you know, we we have not done this, but I’m curious to learn more about it, and I’m looking forward to conversations in the collective about it. 

Sean Magennis [00:07:50] Yeah. You know, and you bring up a really interesting point. You know, it’s not so much from a it’s not so much a financial putting it on the balance sheet as a financial category because that that’s not commonplace. It’s a it’s a mindset shift so that when you are creating the kind of value that one day whether you decide to sell your firm or not, but to create enterprise value, if you’re a partner model, you decide to bring in other members of your management team into it. It’s clearly being able to articulate an inventory. What are the value props behind your? Your business could be your service line, your product, your uniqueness, your specialty, the way that you go to market, the example that you just gave of the six year relationship. So you’ve articulated that really well, and I want to challenge our listeners. It’s not so much to put this in your in the financial context on your balance sheet, but truly think of your clients from an industry inventory perspective as assets and not just as you know, numbers on a balance sheet because there’s far more to it than that. There’s relationships, nuances, the push on both sides that you’ve articulated so well, Mike. So that’s great. I mean, you’ve expressed that really well. The second area that I’d like you to give your thoughts on is many boutiques have really good looking financial statements. However, when you peel the covers off, some generate most of their revenue and profits from a very small number of clients. So if one of those clients were to leave the, you know, the firm or the boutiques, financials would not look great. In fact, some of them would fall apart. So we recommend being sure not to have any single client concentration equal to more than 10 percent of the billings of a firm. What do you think of this idea? 

Mike Stern [00:09:43] 100 percent agree. And I think it’s very related to the earlier point you made around clients as an asset in your mindset. Yes. Maybe not on your reporting. Like I said, we’re a seven year old firm. And I’ll share that at one point. Not too long ago, we had 85 percent concentration in just two clients. Wow. The one I spoke about before was one of them. Yes. And. In those early years, building up to where we are today, which is about one hundred and sixty five people, we were kind of fooled into thinking that we had grown up as a firm because even back then we were already, you know, over 100 people. And so we had reached that scale quickly. And a lot of folks on the outside, friends, family, they would be so impressed. But I knew that we still had so many eggs, so to speak, in just so few baskets, right? And again, this was only three years ago. So we we grew up through, you know, four years. But with that much concentration and of course, like I said, even though we looked kind of bulletproof from the outside, I hardly slept at night, you know, thinking, Oh, I know that feeling. What if? What if one or or God forbid, both clients went away? Yes. Now what’s interesting is that as an owner, I think it’s actually pretty easy to understand and feel this risk, whereas for an employee, it’s not always that obvious. Yes. And in our case, not only did we. Not only did we need to figure out how to diversify and build a scalable growth engine and build a scalable service model. We actually had to fight kind of an internal cultural inertia. Yes, as we look to diversify it, we had we had some even senior leaders who liked just having a couple of clients. Right. And that was as hard to overcome as as everything else. So, you know, on balance, we also had a lot of practitioners who wanted more from connected than just to clients to get exposure to actually. And like I said, also before we had, you know, those two clients wanted us to be more scalable to to be more sustainable and so that we could be able to bring more of that knowledge back to them, too. So working with multiple clients across multiple markets and across multiple technology platforms, I think is a big reason employees want to work at connected versus, you know, one of our our client organizations, and it’s a big reason we get hired in the first place. So long story short, I 100 percent agree that creating diversification discipline is essential yes, to creating a sustainable firm. Yes. And I think it’s also about realizing a lot of other benefits for our people and our clients. And so for me, at least right now and in my stage of business, I think it’s the most important organizational capability that matters. And the trick is to, you know, make sure you’re treating your existing clients like assets, not just always looking at the new client because diversification doesn’t mean getting good at landing new logos. It means getting good at doing both, keeping existing clients happy and helping them and getting better and better with them and landing new clients. And so that’s what we’re really focused on right now. Connected. 

Sean Magennis [00:13:37] You know, that’s brilliant, and you’ve touched on a couple of things that we’re going to get to in some of these other questions that I’m going to pose you and you know, you’ve articulated so well some of the, you know, the luxuries of only having two or three as you get really used to working with those clients, they become familiar. The risk is, is that, you know, you have relationships, maybe not at the institutional level and all of the things that you’ve just driven. So the third example and you led with this is tenure of relationships. So boutiques that generate billings from clients for years are very attractive. So this suggests that the client relationships are strong. If the boutique did not deliver value, clients would churn. They’d go elsewhere. And so a rule of thumb that we recommend is that the average client tenure should be three years or more. What is your opinion on that? 

Mike Stern [00:14:30] Yeah, another hundred percent agree. You know, and and I think it’s a it’s it’s a good principle. Yes. And of course, you want long term partnerships, not just financially, because it’s a better way to build a long term business and it’s more fulfilling. Like I said earlier, I mean, if you look at your life and you take stock of the relationships that have been most meaningful, they’re usually those that have lasted and the benefits have compounded in mutually beneficial ways. And so I think it’s the same in in professional services. There’s a little bit of nuance, of course, in that are firms. You know, I remember when I heard this, I was thinking she would like some of some of the current clients that I, you know, I think, are really the future of our firm. We’ve only been with them for one year or two years. And so I think younger firms need to figure out who they are and they need time to figure out who they are and who their ideal customers are. Yes. One of the patterns of great professional services firms that I’ve looked at is that they’ve they’ve, you know, they’ve they’ve had some stumbles figuring out who not to work with. Precisely. Yeah. Trial and error. And so, you know, I think it’s a great principle. But the exceptions are, you know what, what maybe proves the rule and you know, you shouldn’t you shouldn’t try to make every client a three year plus relationship. You should try to make the right clients three year plus relationships. And yeah, and that’s that’s something that you know again, you know, it’s very much part of what we’re what we’re working through right now, connected because we want to we want to keep our current clients for the very long term. Yes. And I think we finally found out who they they ought to be. 

Sean Magennis [00:16:39] And, you know, helping them, like you’ve said with identifying their ideal customers, helping them go through that, maybe giving them some benefit of your experience with the pain of other clients when they had similar challenges? That’s what I know you were getting at as part of your, you know, co-creation symbiotic relationship. Because you know what we have found at Collective 54. You know, we can help owners of boutique professional services firms not pay what we call the dumb tax. You know, share with you through a peer based, you know, methodology. I’ve been through this. I’ve been through at this particular pain. You don’t have to go through it quite the way I did to still get the learning and the and the benefit of the wisdom from it. So yes, thank you. That was great. The fourth one and this is also in the context of creating enterprise value for a boutique professional services firm that may one day consider selling is another meant measure of client relationship is what we call client quality. So, for instance, if your boutique generates its billings from start ups or new companies that haven’t quite figured it out, it may discourage a potential buyer from, you know, making an offer on your business. Start ups typically have a higher failure rate. Revenue from that segment may be unreliable as they figuring things out. In contrast, if you’re boutique generates its billings from the Fortune 500 or from larger enterprise players, it would encourage buyers and large enterprises are unlikely to disappear overnight. Revenues from that segment can be and are typically more reliable. What are your thoughts about this? And I know it’s a nuanced question. 

Mike Stern [00:18:26] I agree. You know, rapid growth start ups can look great from the outside or even not rapidly growing startups try to make themselves look great from the outside. Yes, but they’re usually, you know, really chaotic and less reliable than not. Mm-Hmm. And I say usually because statistically, they usually are more chaotic and less reliable. But of course, a few of them, you know, a few percentage points of all start ups, you know, of course, become, you know, the biggest companies in the marketplace over time. And so I think firms get getting a lot of trouble here if they try to work with too many startups or if they try to get too fancy on choosing the right startup or even taking equity, getting into, you know, our accounts receivable troubles. Yes. And so I’m not totally against it. Connected work with some startups usually past Series A Yes, but I’m I do want to express caution to other boutique owners are probably running startup boutiques themselves that you should tread carefully and read and make sure you’re not concentrating too much of your your your energy in that segment. And that personally, I found it. It is a segment where it can be a great place to learn, a great place to try out new offerings and to work at a clip like at a speed that is maybe faster than what larger clients might be used to. And so there’s those benefits in a number of other ones that I found from working with really, really early stage companies. But unless unless you really figured out how to, you know, pick the right ones and address a lot of the inherent issues with with that segment of customer, I think it’s important that you tread carefully and you don’t put all your eggs in one basket. 

Sean Magennis [00:20:58] Yeah, I completely agree. And then finally, a risk that, you know, again, in the context of somebody looking at the value of a firm, a key driver is employee turnover. Sometimes a key client relationship sits with a key employee. And so even from managing a firm, you know, I would want to know that these relationships are with the company, not necessarily with the employee. What do you think about this concept? 

Mike Stern [00:21:29] Yeah, I think I think it’s a really important point, and especially right now, we’re in this moment that people are describing as the great resignation. 

Sean Magennis [00:21:39] Yes, I’ve heard the term a lot. 

Mike Stern [00:21:41] Yeah. So every leader I speak with is experience experiencing more turnover than ever and up and down the organization and a lot of places where they didn’t expect. And I think it’s exposing a lot of cracks and a lot of fragility. Yes, in a lot of places, but one of them is certainly in client relationships. And so, you know, I think I think it’s really, really important that boutique owners and operators are thinking very hard about this. This advice. Yes. Sure. When I when I heard this advice, I was torn, you know, I kind of, on one hand, felt that, yes, you know, institutionalizing client relationships and diversifying the key contacts across different places in the organization is important and creating systems and CRMs and all of that great stuff to to to, you know, to to to de-risk, you know, this aspect is important. But on the other hand, you know, I think it’s really important, especially in technology services. Yeah, that you remember that you know, you’re in client service and and it is about relationships and you want, I think, as an owner and operator to advocate for deeper personal connections with clients and that that’s really, really important. And great relationships drive firm value to exactly and create more meaningful work for practitioners and more meaningful long term career relationships for practitioners. And so I think it’s another place where there’s nuance and balance and, you know, it’s a bit of art and science. It is to encourage and empower. This is closeness while doing it in a way that doesn’t lead to single points of failure. 

Sean Magennis [00:23:32] Yeah. And it’s a great risk mitigation strategy. And, you know, things like culture and, you know, the kind of environment that you set up and all of those things play in. Mike, this has been phenomenal. Your insights have really added to, you know, what we have found to be recommended practices. So this brings us to the end of the episode. Let’s try to help listeners apply this. I’ve prepared a 10 question yes, no checklist. And I ask our listeners, ask yourself these 10 questions. If you answer yes to eight or more of these questions, you can prove you have healthy client relationships. Mike’s graciously agreed to be our peer example today. So, Mike, just simply answer yes or no to each of these questions as I take you through them. 

Sean Magennis [00:24:18] So, number one, are your client relationships. This is nuanced, an asset on your balance sheet, or I’ll add in your mindset? 

Mike Stern [00:24:28] Not on our balance sheet, but yes, in our mind set fantastic. 

Sean Magennis [00:24:32] Number two, is this asset appreciating in value? 

Mike Stern [00:24:38] Yes. 

Sean Magennis [00:24:40] Do you have a diversified client base with no one client worth more than 10 percent of revenue? 

Mike Stern [00:24:47] We are on our way, but we’re not quite at 10 percent yet. 

Sean Magennis [00:24:52] But that’s I mean, I heard everything you said, that’s a goal and I commend you for it. That’s really key. Number four. Does the tenure of your client relationships exceed three years? 

Mike Stern [00:25:05] Yes, some of our best clients. Absolutely, and we hope that our current ones as well. 

Sean Magennis [00:25:13] Are your clients business stable? 

Mike Stern [00:25:18] Yes. 

Sean Magennis [00:25:19] Number six, are your clients end relationships stable, so are their clients stable? 

Mike Stern [00:25:25] Yes. 

Sean Magennis [00:25:26] Number seven, do you have account plans? 

Mike Stern [00:25:30] Yes. 

Sean Magennis [00:25:31] Number eight, have you institutionalized your client relationships into a customer relationship management system? 

Mike Stern [00:25:39] Yes. 

Sean Magennis [00:25:40] Number nine, the client relationships with the firm and not with the key employee? 

Mike Stern [00:25:48] They are with the firm and with the employees. 

Sean Magennis [00:25:52] Excellent answer. Number ten, will the billings from your client relationships stay when the key employee quits? 

Mike Stern [00:26:01] We would hope so. 

Sean Magennis [00:26:03] We would all hope so. So thank you. If you answered yes to eight or more of these questions, you’ve got an excellent client relationship. This will make you extremely attractive not only to hire employees to a potential buyer as well as to your clients. So client relationships are an asset. Like other assets, some relationships appreciate in value and others depreciate. Appreciating client relationships will increase the value of your firm. Depreciating client relationships will decrease the value of your firm. So when trying to build value and or exit for a great price, please bullet proof your client relationships. I cannot emphasize that enough. Mike, thank you for sharing your wisdom. It’s always great to be with you.

Thank you for being part of Collective 54 and for our listeners, if you enjoyed the show and want to learn more. Pick up a copy of the book The Boutique How to Start, Scale and Sell the professional services firm written by Collective 54 founder Greg Alexander.

And for more expert support, check out Collective 54, the first mastermind community for founders and leaders of boutique professional services firms. Collective 54 will help you grow, scale and exit your firm bigger and faster.

Go to Collective54.com to learn more.

Thank you for listening. 

Episode 59 – Competitors: The 5 Competitors Boutiques Must Defeat to Grow – Member Case with Mark Riggs

There are 5 competitors’ boutique professional services firms must defeat to grow.  
Mark Riggs, CEO & Lead Strategist for Pemberton shares insights to win.

TRANSCRIPT

Sean Magennis [00:00:16] Welcome to the Boutique with Collective 54, a podcast for founders and leaders of boutique professional services firms. Our goal with this show is to help you grow, scale and exit your firm bigger and faster. I’m Sean Magennis, Collective 54 Advisory Board Member, and your host. On this episode, I will make the case that there are five competitors boutiques must defeat to grow. I’ll try to prove this theory by interviewing Mark Riggs, CEO and lead strategist for Pemberton. Pemberton helps liberate marketing, PR and communications agencies, as well as consultants across a variety of industries from the dreaded RFP. Turning over clients and chasing RFP doesn’t have to be that way. There is a better, smarter, more sustainable and satisfying way Mike counsels clients and growing their business by focusing on the clients they already have, rather than continually wooing new ones. Check out his podcast Agency Insurgents. Mark, great to see you. Welcome. 

Mark Riggs [00:01:29] Thank you, Sean. Thanks for having me. 

Sean Magennis [00:01:31] It’s a real pleasure. Mark, let’s start with an overview. Can you briefly share with the audience an example of how you’ve experienced and overcome competition? 

Mark Riggs [00:01:43] Yeah, I mean, you know, it’s so funny when I read the Chapter Chapter three in the book, you know, we talk about the cost of inaction. You know, for us, when we first started this company, that was a real challenge and that we, you know, it was it was a nice to have, you know, but we had to we had to find that pain pill, right? So for us, we came up with the cost of inaction calculator. Very good with now with agencies and say, Hey, listen, this is the actual amount of money that you’re either leaving on the table, especially the small and mid-sized agency Sean, that we work with. Yes, you know, those agency owners have a horizon in their mind, right, that they have a time horizon and they have a number in mind so we can ask just a few questions. And we’ve developed this calculator and say, Hey, listen, this is how many, you know, new clients over the course of your five year horizon, you would have to win per per year per month. And it just becomes an overwhelming number. And once you’ve illustrated form that way, their eyes really bulge. You’re like, you know, I didn’t realize, you know, we can’t get there along with new business, and we say, Well, hey, how? How do we get there? And it’s in as revenue expansion. 

Sean Magennis [00:02:56] Fantastic. 

Mark Riggs [00:02:57] So that’s the way we wrote it out. 

Sean Magennis [00:02:59] That’s obviously become a major competitive differentiator for you, Mark. 

Mark Riggs [00:03:04] Yeah, it has I mean, we’d like to think we’re a category one child, but, you know, I’m sure that we haven’t been able to pinpoint just yet. Yes. Other companies who do what we do, I don’t think they do it the way we do it. But you know, whether it’s the number of new clients, you would have to win about a thousand. All right. You’d have to win every opportunity that you find. You’d have to find the opportunities have no attrition. Yes. Over the course of time. But then when you calculate attrition, they really they realize like, you know, gosh, I’m not going to get better with net new business alone. And it has become an advantage for us. And since we’ve been able to develop this calculator, I can ask a potential client for questions and illustrate to them, you know, we can come up with what we call the prime number here based on the percentage. This is how much faster we can get you to your horizon goal with revenue expansion and taking that approach and really making it a priority as opposed to happenstance. And when we do that, it’s it’s definitely increased our win rate for sure. 

Sean Magennis [00:04:10] Outstanding. That’s a brilliant example, mark. Thank you. So I’d like to get your thoughts and some of the best practices we recommend in this area. We’ve identified five competitors in order of importance based on the frequency they show up in sales campaigns that we’re aware of. The first is do nothing. So this is a project that went away because of a competing client priority. The second is internal resources. So this is an internal client staff who think they can do what you do better than you do it and for free in inverted commas. The third is boutiques. So these are firms like yours in size and specialty, the fourth are market leaders. So these are the mega firms that have the offerings in your niche. And then there’s other. So this is the other ways clients can solve the problem. Often there’s more than one way to skin the cat, obviously. So I’ll walk you through them one by one and get your thoughts on each. So the first one do nothing. So this is, you know, 40 per cent of deals, whether you know it or not. And the way to beat do nothing is to calculate the cost of inaction. And you said this earlier, this dollar figure will prove to the client that your project deserves their full attention. It’s a priority. So what do you think of this concept? 

Mark Riggs [00:05:33] Its spot on in the especially in our industry when it comes to public relations advertising agencies, right? We’re all busy all the time. There’s never a good time to start any sort of focused initiative. And so early on, what we found is, you know, this sounds great, guys, and this would be awesome to have. But you know, right, right now is not the time where we’re really busy with new business. We’re really busy with onboarding clients, et cetera. So we had to find, you know, that pain pill and the pain pills pointing out to them, I know you have business goals. You know, we’re in business too, especially in the agency business. We typically have this subservient attitude towards our clients, right, that we work for them when we’re in business too. We’re here to make money. And so we try to point that out to them. And that cost of inaction calculator allows us to do that. But we had to come up with that because it really poured people’s attention. And yeah, so. So doing nothing will get you nothing right? And so we try to point that out. 

Sean Magennis [00:06:36] Thank you. So the next one is internal resources. So as a reminder, it’s internal client staff, and I realize it’s weird to think about the client as a competitor, but they are about 30 per cent of the time. And the way to defeat them is to establish a deadline that the project needs to be completed by. So what’s your opinion of this? 

Mark Riggs [00:07:00] Well, you are giving them that, you know, defining the horizon, right? You know, when do you want to walk out of here? When do you want to sell? When do you want to pass this on to your children, whatever that may be? That’s one way. Yes. The other way is, you know, every agency we speak to, Sean says, Oh, we already do that. You know, we grow our business, right? But when you take a hard look at it, a lot of that happens through happenstance. You know, in our joke is that we’re a society of liberal arts vendors. You know, unless you’re the CFO or the CEO, you really don’t know how to rub two numbers together. And because you’re really good at churning butter, they eventually plate. you’re in charge of all the butter turners, so you get the VP level in the agency world. And all of a sudden you’ve got all these business you are responsible for. No one’s taught us that. Mm hmm. So our whole concept is let’s teach people the business of the agency before they’re in a position of responsibility. Right? And so if we can take that action, it becomes a very purposeful thing. And then, you know, most agencies have those handful of what we would call hunters. You know, typically we have hunters and farmers in our business. Yes. And you know, I encourage CEOs and COOs or get their senior staff as an investment portfolio. You know, you have assets and you have liabilities. Yup. The assets are the ones who are generating revenue. Hmm. The liabilities are those SDP EVPs, who have gotten to a position because they were really good at something. But are they generating revenue for your business? And we all know when you look at your investment portfolio, if there is a liability, those are things that are easy to cut. So as opposed to having five assets in the portfolio, let’s create a portfolio of 10 15 assets, right? Let’s teach people to grow business. And so we like to think we bridge the gap between hunters and farmers. 

Sean Magennis [00:08:51] I love that, Mike. I love that concept. You know, we have a concept, you know, where every member of your team should be an asset on your balance sheet, particularly when you’re thinking of selling your business one day. So what I took away from that is defining the horizon and look at every member of your staff as an important portfolio asset. I love that. So the third one is boutiques. So these are firms like yours in size and specialty. And our recommendation is offering your client a money back guarantee for any reason. No questions asked. Have you seen that? What do you think of that? 

Mark Riggs [00:09:28] We don’t do that. It’s a tough one right there. Yeah, we like to. We haven’t gotten there yet, but we are confident guaranteeing results. You know, when we first started this business, the tip of the spear was organic growth. Let’s grow the revenue. Yes, right? And as a byproduct of that, what we saw was personnel growth, human growth, executive growth rate. So as we’ve grown, we’ve kind of twisted that approach a little bit to let’s focus on the growth of the person in the in the team. And if we can focus on their growth as an executive, as a hunter, right, the new business will come. Now there are opportunities to come along and say, Hey, did you hear something? This is the this is an opportunity. Yes. But you know, we we feel like if we can do that right, what helps us differentiate ourselves from different boutiques that might do something similar to us is we don’t do train the trainer we don’t do. And after a full day training, as you and I probably both step in those trainings and you learn something great. Yeah. And then 48 hours later that it hits the fan and muscle memory takes over. Mm hmm. So our differentiator is we will only work with agencies who are willing to invest three to six months, at least in working with these executive, these teams, to change the muscle memory that makes them. Yeah, because we’ve been taught and account management to bend over backwards. Right? You know, do whatever it takes to keep them happy. So we got to change some of that muscle memory. 

Sean Magennis [00:11:04] That makes total sense. The fourth one is market leaders. So these are the mega firms. They have offerings in your niche. You’ll run into mega firms only we we see about five per cent of the time. However, these are sizable deals and they can make or break a year. So what do you think of this? 

Mark Riggs [00:11:25] Honestly Sean, in terms of what we do, we haven’t run into that a lot. I think where we run into that is the mega holding companies, right? The IPG is the the omni columns. They have some of these resources built in. Yes. And so it’s it’s the idea of convincing them that we can help mitigate attrition because to them, their businesses are going to grow. They’re moving so fast from a new business perspective. But if they’re having to replace 30 or 40 percent of their business every year, you know, I can help get you. Pemberton can help get you to a spot of, you know what? Maybe it’s going to be five percent attrition because we’ve grown the existing accounts. So you’re not starting out so far back every year, year over year. So there are agencies or companies out there who who touch organic growth, that type of thing. Mm-Hmm. But we really haven’t run into that Bain or McKinsey, and I’m sure they may do some of this right. Their focus is on the marketing communications industry. And so it’s kind of wide open for us. It’s just a matter of getting in front of the right people and pointing out their pain and saying We’ve got a pain pill. 

Sean Magennis [00:12:35] And knowing distinctly your market, which I’m hearing clearly from you. So the final one is other. So this is the other ways clients can solve the problem. So clients often think they can solve a problem by firing somebody recruiting new talent, and we recommend beating other by doing a postmortem. So highlighting to the client and you’ve shared some of this the last time they took this approach, it didn’t work. So what else in this area can you share with the audience? 

Mark Riggs [00:13:06] Well, it’s very easy to look year over year, quarter over quarter of the impact of a client, especially if you’ve had a client for more than 24 months, right? I’ve had a client for more than 24 months, and I can I can identify the trends, the ebbs and flows. And were we able to fill in some of those gaps? Some level it out, right? Yes. Well, the other thing we were able to do from a postmortem standpoint is in the very beginning of our engagements, we do a senior leader. Scorecard. Mm-Hmm. So we have five criteria that these senior leaders have scored on, and we also do a proactive mis appraisal. Well, like that. So in our in our business, oftentimes we’re very reactive to the to the client. We have up the order taker type role and really that’s our fault and we let that happen. So for us from a postmortem, it’s either I can look distinctly at the revenue it has. The revenue changed as a number of opportunities with that client changed. Mm-Hmm. And I can score your people based on the senior leadership scorecard and the prior fitness appraisal and say, you know, here’s where they were deficient or we’re not confident, right? And we can go back and look, say after working with them for six months. Has that changed? And so it’s revenue, but it’s also the human growth because for us, it’s about sustained growth. Mm-Hmm. When they start working with Pemberton, we walk away from them. We want to be able to Sure progress and leave them in a good place. But what we have found is right. So when we started this, we said, Hey, three to six months of wear out, right? You know, but as I’m growing a company that I would like to sell next Sunday, yes, you know, how do I get recurring business? And so someone pointed out to me that, you know, hey, listen, after six months, an agency’s problems are not completely solved. They constantly have problems and challenges. So what we have done is we have morphed into other avenues that really the organic growth, the human growth is our Trojan horse. Yes, we can get in there. We can make an impact. We’re pleasant to work with. We develop deep relationships over the course of working with somebody, you know. Yes, we try to show them exactly what we’re preaching, which is deepening relationship with clients. And what that allows us to do is get into other challenges. 

Sean Magennis [00:15:22] Outstanding, Mark. Really, that’s you know, these additional insights to what we’re seeing is as recommendations are exceptional. So, Mark, thank you. This takes us to the end of the episode. Let’s let’s try to help listeners apply this. So we end each show with a tool. We do so because this allows the listener to apply the lessons to his or her firm. And our preferred tool is a checklist, a style of checklist as a yes, no questionnaire. We aim to keep it simple by asking only 10 questions in this instance. If you answered yes to eight or more of these questions, you’re on your way to defeating your competitors. If you answered no too many times, lack of a strategy to defeat your competitors is likely getting in the way of closing more business. So Mark has graciously agreed to be our peer example today, and I’ll ask Mark the yes no question so we can learn from his example. Let’s begin. 

Sean Magennis [00:16:23] Number one. Can you calculate a client’s cost of inaction? 

Mark Riggs [00:16:29] Yes. 

Sean Magennis [00:16:30] Number two, can you find a compelling event that puts a deadline or horizon on the client’s project? 

Mark Riggs [00:16:39] Yes. 

Sean Magennis [00:16:40] Number three. Are you confident enough to guarantee your work? 

Mark Riggs [00:16:46] Yes. 

Sean Magennis [00:16:47] Number four, can you establish credibility in the eyes of the client? 

Mark Riggs [00:16:54] Yes, and I will expound on that one just Sean. You know, it’s we don’t hire any consultant who hasn’t been the agency business for more than 20 years. It’s hard to walk into any agency without some sort of gravitas, yes. And say, Let me show you how I’ve done it in the past, I’ve taken accounts and grow them into multimillion dollar accounts. So the answer is yes. But there’s there’s some specifics there. 

Sean Magennis [00:17:19] Excellent. Excellent. Number five, can you signal quality to the client by delivering a best in class proposal? 

Mark Riggs [00:17:29] Yes. 

Sean Magennis [00:17:30] Number six, can you deliver much faster than the market leaders in your niche? 

Mark Riggs [00:17:36] No. But let me expand there again. You know, like I pointed out, this is about sustained growth. Yes. This is about changing muscle memory. So while someone else may come in and immediately point out an opportunity and they’re upselling, our approach is solved dont sell. On solving problems, should take care of itself. So for us, it’s not about speed. It’s about sustainability. 

Sean Magennis [00:17:59] Excellent. And every situation is different. Every client engagement is nuanced. The services are different. So thank you. I get that. Number seven, can you earn healthy margins and still be 25 percent less than the market leaders? 

Mark Riggs [00:18:16] We believe so, yes. 

Sean Magennis [00:18:19] Are you more enjoyable to work with than the market leaders? 

Mark Riggs [00:18:24] Yes, we are in fact pointing that out every time we start working with a new client, the we’re going to have a lot of fun. We’re going to do a lot of laughing. We get to know them very well. And again, we like it. You know, you have to have empathy for your client. They have lives, they have things going on, too, so but but but yes, we have a lot of fun. 

Sean Magennis [00:18:43] Fantastic. Number nine, do you understand the alternative solutions to the problem you’re addressing? 

Mark Riggs [00:18:51] Yes, assets versus liabilities, happenstance. Attrition. Absolutely. 

Sean Magennis [00:18:58] And number 10, will a postmortem revealed to the client that these alternatives have a poor track record? 

Mark Riggs [00:19:05] Yes. 

Sean Magennis [00:19:07] Mark, fantastic. In summary, a boutique must win a high percentage of the time they are not in enough deals to allow for many deals to be lost. No one wins every deal, but that should be the goal by establishing a competitive playbook. You can make sure you can beat the competition. Huge thanks again, Mark, for sharing your expertize today. If you enjoyed the show and want to learn more, pick up a copy of the book The Boutique How to Start, Scale and Sell the Professional Services Firm. Written by Collective 54 founder Greg Alexander.

And for more expert support. Check out Collective 54, the first mastermind community for founders and leaders of boutique professional services firms. Collective 54 will help you grow, scale and exit your firm bigger and faster.

Go to Collective54.com to learn more.

Thank you for listening.

Episode 58 – Growth Rate: The Ultimate BS Detector – Member Case with Darren Isaacs and Paul Emery

Your growth rate is important than the size of your firm. It is more important than your client roster, and it is more important than your service offerings. On this episode, we interview Darren Isaacs, Co-Founder and CEO, and Paul Emery, Co-Founder at Makosi.  

Transcript

Sean Magennis [00:00:15] Welcome to the Boutique with Collective 54, a podcast for founders and leaders of boutique professional services firms. Our goal with this show is to help you grow, scale and exit your firm bigger and faster. I’m Sean Magennis Collective 54 Advisory Board member and your host. On this episode, I will make the case that your rate of growth is your most important number. It’s more important than the size of your firm. It is more important than your client roster, and it’s more important than your service offerings. Potential acquirers want to see strong growth in both top line revenue and bottom line profits. I’ll try to prove this theory by interviewing Darren Isaacs, co-founder and CEO, and Paul Emery, co-founder at Makosi. Makosi helps audit firms drive growth, improve profitability and pursue important strategic goals by delivering an on demand audit workforce backed by their technology and their proven process. You can find them at Makosi M-A-K-O-S-I dot com. So Darren and Paul, great to see you both and welcome. 

Darren Isaacs [00:01:33] Sean, appreciate it. 

Paul Emery [00:01:35] Thank you. 

Sean Magennis [00:01:36] So let’s start with an overview, Darren, I’m going to call on you. So can you briefly share with the audience an example of why the rate of growth is such an important number? 

Darren Isaacs [00:01:47] Sure, I think you know, the saying used to be that if you’re not growing you, you’re dying? And so it’s really important to understand what market dynamics might actually be driving growth and also to ensure that your growth exceeds that of your competitors because of a long enough period of time. If you’re growing slower than your competitors. You are really slowly having your  lunch eaten, so you know they pay attention to how your competitors are faring in that equivalent market. Yup. And it’s also important to consider not only your rates of growth against your competitors, but also what that growth means for cash flow, infrastructure compliance and other things that go along with that growth. 

Sean Magennis [00:02:30] Fantastic. And we’re going to dove into those questions, but that’s a really good distinction. So making sure that your growth exceeds the growth of your competitors. So I’d like to get your both of your thoughts on some of the best ways to demonstrate growth in the context of a potential investor. The five specific things I’ll walk you through and get your thoughts on each. I’ll ask one of you to tackle an item and then I’ll rotate to the other. So the first one is the first thing to understand is what does good growth look like from the perspective of the investor? Darren, what are your thoughts on this concept? 

Darren Isaacs [00:03:09] I think an investor really wants to see a long track record of consistent and sustainable growth of revenue, but they’ll also pay very careful attention to how gross margins have fared over those years as well. There are also various inflection points along that path of growth that come into play again, particularly with respect to two to non-revenue generating infrastructure and people, so revenues and net margins should be growing together. Yes, and they should also be clear, defined as of the scalable expenses you know, as as as growth is, is ensuing. 

Sean Magennis [00:03:50] Excellent. Thank you. So the second one is we advocate a five to 10 year track record of consistent revenue and profit growth. And you’ve alluded to some of that. Paul, what’s your opinion on this concept of sustainability? 

Paul Emery [00:04:05] Yeah, I think from the perspective of Makosi, we’ve gone through like hyper growth over the last three years and and it’s something that we’re like very, very conscious about in terms of because we’ve gone through four digit growth numbers over the last 12 months, which is a lovely tagline. I think when you speak to investors, and it gets a lot of grins, a lot of big eyes, kind of rubbing of the hands into it. That’s great. But you know, from when you get to the stage of due diligence and you’re looking back, you’re like, all hang on a minute. Is this sustainable? Yes. So I think for us, we understand that, and I think that that’s kind of like our transition or an inflection point where we remain right now is that we’ve been focused on grabbing as much market share as possible over the last three years. And now we need to kind of transition from revenue growth to just really focusing on that profitability piece. So we have a consistent record over time. Yes. And especially for firms that are in hyper growth, I think you need to be hyper vigilant around that service offering. And at what point is it going to start slowing down? And do you have other strategies in play in order to kind of continue growth into the future over a five, 10, 15 or 20 year period? So you know what? That’s exactly where we’re at right now. It’s like, Okay, it’s great. We’ve had an awesome ride over the next three years, but is this just transition now to really say, OK, this part of the business is growing really fast, but how are we setting up three or four others under that umbrella to continue that growth into the future and make it sustainable? And I think for the founders, you like that rocket ship, you like that uncertainty. You like that chaos that comes along with all of it. But to transition the company from the grow to scale stage, yes, it needs that next level of professionalization. And that’s something that we’ve been working very, very hard on. And so transitioning from five to a track record of consistent revenue growth, I think it’s something that we’re looking at is like, OK, maybe we don’t have the skills internally to have that set building up management team really kind of doing some self-reflection on things of that. So it’s. It seems very simple, right, to say, OK, we need to get five to 10 years worth of consistent growth, but it always comes a little bit trippy because you are having to do a lot of internal reflection to speak. Speaking of profound is what our unique ability to do that sort of stuff. 

Sean Magennis [00:06:43] Fine tuning, building your team, you know, tweaking all the elements that an investor is going to look at. Yeah, you’ve hit the nail on the head there. So when our firm Capital 54, is considering making an investment or we’re doing advisory, we look at the following and I acknowledge these are incredibly high bars. And you know, not all. It’s not an apples to apples, but we look at a 20 to 30 percent top line growth, a 70-80 percent gross margin and a 30 to 40 percent net margin. Darren, what are your thoughts on these benchmarks and be open, you know, I mean, this is real talk that we’re having now. 

Darren Isaacs [00:07:23] So, I mean, pretty, pretty extreme numbers there, and I guess I agree with your thesis on top line growth and in fact, that that might even be a bit conservative in this COVID world. Yes. You know, I also agree on the net margin front, but maybe where I differ is on the gross margin front. So the first and I really generalize, I think that margins at those levels are potentially unsustainable in this new gig world. Mm-Hmm. You know, with access to global to, you know, to skills on a global scale. And then secondly, I’d be more interested in firms who are strategically positioned to grow those, those gross margins. So over time, this. Yeah, exactly. And know, unfortunately, I have this curse of being an accountant. So, you know,  those opportunities aren’t always, you know, visible in the actual numbers. Right. It’s really important to kind of dig into the strategy of that business and understand what the opportunities of the growing gross margins think. Things like automation to tech enable your service delivery. And so, you know, how are investors looking at strategy and seeing how this firm is going to grow out, you know? Rev Yes, grow gross margins even  faster. And it’s really a kind of a multiple from a strategy point of view. 

Sean Magennis [00:08:50] I like that and you know, my view is these are targets. You know, these are nice to have. It may not be real. And your example of the impact of the new gig economy businesses is very accurate. I think the important thing and Paul said it earlier, is to have some comparisons. Look at what your competitors are doing because that will give you a leading indicator, at least a benchmark. So thank you. That’s really great. The fourth one we recommend, including profit growth in our list of due diligence requirements. Many young firms don’t focus on profit growth. They spend their time focusing on and obsessing over top line revenue, and they haven’t decoupled their revenue growth from their headcount headcount growth. Paul, any thoughts or opinions on that? 

Paul Emery [00:09:43] Yeah, I mean, this question strikes very close to home. 

Sean Magennis [00:09:47] It’s your business. 

Paul Emery [00:09:48] In that gross stage where we were very, just focused on revenue. And so we built on what we call our advisory board, but it’s essentially we monetize a kind of ex-partners Rolodexes. And it was and it was great to kind of grab market share in a very rapid way. But as we kind of transition from revenue focused to profit focus with our growth, it’s that transition and making sure you have having those kind of big conversations and your kind of bolstering the organization to kind of address those issues because if you cut it, don’t get ahead of that and you kind of keep operating in that grow operation, that kind of growth mindset. It can kind of really, really hurt you because we’ve been going through such a rate of growth that, like a lot of our support functions, like our finance functions, operations functions have really struggled to keep up with the sales in the business development of the business. And so we’ve lacked a lot of transparency into those numbers to be able to say actually what we’re looking at and then, you know, you do catch your breath for five minutes and you look at those numbers not, oh, well, we should probably adjust this. And so I would very much advocate that you, you know, be proactive on that, making sure that you do have a solid finance function set up. So you’ve got visibility into the numbers, especially if you’re kind of an operator in the business now and you’re transitioning to the true owner. Yes, you need that top down view. It’s really, really important that you’re able to kind of dig into those numbers and have that clarity to make sure that the business is going to be profitable in the long term. 

Sean Magennis [00:11:37] Fantastic well-said. And then the fifth one, and we’ve touched on this a little bit of best practices to actively go out into the market. Seek accurate apples to apples comparatives. How do you do this, Darren? What’s your opinion on this? 

Darren Isaacs [00:11:52] I think it’s yeah, I mean,  it’s a good practice. You know, I think it’s mostly practical if you’re in a fairly vanilla category, you know those metrics might be quite easily attainable. Mm hmm. I think it’s been harder for us because we’ve created an entirely new category. COVID has also blown the doors off in so many ways. So to you looking in the COVID world, this is so fresh, which is really, really challenging. And so, you know, things, things just move so much quicker now. Mm hmm. So our view at the moment is quite simple. You know, just keep our eyes on the road and keep our competitors in our peripheral vision, you know? Yes. You know, and so just to kind of be aware of them, but don’t don’t be too focused on them. I think what’s more interesting for us is actually how our  clients are benchmarked against their peers. Mm hmm. And so if we’re able to benchmark how our clients are doing against each other, then it just enables us to add so much more, more value to them. So, you know, really enabling us to drive much more meaningful outcomes for them and thereby commanding higher margins and an overall satisfaction from their client. 

Sean Magennis [00:13:13] I really like that. That’s nuanced and it’s smart. Thank you. That’s great. So, you know, there’s so many variables on making sure you put your best foot forward in terms of, you know, the value of affirm, the value of the work that you’re doing. And I loved your comment. Darren, you’re an accountant, probably a recovering accountant, right? And facts always win out. So this takes us to the end of this episode, and as is customary, we end each show with a tool. We do so because this allows a listener to apply the lessons to his or her firm. Our preferred tool is a checklist, and our style of checklist is a yes no questionnaire. Our listeners ask yourself these 10 questions, and if you answer yes to eight or more of these, you have an excellent growth story that will attract investors. Darren and Paul have graciously agreed to be our peer examples today. I’ll ask Darren five of the Yes No Questions and Paul five, so we can learn from this example. So Darren, you’re first up. 

Sean Magennis [00:14:19] Question number one, are you growing revenue faster than your boutique competitors? 

Darren Isaacs [00:14:25] Yes. 

Sean Magennis [00:14:27] Number two, have you been doing so for a few years? 

Darren Isaacs [00:14:31] Yes. 

Sean Magennis [00:14:32] Number three, are you growing your profits faster than your boutique competitors? 

Darren Isaacs [00:14:38] Oh, yes. 

Sean Magennis [00:14:40] Number four, have you been doing so for a few years?

Darren Isaacs [00:14:44] Yes. 

Sean Magennis [00:14:45] And number five, are you growing your revenue faster than the practice inside the large market leaders if you have a comparative practice? 

Darren Isaacs [00:14:54] So this is a tricky question. We are the market leaders. So yes. 

Sean Magennis [00:14:58] Fantastic. Paul, I’m going to switch to you. Number six, have you been doing so for a few years? In the context, well, you’re a first mover, so that’s a trick question, will give you a pass on that one. 

Sean Magennis [00:15:10] Number seven, while you’re growing your profits faster than the practice inside the lodge market leaders or do you think, given that you’re a market leader, that you’re growing your profits faster? 

Paul Emery [00:15:23] Yes. 

Sean Magennis [00:15:24] And you’ve been doing so for a few years. 

Paul Emery [00:15:26] Yes, we’ve been doing so for a few years. 

Sean Magennis [00:15:27] Yeah. And then number nine. Are you growing your cash balance to cover payroll for 12 months? 

Paul Emery [00:15:35] Hopefully. 

Sean Magennis [00:15:37] This is why we’re working on the business is key, right? But to me, you’re smiling. 

Paul Emery [00:15:44] I think so. 

Sean Magennis [00:15:45] It’s good. And then finally, number ten, do you have at least 12 months of forward visibility? 

Paul Emery [00:15:52] I would say somewhat. 

Sean Magennis [00:15:53] Okay. 

Sean Magennis [00:15:55] That’s that’s great. Listen, these are important things for you and our listeners to to think through and then to go back and answer for yourselves. Do you have them? And if you don’t have them or if you think you have them to double check. So growth matters a lot and relative growth matters even more. So a year or two of great results doesn’t mean that you’ve got a sellable boutique. A decade of market beating growth will command an outstanding price and excellent terms, and profit growth is as important as revenue growth. This indicates that you’ve cracked the code. You are one of the few who broke the link between revenue and headcount growth. Be sure to run a tight ship. And we’ve heard that from Darren and Paul. Be prepared to demonstrate reliable forward visibility and plenty of working capital. So Darren and Paul, a huge thank you to both of you today. I’m so excited for you and your business. It’s got to be thrilling to be a first mover, market leader.

And if our listeners have enjoyed the show and want to learn more, pick up a copy of the book The Boutique How to Start, Scale and Sell the Professional Services Firm. Written by Collective 54 founder Greg Alexander. 

And for more expert support, check out Collective 54, the first mastermind community for founders and leaders of boutique professional services firms. Collective 54 will help you grow, scale and exit your firm bigger and faster.

Go to Collective54.com to learn more. 

Thank you for listening. 

Episode 57 – Life Cycle: A Smart Strategy to Make Scaling Easier – Member Case with Chris Rozum

Boutiques often suffer from an identity crisis. This makes scaling harder than it needs to be. On this episode, we discuss business life cycle strategy with Chris Rozum, Founder & CEO, of Insite Managed Solutions, LLC.  

Transcript

Sean Magennis [00:00:17] Welcome to the Boutique with Collective 54, a podcast for founders and leaders of boutique professional services firms. Our goal with this show is to help you grow, scale and exit your firm bigger and faster. I’m Sean Magennis, Collective 54 Advisory Board Member and your host. On this episode, I will make the case, boutiques often suffer from an identity crisis, and this makes scaling harder than it needs to be. I’ll try to prove this theory by interviewing Chris Rozum, founder and CEO of Insight Managed Solutions. Insight was founded in 2007, and it was established to provide a truly unique experience that marries together deep contact center expertise, enthusiasm for achieving unprecedented results and a culture of transferring knowledge. Insight then incorporates these characteristics into their suite of professional services, which are a site benchmarking, training, implementation workshops, process building, transfer staff, augmentation transformations and consulting. And you can find Chris at getinsight.io. Chris, great to see you and welcome. 

Chris Rozum [00:01:40] Welcome. Pleasure to be here, Sean. 

Sean Magennis [00:01:42] Thank you. Let’s start with an overview, Chris, can you briefly share with the audience an example of why it is critical to truly know what your firm is uniquely qualified to deliver in order to scale? 

Chris Rozum [00:01:57] Yeah, if I had to just put it into one specific example for us, it’s really about the human capital. Once we really know and are starting to lock in a bit of what our firm does, it really helps us zero in on the  hiring profile. What is the recruiting and testing approach we do to vet the people as they come in? How do we onboard and train them, which we’re not fantastic at today and we’re getting better at who gets into what is the organization Sure even kind of look like a little bit to include even roles and responsibilities on an engagement of who actually does what. And all these things are kind of different depending on what a firm is trying to do. But we found that we’re putting a lot of time and effort around those things. 

Sean Magennis [00:02:38] Fantastic. And you know, that human capital focus is, I think, vital not only in the context of the professional services firm, but your clients. Human capital, you know, is vital as well. So, Chris, they have five specific things that I’ll walk you through that we have found make it easier for a firm to scale. So the first one is sometimes a boutique suffers from an identity crisis. They’re unsure of the type of firm they are and the types of clients and projects they should pursue. This makes the challenge of scaling a boutique harder than it needs to be. What are your thoughts on this concept? 

Chris Rozum [00:03:21] You know, it was interesting when I first heard of the concept, I actually thought in my earlier days that I disagreed with it, and what I found was that I had not only myself, but I had two team members. Yes, that had the unique skill set and capability that they could basically take on any project they could because they were quick studies could could help solve problems that hadn’t been solved before, or they could provide industry expertise because we will learn really, really fast. And as you started to grow the business, though, I found it near impossible to be able to at the pace we wanted to grow to be able to find individuals that have that issue. It’s not smarts or talent, right? But that question to be able to announce any intensity. And there’s also a work ethic that is OK, working extreme hours to be able to run at that pace and love that energy around it. And so I’ve actually found as we’ve grown, I’ve not been able to replicate it. It held us back, created some less than desirable client experiences along the way because we signed up for some stuff that we didn’t want to do or couldn’t do. And we’re finding now that we’re having a lot more success in focusing on specific industries and getting deeper there, as well as focusing on services, even making hard choices around which ones we maybe don’t want to market and sell anymore. 

Sean Magennis [00:04:42] You know, and that’s probably, you know, half the battle is deciding, you know, when to say, no, you know, and we talk about that a lot. So we’ve also categorized three types of firms. First, we have what’s called an intellect firm and an intellect firm is typically hired by clients to solve difficult never before seen one of a kind problems. Second, we have a firm that we call a wisdom firm and a wisdom firm in our definition is hired by clients because they have been there and done that. The client problems new to that client, but it’s not a new problem. And third, we have what we call a method firm and a method firm is hired by clients because of their unique methodologies. The problem is well understood by the client, but by hiring a method firm, it can be sold faster and likely a lot cheaper. So, Chris, why, in your opinion, is it key to differentiate that time or what type of firm you are? 

Chris Rozum [00:05:45] Yeah. You know, it goes a little bit back to the human capital piece a bit and that there’s really kind of two things and I think you hit on it is if you go more using every candidate intellect. Yes, I have found that requires a talent that has had certain background, timeline, experiences, exposures, reference points, kind of. All these things kind of come together across somebody’s journey that allows them to take intellect and and be able to solve problems that have never been solved before, which are kind of exciting to go do. But that comes, those individuals come at a certain compensation level. Yes, then also drive a certain rate level. Yes. And if you go to the other end of the spectrum, methods are where on that you can get consistent. You can put tools, templates, processes in place, look to have different type of talent. Tell them again, you can bring people and I’ll use my personal example. We hire folks into our firm that are not traditionally part of professional services consulting firm, and they are operators that have been working in contact centers, in operations, and then we bring them into this environment. And then what I attempted to do was put them on intellect, type work, and they may have not had enough reference points or experiences to have been effective there. Yes, we’re finding, though, by taking hands on operators and bringing them in in the methods world, we’re having a lot more success. So some of that is getting the right people in the right slots and all of that. But there’s someone helps figure out what your pricing is, what you’re looking at. And then from the sales perspective, how do you go sell to a message and set expectations with your clients that align with kind of these three different types of firms. 

Sean Magennis [00:07:28] That’s really good insight and great examples. I can see in your context how, you know, the nuances are very clear and then the difficulties of trying to teach somebody, you know, who’s not being an intellect, you know, that has its challenges. Some could rise to the occasion, but you make an excellent point. Number three, we recommend that owners and many of them or our listeners connect the type of client and project to the type of firm they are. You know, we recommend they only go off to work that the firm is staffed to handle based on skill level. What are your thoughts on this and you have touched on it? 

Chris Rozum [00:08:08] Yeah. You know, I think. It might depend on where somebody is at in their their life cycle. I know even our early stage it was. It was kind of exciting to go try some different things and see where we are good and capable, what actually resonated with our clients and and also what were some of the activities that we also enjoy. So there’s a little bit of that in the early stage. I think I know where my firm is is right now as we are in the scale high growth phase. Yes. Yeah. The it the governor for me to go do that now is if I’m having too many bumpiness with our clients and not the experiences that I’m wanting or my staff, attrition is too high because we’re over stressing and we’re pushing them beyond their skill sets, too fast. When we’re hitting those moments, it really causes me to govern back and say, No, we’re just going to focus. Yes, and those are kind of the two metrics that I’m looking at. And then as I find those get to kind of stable points, I will then look to venture on things that I think are close enough tangents that do push us a little outside, and it does allow us to be a little innovative. But I find myself, I have to balance this dance and assess and retract back a little bit. So it’s it’s maybe not so hard, fast in any given moment in time, but I tend to use those indicators to drive me towards when I want to be a little exploratory versus when when I really should be more disciplined. 

Sean Magennis [00:09:38] That’s really well put, and that dovetails nicely into our next question. You know, we see owners lacking discipline and thinking that all revenue is good revenue and they take any deal that comes their way. So can you unpack that for us? 

Chris Rozum [00:09:54] Yeah, I am totally guilty of that. I even still today will get into these moments. And it’s being opportunistic. We want to keep growing at the pace we’ve been growing. And and what I have realized, though, is is early on when we were smaller, I could look at something and say, You know what, I can do that I can figure it out. It’s a little outside the lane, but I can see a path on how we can get there to be successful. Yes, and timing as we grow. That’s not always the case. And so we are getting, if you will, kind of more governance around how to do that and how some of those names, some of those negative impacts that can hit in that type of situation. 

Sean Magennis [00:10:37] That’s well articulated. And I think clearly understanding the risk reward of taking on projects that may not be be good in in the face of your scaling opportunity. And it also brings up the reality of sustainability and making sure that you can replicate what you indicated, you know, you alluded to earlier. So the final yeah, sure jump in. 

Chris Rozum [00:10:58] I think your viewers listeners would also appreciate this. So I have done this for a long enough period of time. Now that I’m getting more disciplined this year, it is much harder to unwind now that I am of this size and scale to to be more disciplined. And it’s a couple of one of the biggest things is how do you now unwind trying to take on every single project that’s out there? Yes, but not have a gap in revenue. So and slow down. And that’s what I’m dealing with right now is I’m trying to be more disciplined. How do I not just flip the light switch and now I lose 20 percent revenue and I got to then climb my way back up? So a bit of my learning along the way is how you make that shift early enough. Yes. You at least get to the size we are today. 

Sean Magennis [00:11:44] And then also, you know which which we see a lot of our members in collective 54 and I’m sure in a lot of our listeners is looking at the profitability of every client project because some projects, even though you may have this culture of taking them on, maybe at break breakeven or you may actually if you really do the math, you may be losing money on them. So that discipline, even though it’s tough to do if you’re looking at your numbers, you can prove out with facts that there’s maybe a good reason to do it right. 

Chris Rozum [00:12:15] Yeah, yeah, you’re exactly right. I actually had a conversation with the client next week where it’s it’s a loss to break even and we’re we either got to fix it or we’ll have to step away from it. 

Sean Magennis [00:12:26] Yeah, well, that’s exactly right. And then the final one is, you know, the firm’s just like us, as human beings are different based on where on the on the lifecycle curve they are. So, for example, it’s very common for boutique professional services firms when they first start to be an intellect. But the partners have some secret sauce, you know, they have a solution to a brand new problem. Then as time passes, that IP gets out. Others have it, and eventually it becomes a commodity and owner manages a firm very differently. When it’s an intellect firm than a wisdom or a method for everything is different. So, for example, pricing, staffing, utilization, salaries. So lifecycle management to us refers to the active management by the owner of the boutique as it scales through these lifestyle stages. What’s your opinion on adopting this life cycle management philosophy? 

Chris Rozum [00:13:26] Yeah, it’s I wish I knew about it years ago when I started through the firm, right? I think I think too. Yeah. You know, it’s as I look back, and for me, there were actually very clear markers. And whether you tie it to revenue or you tied to headcount in our my firm, they all correlate together. Yes, by the way, and even what my job was from from one to 15 folks, right at 15 was this really clear marker that I had to do some things different and where I even spent my time and where you were. Now I have a manager, Reverse admits, managing some of the work engagements and how do I sell and do some of these things that you talked about? And and how do you do that in a profitable way that you don’t make over invest in the organization? So I found that one to 15 was kind of a band for me. Yes, that 15 to 50 was the next band that I could do it away. Yeah. And and and when we crossed the 50, I spent a whole bunch of time to say now, how do I go from 50 to five hundred? Yes. Put that structure and roles and responsibilities and who does what. And even my job and where I’m spending my time and what I’m doing in a different way. And and those are kind of the markers for me that happen to be there. I think some other firms might have some different markers based on bill rates and stuff like that, but it was they were really like… 

Sean Magennis [00:14:44] Crisp, really clear. No, that’s really well said. So in your case, one to 15 was a band 15 to 50 and then 50 plus as you’re getting to five hundred. I mean, that is exactly the way we want our listeners to think and to really be highly present in in acknowledging and looking for those signals because it does it, to your point, require a very different set of skills, a different orientation to your time. I’m sure you’re working much more on your business now than you’ve ever done before. 

Chris Rozum [00:15:15] And as of today, yes, we’re working to change that a little bit. Yeah. And, you know, in their spots throughout the journey where I have drifted around a little bit and you know, I go back to some of the indicators that I gave before, which were also really got sensitive around these markers. Where where did I have some client experiences and we have high expectations? There’s a lot of times our clients don’t feel it, but were they not what we wanted to deliver? Got it. And what’s going on with our employee culture stress? Is it turning into attrition? Those are the two things that I saw at 15 started to really break. A 50 really started to break. So we’ll continue to monitor those. 

Sean Magennis [00:15:53] Outstanding Chris, this has been this has been great. Getting your perspective on this is fantastic. So, you know, again, it’s this is an illustration as to why there are only about 4000 firms of about the 1.5 million that truly reach scale. You’ve done that. It’s hard to do and you’re still scaling. It takes an exceptionally skilled owner like yourself to pull it off. So this takes us to the end of this episode, and as is customary, we end each show with a tool. We do so because this allows you are listening to the app to apply these lessons to your firm. Our preferred tool is a checklist, and our style of checklist is a yes no questionnaire. We aim to keep it simple by asking only 10 questions. So in this instance, if you answer yes to questions one through three, you’re an intellect firm. If you answer questions, if you answered yes to questions four to six, you’re a wisdom firm. And if you answer yes to seven to nine, you are a method firm. And lastly, if you answer yes to question 10, lifecycle management should be a top priority. So, Chris, thank you for graciously agreeing to be our peer example today. I’ll ask you the yes, no question so we can all learn from this example. So let’s begin. 

Sean Magennis [00:17:14] Number one, do your clients hire you for never before seen problems? 

Chris Rozum [00:17:20] Not so much today. 

Sean Magennis [00:17:23] Number two, do you employ leading experts in the field? 

Chris Rozum [00:17:29] Yes, we do. 

Sean Magennis [00:17:30] Three. Do you have legally protected intellectual property? 

Chris Rozum [00:17:36] We do, we have a pattern as well as a bunch of copyrights. 

Sean Magennis [00:17:39] Number four, do your clients hire you because you have solved their problems before? 

Chris Rozum [00:17:46] Yes. 

Sean Magennis [00:17:47] Number five, do your clients hire you because you have direct relevant case studies? 

Chris Rozum [00:17:54] Yes, they do. 

Sean Magennis [00:17:56] Do your clients hire you because you help them avoid common mistakes? 

Chris Rozum [00:18:03] Yes, but less today. 

Sean Magennis [00:18:06] OK, got it. Do your clients hire you because they’re busy and need an extra pair of hands? 

Chris Rozum [00:18:12] Yeah, absolutely. That’s much more dominant today. 

Sean Magennis [00:18:15] Yes. Number eight, do your clients hire you because you can get the work done quickly? 

Chris Rozum [00:18:21] Yep, more of that today than before. 

Sean Magennis [00:18:23] Number nine. Do your clients hire you because you have an army of trained people to deploy immediately? 

Chris Rozum [00:18:30] Yes, they do. 

Sean Magennis [00:18:31] Yup, that’s your that’s your bread and butter. And number ten, does your service offerings start out as leading edge and over time become commoditized? 

Chris Rozum [00:18:43] Not so much as of yet. It’s interesting, we’re somewhat we’re solving some same problems we were solving 14 years ago. See, things have maybe matured, but so this one surprised me when I said no. 

Sean Magennis [00:18:55] Great. Great. That’s what it’s designed to do. So in summary, a lack of a life cycle awareness can make scaling more difficult than it needs to be. It can lead to poor cash flow. Unhappy clients and employees Chris, a huge thank you to you for sharing your expertize today if you enjoyed the show and want to learn more. Pick up a copy of the book The Boutique How to Start, Scale and Sell the professional services firm written by Collective 54 founder Greg Alexander.

And for more expert support. Check out Collective 54 the first mastermind community for founders and leaders of boutique professional services firms. Collective 54 will help you grow, scale and exit your firm bigger and faster.

Go to Collective54.com to learn more.

Thank you for listening.

Episode 56: Cash Flow: Where to Find Working Capital to Scale – Member Case with William Lieberman

C54 member William Lieberman, Managing Partner of The CEO’s Right Hand, shares insights on cash flow and where to find working capital to scale your professional services firm.

Transcript

Sean Magennis [00:00:15] Welcome to the Boutique with Collective 54, a podcast for founders and leaders of boutique professional services firms. Our goal with this show is to help you grow, scale and exit your firm bigger and faster. I’m Sean Magennis, Collective 54 Advisory Board Member, and your host. On this episode, I will make the case that boutiques run on cash flow. They do not run on net income or EBITDA. I’ll try to prove this theory by interviewing William Lieberman, managing partner of the CEO’s right hand. William provides outsourced financial CFO and accounting services to clients that are growing or scaling. They offer end to end solutions for ongoing or one time project needs that span a broad spectrum of industries, including finance, technology, e-commerce, investment banking and digital advertising strategy. You can find William at theceosrighthand.co. William, great to see you and welcome. 

William Lieberman [00:01:29] Thanks, Sean, it’s great to be here. 

Sean Magennis [00:01:31] Excellent. So let’s get started, I’d like you to do an overview. Can you briefly share with the audience an example of why cash flow is so critical to scaling a boutique? 

William Lieberman [00:01:43] Absolutely. You know, everyone’s heard the old adage. Cash is king, right? Cash flow is the fuel of your business. And without that fuel, the race card can’t go around the track. You have to have positive cash flow in order to make investments in the people, in the systems and other equipment and things like that that are necessary to truly scale the business. So as a quick example, we have a professional services firm as a client that’s doing large multi-million dollar projects and they have municipal clients and they stretch out their payments 60 90 days plus. And these are large, large payments. And that causes a great deal of cash strain on the business. So they don’t have the fuel because they’re cash poor to really increase the business and increase the investment in sales and marketing. So we’re helping them raise some capital to get that fuel because the business itself doesn’t generate enough cash enough cash flow. Yes, but there’s lots of examples where cash flow is generated from the business, and that’s truly what you need to scale. 

Sean Magennis [00:02:47] You know, it’s it’s such a good point. You make, you know, one cash is king, you know, in your example, you know, aging receivables and the inability to collect on those in a timely fashion on big numbers. That’s a variable that that is sometimes very difficult to manage unless you have a great client relationship. We have a really good team that can help you with that. So thank you for sharing those particular examples because I think for our listeners, those are things that are very recognizable and understandable. So I’d like to get your thoughts on some of the best ways to think about finding cash to scale. I’ll take you through four things that we have seen and get your thoughts on each. So the first one is and this is in the form of of a of a question is why is cash flow more important than net income and EBITDA for a firm trying to scale? 

William Lieberman [00:03:44] Well, net income and EBIDTA are important measures of profitability. So how well, how healthy is the business, but they’re done on an accrual basis, not a cash basis. So they give you a picture of my generating enough revenue or how much revenue generated when my expenses to generate those revenues and therefore what of my profits? But that’s not the fuel of the business. That’s not how much cash is really being thrown off by those revenue generating activities. So if you are, you know, delivering $100000 worth of services and it costs you $60000, you make a $40000 profit. But what are you really collecting and when are you going to get that $100000? And they take a month or two or three. And so in some cases, your cash flow could be negative if you’re not collecting in a timely fashion on the revenue generating. But at the same time, you’re profitable. Yes. So you really have to look at cash all the time, as it is truly the key measure in order to know how much fuel you have to invest in the business to scale. 

Sean Magennis [00:04:47] Really well put simply put, very understandable. So the second issue it’s often said entrepreneurs mismanage cash flow. Do you agree with the statement? And if so, how can an entrepreneur prevent the lack of cash flow in their business? 

William Lieberman [00:05:05] Well, to answer your question, absolutely. Entrepreneurs mismanaged cash flow all the time. And by the way, it happens large public, multibillion dollar companies, too. Yes. It’s not just the smaller companies would happen. So what, what we really do and we do this for ourselves, we do this for our clients is we look at a 13 week, week by week cash cash. So how much are we going to collect from each of our clients? And what do we forecast for sales and how is that going to turn into collections? And then what are the operating expenses that we’re going to have to pay on a week by week basis for the next 13 weeks? And then as importantly, what are the cash expenses that are not operating? So do we have debt service? Do we have capital expenditures, maybe distributions and dividends, things like that? Yeah. So we get a full picture of all the ins and outs. And from there we know are we going to run out of fuel in the tank? And therefore, what can what do we need to do about it now so that we proactively, you know, don’t don’t run out of gas halfway around the track? 

Sean Magennis [00:06:07] You know, those are those are excellent. And so my challenge to our listeners going out would be to adopt exactly what William has said, the 13 week week, two week cash forecast. Clear understanding of expenses by week. And then other things that need to be service like debt service, etc. And you know, the ins and the outs, as you’ve said, I mean, absolutely vital. And I’m going to go out on a limb here, William, and say, if you’re not doing that now, there are people, there are specialists and advisors that can help you. Is that is that a good a good recommendation? 

William Lieberman [00:06:42] Yeah, absolutely. You know, we do that for our clients and there’s lots of firms out there that provide expert advice in terms of how to best manage cash flow and in your forecasting methodology. 

Sean Magennis [00:06:53] Excellent. So number three, I often see our listeners who are owners of boutique professional services firms trying to raise capital when they do not need it. They think they need X amount of capital to scale when in fact they’re often generating enough cash from operations to fund scaling. Now, sometimes this isn’t the case, but what do you think? What is your opinion on this concept? 

William Lieberman [00:07:19] Well, first and foremost, capital is expensive, outside capital is very expensive. You’re giving up a percentage of your business if you’re raising equity. And if you’re raising debt, you know debt can be risky depending on how much you get. So to the extent that you can always rely upon the working capital coming out of your business to fund investments to scale? That’s absolutely ideal. Right. So that’s that’s the critical piece to this is to make sure that you understand how much bit, how much cash is being generated and ensuring that you have enough fuel in that tank. So, you know, when you think about the forecast modeling that you should be doing it, every entrepreneur should be doing it. It gives you those knobs and dials of the business so you can decide how much cash you’re able to reinvest in the business versus taking it out as a distribution or leaving it in the business and not making any money. 

Sean Magennis [00:08:14] Right. And that’s a balance, right? How much can you reinvest should you build a certain cash reserve depending on the type of business you have? Is this is there forward visibility to a book of business coming in? I’m sure all those variables are in your knobs and dials. 

William Lieberman [00:08:30] Correct. And it’s one of the important things that we’ve seen is that entrepreneurs often make a mistake by relying upon the forecast from the salespeople, right, which are always optimistic. Salespeople are optimistic by nature. Absolutely. We always recommend have the CFO, you know, really look in at those forecasts and really dial it based on historical results of delivering on what the salespeople are saying. 

Sean Magennis [00:08:57] That is a great piece of advice and I’d like you have seen, you know, I’ve seen forecasting go go sideways when you have a disconnect between, you know, the accuracy of the forecasting and the reality of either previous business or what you’ve got actually in the pipeline. That’s great. So we’ve we’ve seen that one of the best ways to boost cash flow is to measure it correctly. And we have found the best way to measure it is at the project level. You know, when you measure cash flow in the aggregate, it can hide waste. What are your experiences in this? 

William Lieberman [00:09:33] Well, yes. You know, I love what you said because it’s it’s the whole and it’s you cannot measure it and cannot manage it and funds that right. Yes, I absolutely agree. If you look at things in an aggregate, there’s all sorts of hidden gotchas, hidden expenses that you wouldn’t otherwise see. So by looking at it, a profitability and cash flow on a project by project or client by client basis, you can see which clients are really generating the profits of the cash that are fueling your business and which ones maybe sucking cash precisely those ones. Hey, maybe when you make a decision here, guys about either firing the client or increasing your fees or decreasing expenses, whatever dials that you need to change, you need to do that on a client by client basis. And we look at that every month for our clients as an internal business, as well as helping our clients do the same for theirs. 

Sean Magennis [00:10:28] That’s extraordinary valuable. And you know, listeners, please take what William is saying seriously into consideration. Your ability to scale is directly proportional to your capability to have these dials, to have this detailed knowledge at your fingertips, project by project really, really manage your cash flow as carefully as you can, and you will be surprised at how it could potentially unlock additional source of sources of funding so that you don’t have to give away a high percentage of your business to attract an outside investor or an expensive debt source. William, thank you. It’s super clear that managing, measuring and boosting cash flow is key to scaling a boutique firm. So this will take us to the end of the episode, and this is customary. We end each show with a tool. We do so because this allows a listener to apply the lessons to his or her firm. Our preferred tool is a checklist, and our style of checklist is a yes no questionnaire. We aim to keep it simple by asking only 10 questions in this instance. If you answer yes to eight or more of these questions, you need to have a solution to cash flow. If you answer no a lot, you don’t have an issue. William has graciously agreed to be our peer example today. I will ask William the yes, no question so we can all learn from his example. Let’s begin. 

Sean Magennis [00:12:00] Number one. Will you run out of working capital if you double your firm? 

William Lieberman [00:12:07] And for us, it’s a no, we are completely virtual companies, we have really low overhead and our operating expenses are less than 10 percent of revenue. Fantastic because we use contractors to deliver our services. If we double our client base, we just add more contractors. And that’s the beauty of the accordion model.

Sean Magennis [00:12:27] I like it very clear. Number two, will you need short term debt if you double your firm? 

William Lieberman [00:12:35] For us, no. What we do is we keep an amount of cash on hand that covers our operating expenses in our contractor expenses, so we always have a minimum level. And as we grow, we increase that minimum reserve so that we never have to borrow money. 

Sean Magennis [00:12:51] Excellent. Number three, will you develop a collections problem if you double your firm? 

William Lieberman [00:12:58] So no, what we’ve done is put in place from the beginning from the sales point of sale understanding with the client. Here’s how we build. Here’s how we invoice. Here’s our net terms, etc. And then we have a formal process that escalates up if something looks to become a problem starting with client service, but all through invoicing and collections. And so we and we review it every week. 

Sean Magennis [00:13:22] So you have a weekly review process with triggers that alert you to any difficulties. 

William Lieberman [00:13:28] Absolutely. Finally, go through every client every week. 

Sean Magennis [00:13:31] Outstanding. So, William, question number four, will your cash flow payments exceed your cash income if you double your firm? 

William Lieberman [00:13:42] No, because our model is to have a very specific percentage, say, 55, 60 percent of what we believe to our contractors. So no matter how much business we’re doing. I know exactly how much cash is going out and how much we’re able to retain. And this, of course, assumes that we don’t have any collection issues which would solve.  

Sean Magennis [00:14:04] Outstanding thank you. Number five, will you have a hard time getting enough cash on the balance sheet to double your firm if you decided to do it? 

William Lieberman [00:14:14] No, because we have a very controlled growth plan in place, so we’re purposely not making large, large investments that outstrip our ability to fund from operating cash flow. So, you know, I always like to lead with. 

Sean Magennis [00:14:28] Good. So number six, when growth has spiked in the past, did your cash flow ever turn negative? 

William Lieberman [00:14:36] So this just happened recently where the answers no. But we had a big spike in quarter two of this year, and we had a best quarter ever way, way higher because we had a lot of one time money. So we build and collected and paid our our people and generate enough cash flow to pay out the partners of a significant distribution. 

Sean Magennis [00:14:55] Very nice. Congratulations. That’s a problem all our listeners should have. It’s great. Number seven, will payroll growth exceed accounts receivable growth when you double your boutique? 

William Lieberman [00:15:09] So because our contractor costs are 100 percent tied to revenue growth, there’s a one to one relationship between our growth and revenue. So, no, as the revenues go up, we pay out more. As revenues go down, we pay less. And so as we double it will, it will be perfectly fine. 

Sean Magennis [00:15:29] Excellent. Number eight, will cash flow problems be hidden due to lack of forward visibility? 

William Lieberman [00:15:36] No, because we implement, you know, we eat our own dog food, so we implement a 13 week cash flow forecast as we every week we update it and we can see what’s going on with cash. So we always have that forward visibility on here. 

Sean Magennis [00:15:49] Very nice, William. Number nine, will it be hard to generate the yield on your cash deposits? 

William Lieberman [00:15:57] Well, so assuming I understand the question, then this one’s a yes. Okay. If you mean cash that’s sitting sitting around in a bank or some kind of financial institution that doesn’t generate anything right? So we prefer to either distribute out to the partners and we make our own investments or preferably invest back the business. 

Sean Magennis [00:16:16] Excellent answer. That’s exactly what I was getting at. And then number ten, will you be at risk of paying your future obligations if you double your firm? 

William Lieberman [00:16:26] No, we have a very controlled model, so no, not at all. 

Sean Magennis [00:16:30] Outstanding, William. In summary, boutiques run on cash. They don’t run on net income or EBITDA, which is measured on the accrual basis. As you so rightly pointed out, do not run out of cash as you try to scale. A huge thank you to you, William, today for sharing your expertize and for our listeners if you enjoyed the show and want to learn more. Pick up a copy of the book The Boutique How to Start, Scale and Sell a Professional Services Firm. Written by Collective 54 founder Greg Alexander.

And for more expert support, check out Collective 54, the first mastermind community for founders and leaders of boutique professional services firms. Collective 54 will help you grow, scale and exit your firm bigger and faster.

Go to Collective54.com to learn more.

Thank you for listening. 

Episode 56: Cash Flow: Where to Find Working Capital to Scale – Member Case with William Lieberman

Episode 53: Leverage: Work Smarter Not Harder and Make More – Member Case with Lawrence King

Boutique firms often grow but do not scale. On this episode, Lawrence King, CEO of Headstorm discusses how to work smarter, not harder and why improved leverage increases incomes and wealth.

Transcript

Sean Magennis [00:00:15] Welcome to the Boutique with Collective 54, a podcast for founders and leaders of boutique professional services firms. Our goal with this show is to help you grow, scale and exit your firm bigger and faster. I’m Sean Magennis, Collective, 54 Advisory Board Member, and your host. On this episode, I will make the case that sometimes boutiques grow, but don’t scale. I’ll try to prove this counter-intuitive theory by interviewing Lawrence King, CEO of Headstorm. Headstorm is a technology consultancy dedicated to building innovative technical solutions for Fortune 500 companies. Fast growing start ups and literally everything in between. Lawrence’s expertize includes designing, developing and supporting distributed systems, cloud platforms, mobility data analytics and token based security models. You can find Lawrence at www.HeadStorm.com. Lawrence, great to see you and welcome. 

Lawrence King [00:01:24] Thanks for having me, Sean. 

Sean Magennis [00:01:26] Such a pleasure. So too many boutique owners are growing but are not making more money in the process. Can you briefly share with the audience an example of how you’ve dealt with this issue? 

Lawrence King [00:01:37] Yeah, I think that there becomes a time if you’re not, there was a point in which we weren’t too focused in terms of our service offerings. And and in doing that, you’re trying to solve lots of different problems and you end up throwing lots of bodies at it. Bodies that you’re throwing at it may be their skill sets may not match up with the work that’s needed or they just in many cases, it the profitability would would get hit in that way. But you’re growing, you’re still adding revenue incrementally, but your profitability is really taking. 

Sean Magennis [00:02:13] Yeah, listen, you’ve hit the nail on the head. And so there are, you know, there are some thoughts that I’d like to to get your input on that we recommend. So I’ve selected five things I’ll walk you through and get your thoughts on each. So the first is if revenue growth and headcount growth are proportional, the owner doesn’t increase necessarily his or her income from that growth. So it’s not until headcount growth is decoupled from revenue growth that an owner grows his income. What are your thoughts on this? 

Lawrence King [00:02:48] Yeah, that’s a little bit of a tough one, because if you think about it growing literally eight or linearly, I could say if a company, if their net net, let’s say they’re a bit as 15 to 20 percent, yes. And I know that if if I’m doing 10 million this year and 20 million next year and and I’m operating the business the same way, I’m just adding headcount and my mark, my EBITDA is already 10 or 15. I’m going to get more, you know, revenue, right? I think that where that where that starts to fall apart is, is as you start to scale those profit margins. They don’t they don’t stay the same. And as you’re adding headcount, you’re also probably not running a leveraged model. And so your your EBITDA and end number is going to be, you know, much lower than probably where you started. 

Sean Magennis [00:03:35] Yes. Yes, that’s that’s an excellent point. And you know, it brings us to our next question, which the top expense by a wide margin for a professional services firm is their labor cost and more headcount. Naturally, more means more expense, potentially less income. And as a firm takes on more work, don’t they need more heads to complete it? Or how do you think differently about that? 

Lawrence King [00:04:00] Oh man, it’s yes. But to get to a leverage model is is really a challenge. It actually forces you to start with the service offerings in mind. You have to really focus on what you’re offering and scope. It is something that you can hire against, something that you can train against and something that you can deliver against with low cost resources. And so if you’re trying to deliver all different types of solutions, you’re never going to get that opportunity. 

Sean Magennis [00:04:26] You know, you’ve again, you’ve dovetailed right into the next thing that I was going to talk about, which is re-engineering your service and also you’re scoping. So let’s talk about leverage then. So the definition of leverage is the number of employees to owners. And an example of how to calculate the leverage leverage ratio is a firm with, say, 30 employees with three owners would have a 10 to one leverage ratio. The higher the leverage ratio, the more money the owner makes. So why is this? You know, it’s because a profit pool divided by three people is obviously better than a profit pool divided by up to 10 people. How do you think about leverage in this context, Lawrence? 

Lawrence King [00:05:09] Yeah. So I look at it as a shape and we’re a leveraged pyramid. 

Sean Magennis [00:05:14] Yeah. 

Lawrence King [00:05:15] And I can tell you that when we hire to maintain that leverage, I’ll give you an example of last year. Last year, the way that we were hiring, we were hiring very reactively to different projects. And we actually when I looked at our staff from consultants, senior consultants, project leaders, directors and partners, yes, we formed a diamond. 

Sean Magennis [00:05:32] Interesting. 

Lawrence King [00:05:33] And so I built out this whole pro forma so I could play out the numbers and see if I was to hire against the forecast and maintain my pyramid to where I had more consultants than I did senior consultants, more senior consultants than I did project leaders and middle management and so forth. Yes, there’s a gain of about 10 percent there to the gross margin. If you manage that properly. Mm-Hmm. 

Sean Magennis [00:05:56] I mean, that’s that is a unique ability and kind of what I would advocate probably your secret sauce in that area. So when you you’ve spoken about owners often have expense of senior staff performing junior grade work. This obviously destroys profitability and owners income. And so what do you think the fix is for for that scenario? 

Lawrence King [00:06:21] I think how we solve it is when we build our project teams, the project teams take on pyramids in and of themselves, and there is utilization pyramids in there. And so if we have a partner that’s managing quality, they’re probably billable five percent of the time. I like it. And then a director is also a part of that, and he’s probably billable 10 percent. Yep. And then as part of our expectations framework, the directors know, hey, overall, you need to be billable for 30 to 50 percent of the time, but your other, you know, 60 and 70 percent needs to be focused on high value, high, high fee craft. Yeah, I the type of work and that could either be doing business development activities, thought leadership, building intellectual capital within the firm that we can resell coming up with new go to market service offerings. Yes, all of those type things. So we really break it down in terms of what the expectation at every level is and the allocation of time from billability to working on internal intellectual capital. 

Sean Magennis [00:07:25] I mean, it sounds remarkable and you’ve obviously got the process and the systems down, you know, almost to a fine art. How do you how do you keep track of that? What sort of tools techniques do you use to keep track of that, Lawrence? 

Lawrence King [00:07:38] Yeah, great question. So the very first thing I started that drove that really drove that our strategy was building this pro forma. I knew it. Let me start with the end in mind. So I said, Listen, I want to be able to do a 20 to 25 percent EBITDA. Yeah, so that means I have to do if my is probably going to be 20 to 25 percent and I know that my gross margin has to be 50 at all times. 

Sean Magennis [00:07:59] That’s right. 

Lawrence King [00:08:00] I know what we pay our staff now. I just have to work. I know how many PTO days they have. I know the vacation, the holidays, how many hours are there. And then I look and I plug all that in and it spits out the rates that I have to charge. And then I look at those rates and I say, Wow, those are high. How are we going to get those? Yes, that’s when it’s a pivot moment. They say, Listen, we have to be super focused. We have to come up with go to market strategies and engagement models that aren’t time and materials based, their fixed fee, even contingency based, and they have to be tied to high value solutions that we’re delivering in order to get that. And so that’s really framed up how the focus of where we’re we’re looking at if we want to compete, if we think of consulting as a spectrum, staffing on the far side and then high end differentiation on the other, we want to compete over here, so we have to be delivering those types of solutions. Got to get back to earlier question. So we built an internal application called MTM Headstorm MTM. And what that does is it’s a dashboard every day as a as a leadership team. This is directors and partners. We look and we see what their utilization is across the company. We see what the realization is by project and we try it. We’ve got a threshold there that we try to be at 100 percent realization. That’s meaning that we’re charging 100 percent of our standard rate. If it’s if it’s the partners have the opportunity to to discount it by 10 percent if they want to. But we have to. But the pro forma accounts for that. And so if this matches, if we’re staying within this 90, 90 percent to 100 percent realization, then we’re on target with the pro forma. And that’s really sort of how we manage where these projects are. And then we got a bench, you know, and there’s times where, yes, you hire we we now if you hire, reactively, what we’ve done is if you hire, reactively, you get a project and then you start hiring for it, you’re going to compromise talent, you’re going to compromise the roles and the leverage. Yeah. So rather and you may have attrition and culture issues down the road. So we did areas as we simply created a forecast to give to our recruiting department to say, you need to hire this many of each of these levels every month. And that will make sure that we 

Sean Magennis [00:10:04] stay, stay in that pyramid. 

Lawrence King [00:10:06] In that pyramid. And then it’s up to us as as the partners to sell the work and to make sure that we’re putting those people, you know, getting them busy and billable. 

Sean Magennis [00:10:15] You know, thank you for sharing that because what that illustrates to our listeners is the importance of being on the data and the information and the intelligence of what’s happening daily. You said that, you know, your MTM system gives you a view every day, and I’m assuming that that also, you know, enables you to to really accurately address the trigger point for your pivot because you can’t afford to pivot just, you know, once a quarter, once a year or once every six months, right? I mean, you could you could be pivoting literally on a daily basis with with with what you have at your fingertips. 

Lawrence King [00:10:49] Right. That’s right. And and so we really manage that. We also look at so so we have our utilization, we have our realization. And then we’ve got with Pipedrive is our CRM. Yes, it’s really cool because we book in there all of our existing work and income that’s coming and the revenue coming in monthly that’s already sold work. Yes. And we have forecasted work on a monthly run basis. So we know, hey, we’ve got enough in the pipeline that we’re going to be doing, you know, two million next month or whatever those numbers are. And that gives us a really predictable way to think about staffing and hiring, scoping these scoping right. 

Sean Magennis [00:11:31] Which is critical. Lawrence, this is fantastic. I mean, you know, the idea of leverage is not new. It’s obviously been around for a long time, and it means that the solutions are readily available. I mean, your examples of. Of how you built MTM, how you’re running Headstorm. A just extraordinary and I think a really important lesson for our listeners who are building boutique professional services firms is take Lawrence’s his lessons and really apply them. It’s not easy to run a professional services firm. It’s not easy to maintain leverage right? 

Lawrence King [00:12:05] No. It’s a challenge. 

Sean Magennis [00:12:07] It’s a challenge. But the way that you’ve architected it and the tools that you’re using, the information that you’re getting on realization, on utilization, on seniority, on scoping, very, very key. So this will help you if you adopt some of these lessons and insights, it’ll help you work less, hopefully earn more, work smarter and not harder. So this brings us to the root cause of the big issue. Revenue outside of scope should be turned away. Lawrence, what do you think about that? 

Lawrence King [00:12:40] Absolutely. Yeah, yeah, absolutely. I’m doing. I’m doing it today. 

Sean Magennis [00:12:44] Excellent. So again, this allows you as an owner to balance expense of senior staff and allocate assignments to junior staff capable of doing the work at good cost profile. It’s what pushes up the leverage ratio and your pyramid example of what allows an owner to make more money as the firm grows. So, Lawrence, this takes us to the end of this episode and as is customary, we end each show with a tool. We do so because this allows a listener to apply the lessons to his or her firm. Our preferred tool is a checklist, a style of checklist as a yes, no question, we aim to keep it simple. So in this instance, if you answer yes to eight or more of these questions, leverage or lack thereof is not preventing you from scaling. If you want to know too often, then poor leverage may be the reason that growth is not equating to your personal income. So, Lawrence, I’m going to walk you through these, and let’s begin. 

Sean Magennis [00:13:42] So number one is your leverage of employee to owner at least 10 to one? 

Lawrence King [00:13:47] Yes. 

Sean Magennis [00:13:49] Excellent. Number two is the proper mix of junior middle and senior staff clear to you? 

Lawrence King [00:13:56] Yes. 

Sean Magennis [00:13:56] Yeah. Given your example, I mean, that’s so well done. Number three, do you understand the skills mix of a project before you sign it? 

Lawrence King [00:14:06] Most of the time, most of the time, I would say the only caveat there is is that potentially if you don’t have the staff but you want to take the project, then then you know, kind of putting some. We tend to air on putting, you know, more senior people in for junior roles in that case. Yes, but it has to be a strategic account. There has to be a reason for doing it. 

Sean Magennis [00:14:25] And then, you know, at your fingertips, what are you know, what your return is going to be on that? All right. Yeah. So number four, do you understand which revenue is good and which is bad? 

Lawrence King [00:14:38] Yeah, it’s hard, but you know, all revenue seems good, but there’s there’s a lot of times that, for example, you know, if the account’s not a strategic account, if it’s not one that is going to become a flywheel, yes, there’s just distract you if it’s going to take away your bench. So you might perhaps miss out on another opportunity. Yeah, those are the types of things that go through our head and we make those decisions. 

Sean Magennis [00:14:59] Excellent. Number five, do you have a zero tolerance policy for one off projects? 

Lawrence King [00:15:07] Mostly, I think it just comes back down to the strategic nature of the project. 

Sean Magennis [00:15:12] Number six, do the owners work on the business instead of in the business? Do you work on the business instead of in the business? 

Lawrence King [00:15:21] I am. That is that’s a great question. I am transitioning, that is a tough one because I still bring in, you know, probably the lion’s share of the revenue. Yes, and I need to keep that going. But realizing that I this to create the value for the firm, I need to be able to hand it over with, you know, turnkey where I’m not needed. And so a lot of the focus is building processes and training and right now, that type of thing. So I could step step away more. 

Sean Magennis [00:15:52] And that’s brilliant. You know, the first step is in acknowledging that and then it’s literally having the discipline and holding yourself accountable to getting there, right? But it’s it’s a balance. Everything is every business is nuanced. Number seven, do your service offerings come with procedure manuals for the staff? 

Lawrence King [00:16:09] Yes. Yeah, so we call them playbooks, are run books. 

Sean Magennis [00:16:12] Excellent. Number eight, do you assign work to teams strategically versus reactively? You address that a little bit. 

Lawrence King [00:16:21] Yeah. When we have a bench, it’s more strategic. Yes, when we don’t have a bench and we’re just trying to, you know, take on new projects and hire at the same time, it becomes a little bit more reactive, but there’s a balance. We’ll try to make some strategic folks on the account and then come back a couple of months later and fix it. Maybe rebalance it. 

Sean Magennis [00:16:43] Excellent. Number nine, does your hiring plan forecast demand for a specific leverage ratio? 

Lawrence King [00:16:51] Yes, absolutely. 

Sean Magennis [00:16:52] And number 10, do your financial goals match up with the leverage ratio assumptions in your business plan? 

Lawrence King [00:16:59] Yeah, that’s that’s the that’s that’s pro forma that drives everything. I’m on that thing probably twice a week. 

Sean Magennis [00:17:04] I love it. I bet you. I bet you. Three quarters of the people listening and the members of Collective 54 would love to get insights on that from you. 

Lawrence King [00:17:12] So happy to share. It was great building it, going through the process of building it, understanding all of the levers. Just going through that process now makes me understand it that much better. 

Sean Magennis [00:17:23] Well, you can see it. I mean, you’ve got your you’ve got all of the all of the information, all the facts at your fingertips. So, Lawrence, thank you. In summary, scaling means working less and making more. It does not just mean growing. If you want to earn what you’re worth, decouple revenue growth and headcount growth. Follow the leverage tips that Lawrence has given you, and your definition of success is not the number of employees you have, but rather it’s how much net income you produce. Lawrence, a huge thank you for being with us today.

And if you’ve enjoyed the show and want to learn more pick up a copy of the book The Boutique How to Start, Scale and Sell the professional services firm written by Collector 54 founder Greg Alexander.

And for more expert support, check out Collective 54, the first expert community for founders and leaders of boutique professional services firms. Collective 54 will help you grow, scale and exit your firm bigger and faster. Go to Collective54.com to learn more.

Thank you for listening. 

Episode 53: Leverage: Work Smarter Not Harder and Make More – Member Case with Lawrence King

Episode 51: Scale Capital: A DIY Approach to Raising Growth Capital – Member Case with Josh Miramant

Scaling a boutique professional services firm requires raising capital, and not all capital is the same. On this episode, we interview Josh Miramant, Founder and CEO at Blue Orange Digital, to learn about the three sources of scale capital. When scaling a business, these are the sources of scale capital to be mindful of:

Transcript

Sean Magennis [00:00:15] Welcome to the Boutique with Collective 54, a podcast for founders and leaders of boutique professional services firms. The aim of  this show is to help you grow, scale, and exit your firm bigger and faster. I’m Sean Magennis, Collective 54 Advisory Board member and your host. 

In this episode, I will make the case that to scale your professional services firm requires capital and that not all capital is the same. I’ll try to prove this theory by interviewing Josh Miramant, Founder and CEO at Blue Orange Digital. 

Blue Orange is a data science and machine learning, consulting and development firm. They build modern data warehousing to support machine learning, and A.I. Blue Orange helps companies integrate these insights to drive data driven decisions. And the decision making. You can find Josh atBlueOrange.digital. Josh, great to  be with you. Welcome.

Josh Miramant [00:01:24] Thanks Sean, it’s great to be here, thanks for having me.

Sean Magennis [00:01:26] Hopefully, I did justice to that explanation of all the great things you do.

Josh Miramant [00:01:30] Or how many buzzwords in our space. You couldn’t have nailed it better, Sure.

Member Case: How to Raise Capital When Scaling a Business

Sean Magennis [00:01:35] So, Josh, let’s start with an overview. So why do professional services firms need capital when trying to scale is the big question. Scaling a business usually means entering new markets, launching new service lines, adding more headcount and many other strategic initiatives. These things all take money. 

So can you briefly share with the audience an example of how you raise capital to scale your firm or how you think about raising capital when scaling a business ?

Josh Miramant [00:02:05] Sure. Yeah, so I’ve spent a lot of time thinking about this and just a little background. I’ve actually started to venture back companies prior, so I actually came out of SAS product and a large equity-reduced  background. And this is my first professional services firm, and it’s quite a different beast. 

And in many great ways, like high profit generating types of business initiatives that you can use things like cash flow to reinvest in growth all the way over to, you know, the challenging pieces that they’re very cash hungry business models. 

To be honest, they’re going to take a lot of efforts like investing and resourcing and staffing and having a bench and resource allocation and all these things that are very, quite expensive. And these have to be very well forecasted when you’re thinking about a financial backing. So we’ve taken a pretty holistic approach to our financial backing for this, and actually luckily enough, I sold my last company, and so I was able to, fortunately, do some self investing. 

But we quickly wanted to move to more institutional as we’ve grown along. So, I opened up and started with friends and family debt around the world who lived in debt for our organization. And in the early days, I was able to personally back just under a half million dollars of the total, personally backed notes through successive orders of friends and family. 

It’s more institutional, the different tiers of raise. And then we even looked at some other side of… We had discussions with investment banks and private equity firms about potential acquisitions or investments based on the equity side. And that starts to move seats around equity raise and even some interesting partnership model equity raises that we’re even currently talking about. So it’s a pretty interesting range of options that we’ve explored in total so far.

The Three Different Sources of DIY Capital to Consider When Scaling a Business

Sean Magennis [00:03:54] You know, I love that, and your experience is so uniquebecause you’ve come to me to share with our listeners from the perspective of having, youknow, started to venture back more tech firms. This is your first professional servicesfirm, so you bring all of the knowledge there and then you know you’re in this sort of

reinvention mode, and yet you’re still leveraging these unique sources of finance. 

So this is going to be great for our listeners to get your insights. So Josh, what I thought I’d do is, you know, at the top of the show, I suggested that not all capital is the same. And these days now, and I don’t know if you’re finding this, but certainly I am, that capital is abundant in the market, and there are very, very many different kinds. So I’d like to get your thoughts on what we call a do-it-yourself  approach. 

I’ll illustrate three types of capital. And yes, I know they are more so if you want to throw out some others that you’ve got personal experience in, that would be great too. So the first one I’d like your input on is free cash flow from operations. 

So this comes from increasing revenue, driving down costs, using the spread between those to scale a business. And scaling with free cash flow preserves the owner’s equity and does not add a debt service burden to the PNL. What are your thoughts on this, Josh?

1. Free Cash Flow From Operations

Josh Miramant [00:05:21] And this is one of the absolute magic parts about

professional services agencies that you’re able to have a lot of control and a lot. It puts youin an interesting position. I love that. That’s the name of a professional services agency. 

I mean, you summarized that I think is an absolutely beautiful part about cash flow, which is owner equity and not having to dilute too early in your growth phase. And my philosophy on when I entered into professional services, my philosophy was that our profit, our dividend would be the measure of our success, and that’s controlled. But I would show how successful we were in the market. 

And I think that was something that allowed us to think about our growth planning based on our cash flow. And that was truly as we got in and developed more client base and showed more market adoption and how to sell  better. We were able to expand our growth, and I think that was a nice guardrail-controlled mechanism. And once we got our sea legs under us and take over 10 million topline this year, we will be able to start thinking about taking on more debt burden, or now you’re in the other options at the top. 

And a bit about that growth, that controlled growth to getting that point with a lot of capital reinvestment was incredibly helpful for planning, aka not growing too quickly. Yes, having some of the scale constraints, but also being very thoughtful with where you’re making a capital investment. 

One thing I would say that we’ve learned and learned late and  became a major challenge for us in the early days because our monthly invoices were pretty modest and so we can afford to cover a lot of how we’re doing. And so you have your cash flow is usually not like a 60-day window, we do a month at work. We would bill and have a net 30 payment. And I’ve heard a lot of different firms and colleagues do it differently, but that was a 60-day  cycle. If everyone pays on time and at end of  billing.

Sean Magennis [00:07:13] Yes.

Josh Miramant [00:07:13] We have started moving heavily into reducing down that cash flow cycle, going into lower net 15 or even upfront invoicing on net 30. So you’re really reducing under 30 days and quite candidly with very little pushback. And from a cash flow perspective, we shipped about 80 percent of our current clients, which we have a pretty long client lifecycle in almost every new one onto that with very little exclusion, and that movement to that shorter revenue cycle is actually massively increased the amount of cash flow we’ve had. 

It’s amazing to even grow quicker and have to take on less your interest for equity release or dilution really steps of an option. So it’s, I think, controlling your cash, obviously just goal to get cash in and spend it, not to think about that later and then planning. But I would say even more thoughtful ways of having a discussion with our client upfront. 

We’re pretty candid. “We’re a small boutique, and we want to get to cash flow so we can invest in your team to make sure we have good management.” And they were right alongside us, supporting us on some tighter cash flow cycle. So love cash flow, and obviously like to keep and reserve  equity. So at the end of the day, that’s the cheapest money you’re going to get out there.

Sean Magennis [00:08:22] You know, I love what you’ve said and everything you’ve

said, you know, I totally agree with. One of the interesting things you said, and I don’t want

this to be lost on our listeners, is that you were surprised at the ability to get paid upfront or

get a shorter payment cycle on your AR. That is fantastic. And I think a lot of owners of

boutique firms don’t have the courage, or they fear asking for that. 

So give me a little bit more on that as to how you went about it, because I think our listeners if all they do is get from this the shortening of the AR or getting prepayments upfront that will leapfrog

their ability to use free cash flow for other things.

Josh Miramant [00:09:05] Yeah. This is easily one of  the most important thing that’s happened. We’re really still growing this year. Our  growth was big, and so every dime counts right now. For us, we’re doing multiple types of financing plus we’re hiring like crazy . 

We have larger amounts of, you know, resource allocation like unallocated resource between projects, all the things you expect from the management of our company. But the thing that’s amazing was when we tried these conversations. First off, understanding what’s right for your business, how is it logical for your clients to pay you appropriately. You want to make sure you consider, but not every conversation was about what the risk was the company taking for giving us money.

And I think that was important to have that conversation. So our business. We actually had a message that was thinking about how they would consider it. So saying, you know, “Hey, we’re going to invoice the upfront, we’re going to keep it at net 30. So we’ll be completing all of the work that we’re offering this revenue for. It’s a really it’s not payment upfront, it’s invoicing upfront and you just align the end of payment to work the most recently completed.” And everybody love that we’re asking for payment upfront. 

Accounting teams freak out. They’re like, “Oh, we don’t want to put risk of giving you our cash and not sure how the work would be done.” None of that risk was there. It’s like, “Hey, if we’re doing such a terrible job on delivery, your cash is still sitting in.” The bank knew all the leverage, and we stand by our great work. There is zero risk here, and you’re just helping us with keeping control of our cycle. 

The narrative thinking about what our clients worried about completely changed our messaging. And so the second thing that once there was any pushback, and we did have a couple of clients, you know, very friendly, say, “Oh, we don’t like it, it’s kind of like a retainer site or deposit. We never talked about that, right?” 

We can then say, “Hey, let’s get rid of this. It’s no problem. But could you help us out instead of a net 30, which is pretty industry-standard,  let’s do a net 15 or net 10. And they are like, “Oh, of course, that’s no problem.” So now we’re in  this discussion where we just decreased our AR by twenty-five  percent.

Sean Magennis [00:11:03] Twenty-five .

Josh Miramant [00:11:04] Yeah, yeah. We started that conversation, yeah, 20 percent, excuse

me, but we started the conversation instead of just being like, “Oh, it’s 60, and hopefully

they pay on time,” and now I’m scrambling cash three payroll cycles later. And so it’s just

having a conversation with them and thinking of the messaging. 

You’re bringing it out to clients the way that safely risks their position and ultimately, deliver good work and have no problem with the payments close to cycle. That’s the kind of the cardinal rule here.

Sean Magennis [00:11:30] It’s so smart and it’s so good and you’re both at the same time. What you’re doing is you’re educating your team to operate on that basis and you’re educating your client, you know, so it’s a really good and it and if it’s positioned, as you’ve said and messaged, well, it’s a win win for both. 

And I know that’s a trade statement, but thank you for sharing that because underneath your original comments were these two very specific tactics which if a boutique firm can do that, it’s going to be golden. 

2. Debt

So let’s get to number two. So the second aspect is debt. So debt typically would come from a bank. It would come from a private lender. It may not be cheap, but it is reasonable as lenders charge modest rates on loans and it’s also readily available in the two to three times EBITDA range is what we would typically see. What’s your opinion on debt?

Josh Miramant [00:12:23] Yes, I loved it. Personally, I always like to start with my best and the worst but, I would love to help you frame this. And there is this spectrum of a professional service founder. That’s the greed fear spectrum. And I love how he thinks about this. 

On the greed side, you don’t want to give up your equity. This is the thing you’re building. That’s the compounding value. And candidly, particularly with when you’re investing cash flow, investing your earnings back into the business. These are cash-hungry machines that take a lot of it, and it’s part of your investment can be tied up pretty heavily in the ownership of a firm. 

That’s always a concern of the owner of not being too tied into a single, you know, having some diversity in a portfolio, not just a company. And so I think it’s an interesting on the greed side you want to keep that compounding engine because they can take out your salary and whatever disbursements are that you choose. 

But the angle  there is just coming down to the fear side, which is not making payroll. It’s not being able to hire. It’s not being able to grow quick enough. And I think that’s always this dichotomy that exists that I always take this metric on. Debt is this wonderful piece that’s kind of, you know, stepping partially into the equity, I think will get a chance to talk about my thoughts there in a minute.

Sean Magennis [00:13:39] Yes.

Josh Miramant [00:13:40] The debt is a wonderful play.. I think there’s a couple of things to consider. What you’re spending it on is crucial. So I think it’s always focusing on, you know, it’s like, I think that debt should be considered on the opex experience. Never capex, I think that’s a little later in my rules. 

There’s other thoughts there, but like on there is that you can service and keep revenue coming when you’re looking at that. I think there’s angles of debt being made notes two to three, but I think that’s a reasonable starting point, depending on personal liquidity or other factors that you have for backup. 

But I think I also think taking on debt with consideration of a repayment calendar like based on your projections and knowing what worst case is and best case is, and keeping it modest until you have a pretty confident projection into your repayment calendar. And then surely just I think you’re right, like apples pretty cheap right now in general has been more expensive. Some pretty, really very, very favorable interest rates, but very tangibly looking how much that money’s costing you.

Sean Magennis [00:14:37] Yes.

Josh Miramant [00:14:37] And I think that’s a big piece of how much are you are losing out on future revenue and is that is it smarter to keep cash flow and grow slower or smarter to take that, capture that revenue and turn it into more accountability. And I think that at the right point that is absolutely something you should do. 

We’ve raised our friends, and family around. I took out a line of credit from the traditional bank, Chase is our banking partner in a quarter-million line of  credit, which was really friendly to, you know, have this beautiful, beautiful debt option there. Because it’s only paying and you’re using it, which is lovely. It’s right at your fingertips. 

And then we’ve gone and got another $400000 debt financing round, which is pretty good for our books right now. On a more traditional note and still pretty favorable interest rates and the interest on it is pretty modest. So it’s a very nice opportunity for us to have, you know, feel very comfortable on our AR cycle and tied with upfront billing amount in a really strong cash position, even with this large growth factor, which is so nice to see.

Sean Magennis [00:15:45] And I would assume that you’ve also got some good forward visibility on contracting that’s coming forward because that helps you manage your greed fear component that you just spoke to, right?

Josh Miramant [00:15:58] Couldn’t be more apt there, and I think honestly, the

amount I would be sensitive to take out as much debt as I have unless we had contracts in place. We have even things that I was sensitive to. I’m not taking extending my debt financing options until we had a diverse set of contracts that were pretty far. 

I don’t want just one big client, or a couple, a few small ones that are kind of tailing in cycle with low visibility. It was, you know, we could lose a good chunk of our, you know, any individual client has no impact on our financial stability. That took a while to build, for sure. Toyour point of forecasting and de-risking alone actually was less about being able to service, you know, a few thousand dollars a month of interest, which is not in…the percentages are tiny. Yeah, but it’s actually coupled with a repayment schedule and projections against that with their contracts, we can stick to that calendar. Either way, it just means other future growth constraints, but still better offer market opportunity with clients, which took off.

Sean Magennis [00:17:00] You know, brilliant, and you’ve also hit on a couple of additional key things like client quality. So the ability of the client to pay, which is critical. Diversification of your client group, so you’re not anchored. You know you don’t have all your eggs in one basket, and then you’ve got your backlog in the quality of your contracting. So fantastic. 

I mean, this is exactly what we want listeners to really get a handle on because when using a debt instrument, all those factors should be in place, and you need to be able to feel comfortable and go to sleep at night. You know that you’re not going to wake up one morning and not be able to service the debt, right?

Josh Miramant [00:17:40] Yeah. So just a note to add. I think that in the early days, and I’m getting some questions that are on, fortunate enough to have some pretty decent-sized loans, personal back loans. And I think that’s best. I think what is also very exciting when we can move beyond me not having personal back loans, that was great money. 

And that’s where certainly takes a lot more to build a business to that point. But I do think that was a healthy risk appetite that I was willing to a smaller scale to then show repeated receivables and show a consistent client base. But that transition from I would certainly say that if debt is where you’re looking to go as you’re building a company up to 100 employees, which is our top line, but the size that we’re building on. 

I certainly get meaningful amounts of money or large enough amounts of money just on the business alone until we got a little bigger. And then it became something where that was because of the combination of cash flow and this just being not as much of covering the percentage of our MR. And it’s interesting how that became a really good solution on the company’s books.

Sean Magennis [00:18:44] I love that, and you know, it works right in the early stages. You

take the personal guarantee in the middle. I saw you don’t need to do it. You know there’s an appropriate time to take on personal risk, and then there’s a time, as you’ve just illustrated, where the company can take on that risk on the balance sheet. 

3. Equity Partners

So let’s flip to the third aspect, which is equity partners. So this is when an investor puts cash in exchange for a piece of the business, and then the owner’s stake is diluted as a result. What do you think about equity for a boutique professional services firm?

Josh Miramant [00:19:24] Yes, I got a little more sensitive when it comes to equity with a company like a professional services firm. First off, as I mentioned in my background, I think equity raises are really important. I think it’s just when and what you’re looking to build your firm. I think those are two questions that you need to understand here. 

So let me share my thinking around that. So unlike a SaaS product, where you just think high multipliers. High multiples and valuation are the expectation. If you are successful on strategy, whatever X your thinking about right, your projection on a professional service  depends on a little variability of your space. 

And how much tech work or how much automation is inside of the way that you do what you do, when is or what the product is understood, what you’re building,you’re looking at 2.5 to 4.5 range multiplier. Those are rough numbers that are going to be different for every one of your listeners here. But that’s kind of where our sector fell, our cutting edge buzzword tech stocks, or a little bit more depending on how strong your sales team and all these factors are not getting the details.

Sean Magennis [00:20:29] Yes.

Josh Miramant [00:20:30] So it’s interesting to think about when you look at those multiples, what are you looking to build? You’re really looking to scale a business. You need a lot more money. You need to invest in bigger sales organizations, but that comes once you make it to the next stage. Like, I always look at our objective and goals as a company is to move into that 25 to 30 million top-line revenue company as we scale-out.

And I look at that is what my investment team talks about is the platform layer of a professional services agency. That’s their terms. I like it. If you’re looking to scale a business, it’s like when you become a platform that things like taking on, you know,an equity raise and acquiring other companies you can actually absorb into you. 

If there is an option, there would be not typically a lot of business selling you to other firms, which I’ve actually done some other interesting areas around equity partnership equity, which is an interesting area that we’ve been talking about with a few of our partners lately. 

Yes, it’s very compelling because it actually reduces some of the equity dilution or my owner dilution along with the and while still getting pretty good terms, some capital. But the biggest factor is you are trading control, and it’s usually in a very good way. If you’ve got a good partner and you take on a good relationship with the firm because that’s expertise and all the things that come with a high or higher opportunity in addition to cash. 

So lots of good. But that control factor is important when you start thinking about what you’re looking to execute. So I think that equity when a founder and how I feel about it, when a founder feels really confident in their business model and can sell it well and they should know how much equity they’re going to give up for capital.

Sean Magennis [00:22:09] Exactly.

Josh Miramant [00:22:09] We did a full two-term sheet equity raise and I didn’t feel comfortable of the evolution at the time. And they were generous terms, that I think, appropriately valued our company. But it just the dilution meant was more of a control consideration on one side. And candidly, if it was done now, I think it might be below a margin where my control factor would be given up. 

So it’s a little bit to the founders role, like we’re looking to scale quite large and leaving up 50 percent of our equity right now. So when we’re being raised too much dilution down the road, but it can get a little bigger, have more receivables, are valued more competition or have more staff, the value of the company starts giving you competitive options. It’s a little individual, but I love equity. I just think the time, and the goals are crucial to be considered.

Sean Magennis [00:22:52] I love that. So the time and the goals are crucial for consideration. This is excellent, Josh. Really. So I can’t think of a more important, high-stakes strategic decision for our listeners to get right. As we’ve gone through these three, there are others. So this takes us to the end of this episode. 

Scaling a Business: Questions to Ask When Raising Growth Capital

And by the way, we’re going to have plenty of opportunities to discuss this, particularly in Collective 54 going forward. So this has been extraordinarily valuable. As is customary, we end each show with a tool. We do so because this allows a listener to apply the lessons to his or her firm. Our preferred tool is a checklist. 

Our style of checklist is a yes-no questionnaire. We aim to keep it simple by asking only 10 questions. So in this instance, if you answer yes to eight or more of these questions all three of these capital sources are available to you. 

If you answer no to questions one to three, don’t pursue funding to scale with free cash flow. If you answer no to four to nine, don’t rely on debt. And if you answer no to question 10, don’t take on an equity partner. Josh as graciously agreed to be our peer example today. So,Josh, I’ll just ask you these 10 questions. Give us a simple yes or no.

Sean Magennis [00:24:08] And here we go. So number one, are you generating enough

free cash flow to fund scale?

Josh Miramant [00:24:17] Yes.

Sean Magennis [00:24:19] Number two, do you know where to deploy this extra free cash

Flow?

Josh Miramant [00:24:25] Oh, yes.

Sean Magennis [00:24:26] I love it. Number three, are you willing to go without today for

scale tomorrow?

Josh Miramant [00:24:34] Yes.

Sean Magennis [00:24:36] Number four, have you been in business for at least five

years?

Josh Miramant [00:24:41] Yes, we have.

Sean Magennis [00:24:42] Number five, are you generating stable EBITDA every year?

Josh Miramant [00:24:51] Beside COVID, yes.

Sean Magennis [00:24:52] OK. Oh, that’s good, I mean that listen, that’s real, right? You’re being honest.

Josh Miramant [00:24:55] It’s exciting years.

Sean Magennis [00:24:57] Exciting years. Number six, would two to three times EBITA be enough to fund scaling your firm?

Josh Miramant [00:25:04] Yes.

Sean Magennis [00:25:05] Yeah. Number seven, can your PNL handle the debt serviceburden of a loan?

Josh Miramant [00:25:11] Yes.

Sean Magennis [00:25:12] Number eight, are you willing to personally guarantee a loan?

Josh Miramant [00:25:18] Yes.

Sean Magennis [00:25:18] Yeah. You’ve done it.

Josh Miramant [00:25:20] Done it in the trenches on that one.

Sean Magennis [00:25:21] Absolutely. Number nine, do you have enough personal assets to secure the loan if open to a guarantee?

Josh Miramant [00:25:29] Yes.

Sean Magennis [00:25:30] And number ten. Are you willing to dilute your ownership, take for

the right equity partner?

Josh Miramant [00:25:37] Yes.

Sean Magennis [00:25:38] Outstanding, so in summary, it takes money to make money, scaling a boutique takes money. There are different funding sources, each with its own pros and cons. All can work well, which is best for you is highly situational. And Josh, you’ve said that. 

So take your time, listeners, to consider this very important strategic decision. Josh, a huge thank you today for sharing all of the real-life examples. I love your enthusiasm. I love the fact that you’re in Manhattan. I could hear the traffic, which we haven’t heard a lot in the last six months. It’s brilliant and makes me feel as if we’re in the real world.

And for our listeners, if you enjoyed the show and want to learn more, pick up a copy of the book “The Boutique: How to Start, Scale and Sell a Professional Services Firm”, written by Collective 54 founder Greg Alexander

And for more expert support, check out Collective 54, the first mastermind community for founders and leaders of boutique professional services firms.Collective 54 will help you grow, scale and exit your firm bigger and faster.

Go to Collective54.com to learn more.

Thank you for listening.

Episode 51: Scale Capital: A DIY Approach to Raising Growth Capital – Member Case with Josh Miramant

Episode 47: The Boutique: THE DOS AND DON’TS OF STRATEGY DEVELOPMENT FOR BOUTIQUES

Scaling a boutique professional services firm requires a strategy. Yet many owners have a collection of tactics and call it a strategy. Learn about how firms should approach creating their strategy.   

TRANSCRIPT

Sean Magennis [00:00:15] Welcome to The Boutique with Capital 54, a podcast for owners of professional services firms. My goal with this show is to help you grow scale and sell your firm at the right time for the right price and on the right terms. I’m Sean Magennis, CEO of Capital 54 and your host. On this episode, I will make the case that to scale the boutique requires a strategy and that a collection of tactics is not a strategy. I’ll try to prove this theory by interviewing Greg Alexander, Capital 54’s chief investment officer, Greg is considered by some as a master strategist and has a lot to share on this topic. Greg, great to see you. Welcome.

Greg Alexander [00:01:08] Thanks, Sean. This is very timely. I was looking at it from the other day who was trying to raise capital, and I asked them for their strategy doc. They sent me a spreadsheet populated with business plan assumptions. And as you know, that’s not a strategy. And this reminded me of how much work we must do in this area.

Sean Magennis [00:01:24] Yes. You know, for some reasons, there’s a knowledge gap in this area. Why do you think that is?

Greg Alexander [00:01:30] I think founders of boutiques know they need a strategy, and I feel as if they want one, yet when they look for help, all they run into is how to materials for product companies. And this leads them down the wrong path. Strategy for a professional services firm is very different. And unfortunately, there’s just not a lot out there on this topic.

Sean Magennis [00:01:50] Well, Greg, that’s what we are here for. And maybe this podcast will help. Heck, maybe there’s a new book in this for you.

Greg Alexander [00:01:57] I’m still recovering from the heavy lift of writing my last one, so maybe someone else can take that on.

Sean Magennis [00:02:03] Well, the boutique is fantastic, so let’s hope. OK, pick up on the thread on how strategy for product companies is different than strategies for services firms.

Greg Alexander [00:02:14] Sure. So here’s our strategy. And a product company gets built. The executive team builds a list of attributes that make a market attractive. These are items such as organic growth rates, number of companies, target trends and so on. This produces a list of vertical industries to pursue. This list of industries gets further segmented into a list of companies to pursue. And ultimately the data gets cut to names and accounts who might want to buy the products, including an estimate on spend potential. A debt gets created that says some version of the following. Our strategy is to target this list of clients in these industries. With these products, everybody nods in agreement. The Excel formulas are double checked and the and the goals get cascaded down to the department heads. This is a what exercise as in what are we going to do? This does not work for a professional services firm.

Sean Magennis [00:03:08] Why not Greg?

Greg Alexander [00:03:10] A strategy for professional services firms must be a how exercise. It starts with, how are we going to become more valuable to clients? Pro serve firms are better served with a how based strategy because of the nature of competition. Pro serve firms do not have the advantages present in product businesses which allow product businesses to get away with what based strategies. For instance, does Google have to ask how questions? No. How come? They have huge barriers to entry by controlling 60 percent of the search traffic. Pro serve firms do not have these types of advantages. For example, McKinsey is a top consulting firm in the world and they only have three percent market share. If they stop becoming more valuable to their clients, they are easily replaced. They do not have an install base locked into their firm. Does this make sense?

Greg Alexander [00:04:02] It does. Professional services firms need a different strategy development process built on how questions with the ultimate how question being how do I become more valuable to my clients? Can you give me some other How strategy questions that should be addressed in a boutique strategy?

Greg Alexander [00:04:23] So here are a few big ones that probably you could really think through and write many sophisticated answers to. So, for example, how do I raise client satisfaction? That’s a big macro question, huh? How can I elevate the skills in my team so I can raise prices? You know, oftentimes boutique owners don’t realize is a relationship between skill and price. Next, how can I redesign the work to improve utilization rates, you know, when’s the last time you broke out your work breakdown structure and reengineered the way you deliver the service?

Sean Magennis [00:04:57] Yes.

Greg Alexander [00:04:59] Or let’s say, how can I specialize in new ways of further differentiating us from the competitors? Because if you’re a boutique, you’re competing with generalist. So the more specialized you are, the more likely you’re going to win. So these are just a few. And they link back to the key macro question. How do I become more valuable to my clients?

Sean Magennis [00:05:19] Greg, is that it? Just switch from what to how?

Greg Alexander [00:05:25] I wish it were that easy. Each how question needs an answer and the answer must include another how. This is the how to part of the strategy, the action plans. This means a goal timeline, budget project team and accountability owners, deliverables and key milestones. This cuts through all the bullshit and gets to the action to be taken. And it is this style of strategy that that takes a pretty scale firm and scales them to a dominant player and their niche.

Sean Magennis [00:05:58] Greg, this is so different and and so clear. This is not a budgeting exercise. I love it. And now a word from our sponsor, Collective 54, Collective 54 is a membership organization for owners of professional services firms. Members joined to work with their industry peers to grow scale and someday sell their firms at the right time for the right price and on the right terms. Let us meet one of the collective 54 members.

GQ Fu [00:06:33] Hi, my name is GQ co-founder and CEO of LTV Plus, we serve E Commerce and SAS businesses mainly based in North America and Europe, with some based in other parts of the world. When e-commerce and customer experience executives and directors have issues recruiting agents, training agents and expanding their coverage to meet the demands of their customers, they turn to LTV Plus to help them scale their customer service teams through world class customer service outsourcing. We solve this problem by providing highly trained, dedicated customer service agents that are selected based on the brands and industries they serve. We also provide recovery services to help generate more sales and full payment recovery services to recover lost revenue for subscriptions based online businesses. If you need help with scaling your customer service team to meet the demands of your customers, reach out to me at [email protected] or check out our website at ltvplus.com.

Sean Magennis [00:07:34] If you are trying to grow scale or sell your firm and feel you would benefit from being a part of a community of peers, visit Collective54.com. OK, this takes us to the end of the episode, let’s try to help listeners apply this. We end each show with a tool. We do so because this allows a listener to apply the lessons to his or her firm. Our preferred tool is a checklist and our style of checklist is a yes-no questionnaire. We aim to keep it simple by asking only 10 questions. In this instance, if you answer yes to eight or more of these questions, your strategy is working for you. If you answer no, too many times, your strategy is more than likely getting in the way of your attempts to scale. So let’s begin.

Sean Magennis [00:08:36] Number one, does your strategy outline how the firm will develop new capabilities that the competitors do not have?

Greg Alexander [00:08:45] And of course, this assumes, you know, what the competitors have.

Sean Magennis [00:08:48] Precisely. Number two, does your strategy detail why the competitors cannot match them?

Greg Alexander [00:08:55] Yeah, an often overlooked is because you develop something. If it’s easily copied, that’s a tactic. It’s not a strategy.

Sean Magennis [00:09:01] Right. Number three, does your strategy specify how these capabilities will be pushed into the market? Number four, does the strategy, explain how your resources are going to be deployed? For example, money, people and time. Number five, does the strategy specify how this resource deployment is different than your competitors? Number six is the strategy supported by enough clients sourced evidence?

Greg Alexander [00:09:36] This is a big one. So oftentimes, you know, our founders who we love envision themselves as master strategists and they say the clients don’t know what they need. Let me tell them. That’s a big mistake.

Sean Magennis [00:09:49] Number seven, does the strategy specify who oversees each program?

Greg Alexander [00:09:54] Got to have an owner for everything.

Sean Magennis [00:09:56] Number eight, has the team been properly incented to execute the plan? Number nine, does the strategy detail how the competitors plan to beat you?

Greg Alexander [00:10:07] Yeah, so a good tool there is a SWAT. Understand, where you’re weak and how you might get attacked.

Sean Magennis [00:10:15] And number 10, does the strategy specify how to respond to competitor attacks? So in summary, a collection of tactics is not a strategy, nor is a financial model or an annual budget, a strategy outlining what is not as useful as a strategy that outlines how. Scaling does require a strategy, and it should be focused on making you more valuable to your clients.

If you enjoyed the show and want to learn more, pick up a copy of Greg Alexander’s book titled The Boutique How to Start Scale and Sell a Professional Services Firm. Thank you, Greg.

I’m Sean Magennis and thank you to our audience for listening.

Episode 45: The Boutique: Leadership – Dictator vs. Democracy: Which is Best for You?

As boutiques scale the way decisions are made must change. Collective 54 Founder Greg Alexander shares why the decision-making leadership of the founder is diminished as boutiques scale.

TRANSCRIPT

Sean Magennis [00:00:15] Welcome to The Boutique with Capital 54, a podcast for owners of professional services firms. My goal with this show is to help you grow scale and sell your firm at the right time for the right price and on the right terms. I’m Sean Magennis, CEO of Capital 54 and your host. On this episode, I will make the case that as boutique scale, the way decisions get made must change. A start up benefits from the speed of a single decision maker, however, during scale, the decision making ability of the central figure gets diminished. I’ll try to prove this theory by interviewing Greg Alexander, Capital 54’s chief investment officer. Greg has helped many boutiques transition their power structures. Greg, great to see you. Welcome.

Greg Alexander [00:01:14] It’s nice to be here, Sean. Transitioning the governance system as a firm scale’s is a very important topic. So I’m glad we’re speaking about that today.

Sean Magennis [00:01:21] Yeah, I can’t agree more. Greg, can you set this up for the audience? Why should a founder of a scaling boutique really care about power structure.

Greg Alexander [00:01:30] Sure. So early stage growth firms require a dictator to be successful. These firms do not have time to build consensus. They must rapidly iterate and move very quickly. And the scope of the decisions that need to be made is small at this stage. The personal willpower of the founder dictator is a key reason these types of firms succeed. Strong leadership is crucial, and the skills needed in a dictator type of leader are easily defined and readily available am my making sense?

Sean Magennis [00:02:04] Yes, yes, you are correct. Please continue.

Greg Alexander [00:02:07] So when a firm starts to scale, it needs to implement a democracy. The boutique is larger and leadership must represent the team. More people need to have a say the dictator is removed from the front lines, his or her proximity to clients becomes more distant. As a result, his or her decision making ability becomes diminished. This person’s once prophetic instincts become dulled.

Sean Magennis [00:02:34] I completely understand that now. So owners of firms, when attempting to scale, need to make more and more complicated decisions. And the best people to make those decisions are those closest to the clients. A somewhat removed dictator is no longer the person uniquely qualified to steer the ship.

Greg Alexander [00:02:55] And you are correct.

Sean Magennis [00:02:56] So how does a boutique transition from the powerful dictator to a democracy?

Greg Alexander [00:03:01] Well, very carefully, as some foreigners do not want to go quietly, the strong willpower that made them successful in the first place now becomes a liability.

Sean Magennis [00:03:12] So, Greg, surely there must be some best practices to handle this transition smoothly?

Greg Alexander [00:03:17] Yeah, there are all firms go through this, at least the ones who scale beyond a nice lifestyle business.

Sean Magennis [00:03:22] So share some of these best practices with our listeners.

Greg Alexander [00:03:25] OK, so I’m going to try to simplify. So bear with me. All right. So the transition typically involves the election of a board. The board is comprised of the equity partners and at least one external independent board member. I play and have played this role. The board meets quarterly and it is mandated to make policy decisions. It is important to note that the board does not run the firm they have focused entirely on long term reporting to the board is a managing partner. The managing partner acts like a CEO does in a corporation. He or she is the boss and is accountable to the results. The managing partner has an executive leadership team that reports to him or her. Normally, the executive leadership team is comprised of the department heads. For example, the leader of the delivery staff is almost always on the ELT. This way the employees from each department are represented. These three bodies, the board, the managing partner and the Executive Leadership Team Act much like the checks and balances system in our government. For instance, the board is the legislative branch. The managing partner is the executive branch. In the executive leadership team is the judicial branch. The ultimate power sits with the owner or owners. The board answers to the owner. Think of the owner or owners, much like you would think about the shareholders of a public company. They own the company, but they do not run it. They elect a board to represent them and the board, selects a managing partner to run the firm. I’m dramatically oversimplifying, but does this basic structure make sense?

Sean Magennis [00:05:06] It certainly does in simplicity is preferred, makes it makes total sense. And I can clearly see how this power structure enables a firm to scale. And I do recognize how different this is than a small firm with all roads leading to a one shot caller.

Sean Magennis [00:05:26] And now a word from our sponsor, Collective 54, Collective 54 is a membership organization for owners of professional services firms. Members joined to work with their industry peers to grow scale and someday sell their firms at the right time for the right price and on the right terms. Let us meet one of the collective 54 members.

Russ Perry [00:05:52] Hey there, my name is Russ Perry and I’m the founder and CEO of Design Pickle. Design Pickle offers, flat rate graphic design and custom illustrations to fit any team’s needs. We work with marketing teams, agencies and entrepreneurs across the world. Turn to us to help level up and scale your creative content. Find out more at designpickle.com.

Sean Magennis [00:06:12] If you are trying to grow scale or sell your firm and feel you would benefit from being a part of a community of peers. Visit Collective54.com.

Sean Magennis [00:06:30] OK, this takes us to the end of the episode, let’s try to help listeners apply this, Greg. We end each show with a tool. We do so because this allows a listener to apply the lessons to his or her firm. Our preferred tool is a checklist and our style of checklist is a yes. No question that we aim to keep it simple by asking only 10 questions. In this instance, if you answer yes to eight or more of these questions, your decision making is working for you. If you answer no too many times your decision making is more than likely getting in the way of your attempts to scale. Let’s begin with the questions.

Sean Magennis [00:07:14] Number one, have you transitioned from a growth stage boutique to a scale stage firm?

Greg Alexander [00:07:21] So the way that you would know that is when your aspirations change. So are you moving from aspiring to make more money. To building a firm that’s bigger than you, you know, moving beyond a lifestyle business. So that’s how you would answer that question.

Sean Magennis [00:07:37] That’s a good distinction. Number two, are you attempting to become a market leader? For example, one of the 4100 firms who have reached scale.

Greg Alexander [00:07:47] And if you are so now, if you’re going from scale to market leadership, then you absolutely need to embrace democracy over dictator.

Sean Magennis [00:07:55] Number three, do you have a dictator in place today?

Greg Alexander [00:07:58] If you do try to try to handle a a peaceful transition of power, a coup d’etat is not a good idea.

Sean Magennis [00:08:07] Number four, have the dictators once great instincts begun to deteriorate? Number five, have the number of decisions to be made gone up considerably? Number six, has the complexity of the decisions to be made increased substantially? Number seven, does it make sense to distribute authority closer to the client?

Greg Alexander [00:08:31] Right, so if you answered yes to five and six, the number of decisions in the complex decisions has increased, then it does make sense to distribute authority close to the client. However, if you’re running a very simple business with very few decisions to make in the ones, you do have to make a simple that. Maybe not.

Sean Magennis [00:08:48] Yep, got it. Number eight, do the employees want a greater say in policy making? Number nine, do the owners want to delegate decision making more?

[00:08:59] So this is what’s in it for the owners. You know, if if they have to make every decision every day, they’re probably working more than they want to make, more than they want to work. So by distributing decision making down to trusted lieutenants who can do it for them, they actually reduce their workload.

Sean Magennis [00:09:13] And work smarter, not harder.

Greg Alexander [00:09:14] It’s exactly right.

Sean Magennis [00:09:15] And number ten, do you have a person capable of serving as a managing partner?

Greg Alexander [00:09:20] So this is the biggest issue. Dictators, right. Those that are the founders that drive their firms to certain level of success, they oftentimes don’t want to relinquish power. So the way to do it, at least the way that that I did it and those that I’ve seen, pull this off, do it as they grow their own. Yes, risk is really high when you’re bringing somebody in from the outside. But if you’re if you’re grooming a successor over a number of years, this becomes easier.

Sean Magennis [00:09:45] I love it. The institutional knowledge. Yes, the culture knowledge is so key. So in summary, we do love our founders. They had the guts to start the firm and the skill to grow it. However, growing a boutique and scaling it are two very different things. Scaling does not mean doing more of what you are doing. It means doing what you would doing differently. This is the point whereby dictators plateau and a new governance system is needed.

If you enjoyed the show and want to learn more, pick up a copy of Greg Alexander’s book titled The Boutique How to Start Scale and Sell a Professional Services Firm. Greg, thank you.

I’m Sean Magennis and thank you, our audience for listening.

Episode 44: The Boutique: How to Split Up the Pie in a Professional Service Firm

Splitting the equity in a partnership is difficult. However, there is a proper way to do it that results in lots of wealth being created. Learn how to fix broken legacy partnership agreements as you grow, scale, and exit.

TRANSCRIPT

Sean Magennis [00:00:15] Welcome to The Boutique with Capital 54, a podcast for owners of professional services firms. My goal with this show is to help you grow scale and sell your firm at the right time for the right price and on the right terms. I’m Sean Magennis, CEO of Capital 54 and your host on this episode. I’ll make the case that splitting up the equity in a partnership is difficult. However, there is a proper way to do it and it results in lots of wealth being created. I’ll try to prove this theory by interviewing Greg Alexander, Capital 54’s Chief Investment Officer, Greg has helped many boutique owners fix broken legacy partnership agreements. Greg, good to see you and welcome.

Greg Alexander [00:01:09] It’s good to be here, Sean and you are correct, I was just helping an owner unravel a one sided agreement. Splitting up the pie is very tricky.

Sean Magennis [00:01:16] OK, let’s start there. Share the story with us.

Greg Alexander [00:01:19] OK, so a husband and wife team started a marketing agency and early on they promoted a key employee to partner and gave them 20 percent of the equity. This was in response to the employee receiving an attractive job offer from another agency. In the beginning, everyone was happy and it seemed to be working. As time went on, the husband and wife started resenting the new partner. The new partner was not delivering the expected revenue, yet he was getting distributions from their efforts.

Greg Alexander [00:01:52] Also, the husband and wife wanted to take the agency in a new direction, but the new partner did not. He resisted and the way the operating agreement was written as he was able to stop it. The situation deteriorated and got hostile, with lawyers and others coming in, a valuation firm was hired to figure out a buyout price. Of course, no one could agree on what his 20 percent was worth and how the buyout would be paid over time. It got ugly and it looks like 20 percent of the equity is now dead equity.

Sean Magennis [00:02:26] So, Greg, what’s going to happen in this situation?

Greg Alexander [00:02:28] Well, they are still fighting and a resolution has not been agreed to yet. However, I’m glad, you know, we let off with this story because there’s a big lesson to be learned here from this example.

Sean Magennis [00:02:39] Greg, what is that lesson?

Greg Alexander [00:02:41] So equity arrangements need to be flexible. So for our listeners, the evolutionary path is a startup that becomes a growth firm, that becomes a firm at scale and then eventually becomes a firm an exit. And equity splits need to change as they move along this life cycle, for example, it is almost impossible to split equity as a startup. There are no clients, there’s no revenue, no profits. It’s also almost impossible post startup in the growth stage. Yes, there are clients and revenue, but there’s no intellectual property or intellectual capital to be valued at that time. The firm is still not worth anything because nobody would buy it. 100 percent of zero is zero. This changes in the scale stage as the firm is now worth something and it changes again in the exit stage because after exit, some partners are leaving and some are staying on. That dictates the need for a new equity split.

Sean Magennis [00:03:38] Greg, this is so key. And before we move on to scale and exit, how should a boutique owner split equity at a startup or in the growth stage?

Greg Alexander [00:03:46] So when starting the firm, I recommend valuing the equity solely based on contributed capital. So, for example, let us say it takes a startup boutique a million dollars to launch. So if you put up 300K and I put up 700K then the equity split is 30 percent you and 70 percent me. A lot of boutique owners split up equity based on sweat equity instead of contributing capital. And this is a big mistake and it leads to hardship down the road. So why is that? Well, it’s impossible to accurately assign a value to sweat equity. So, for example, what percentage of equity should go to a great rainmaker versus an average rainmaker? The questions too difficult to answer instead. Sweat equity is accounted for in salaries, not in equity. For instance, if a partner was responsible for project management, they get paid a salary that reflects the going rate for a project manager. That is the value of the role and it is set objectively in the open market. Does that make sense?

Sean Magennis [00:04:45] Yes, it does. But what happens when a partner does not have any capital to put into a firm at launch, but over time ends up contributing a lot to the firm as it scales? OK, so now you’re talking and this happens all the time and therefore equity splits need to be dynamic, not static.

Sean Magennis [00:05:02] Yes.

Greg Alexander [00:05:02] So in this case, the partners use a tool called the Buy-Sell Agreement. This is a contract that stipulates how a partners share of a business can be bought and sold. It defines that equity splits can happen under certain conditions and it defines exactly how it will happen. For example, it is common that the buy sell agreement establishes how shares in the firm will be priced, who they can be sold to, how they would be paid for, etc.. So having a buy sell agreement in place provides the needed flexibility to dynamically adjust equity splits at as circumstances change.

Sean Magennis [00:05:37] Greg, is this common?

Greg Alexander [00:05:39] Well, yes and no. Buy-Sell agreements are well-worn territory and are an established best practice. A boutique owner could hire an attorney and get one in place very quickly and inexpensively. However, many boutique owners do not have one in place. And you might ask why? Well, this is because founders think they do not need them. They cannot imagine a scenario where the need for one would arise. This is foolish. If you scale your firm in one day, go to sell it. There is a better than average chance someone other than the founder has equity. Founders want to keep all the equity, but I remind them that 100 percent of zero is zero. Sharing the wealth with those who earn it is a very good idea. In my experience. When the founders shares the wealth, more wealth is created for everyone. Magical things happen when employees become owners.

Sean Magennis [00:06:26] That’s excellent advice, Greg, and great examples. Thank you. And now a word from our sponsor, Collective 54, Collective 54 is a membership organization for owners of professional services firms. Members joined to work with their industry peers to grow scale and someday sell firms at the right time for the right price and on the right terms. Let us meet one of the collective 54 members.

Tad McIntosh [00:06:59] Hello, my name is Tad MCIntosh, I own HumCap, a human resources consulting and recruitment forum. We help small businesses with their growth, human resources and recruitment needs. We get asked very often about how we can help you have strategic value in human resources in your growing company. We also get ask what are the risks in H.R. as I grow my company? We solve these problems by building customized H.R. and recruiting solutions for each and every one of our clients. If we can help you with your needs, with our experience and recruiting professionals, please call me at 469-484-6023 or email me at [email protected] Thank you and have a great day.

[00:07:51] If you are trying to grow scale or sell your firm and feel you would benefit from being a part of a community of peers, visit collective54.com. So, OK, this takes us to the end of the episode, let’s try to help listeners apply this. We end each show with a tool. We do so because this allows a listener to apply the lessons to his or her firm. Our preferred tool as a checklist and our style of checklist is a yes-no questionnaire. We aim to keep it simple by asking only 10 questions. In this instance, if you answer yes to eight or more of these questions, your equity splits are working for you. If you answer no too many times, your equity split is likely getting in the way of your attempts to scale. Let’s begin.

Sean Magennis [00:08:52] Number one, is your firm owned by more than one person? Number two, do the owners contribute to wealth creation in different proportions? Number three, are the owners at different stages in life?

Greg Alexander [00:09:09] Yes, so we should talk about that. So if you start your firm and someone’s in their 50s and someone’s in their 20s, you know, over time that person in their 50s is going to want to exit before the person in their 20s. So that’s the reason. That’s just an obvious example of why dynamic splits as opposed to static splits.

Sean Magennis [00:09:28] That makes a lot of sense. Number four, do the owners have different financial needs?

Greg Alexander [00:09:33] Some might need more cash, so therefore they get a higher salary. Some might be more interested in long term wealth creation. So they take a lower salary to get a higher equity split.

Sean Magennis [00:09:42] Again, makes total sense. Number five, do the owners have different visions of the future? Hence your example. Number six, have the partner contributions fluctuated over the years?

Greg Alexander [00:09:55] And again, this is another good governance seal of approval here. If the equity split is dynamic, then somebody can’t rest on their laurels just because they got, let’s say, 20 percent of the firm, you know, at year three and year ten if they’re not contributing, then they should not hold on to the 20 percent in perpetuity forever.

Sean Magennis [00:10:14] Yep. Number seven, has resentment crept into the relationships?

Greg Alexander [00:10:19] Its all the time. Business partnerships are like marriages.

Sean Magennis [00:10:22] Yep. Number eight, are you living with a legacy ownership structure that is now outdated?

Greg Alexander [00:10:28] Yep.

Sean Magennis [00:10:29] Number nine, will rising stars require equity to be retained?

Greg Alexander [00:10:34] Yeah. And the foolish owner here says, well, fine, I’m not going to give him equity. Well, those rising stars will quit. They’ll go start their own firms and now you’ll have new competitors and you’ll have a talent drain. So, you know, don’t be penny wise and pound foolish.

Sean Magennis [00:10:52] Great advice, Greg. And then to wrap us up, number ten, has the ownership structure distorted policymaking?

Greg Alexander [00:10:59] Yeah, and that’s a separate issue. Governance is separate than ownership. So you could have different classes of shares with different voting rights, but that’s a whole nother topic for another day.

Sean Magennis [00:11:07] Yep. Thank you, Greg. In summary, during the start up and growth stage of a firm development, split up the equity based on contributed capital. However, as the firm scales put a buy sell agreement in place, this converts dysfunctional static equity arrangements into healthy, dynamic ones. This will result in more wealth for everyone involved. If you enjoyed the show and want to learn more, pick up a copy of Greg Alexander’s book titled The Boutique How to Start Scale and Sell a Professional Services Firm. I’m Sean Magennis. Thank you for listening.