THINK TANK: Business Models Institutionalization of the Hedge Fund Industry
Succession Planning and Exit Strategies: Implications and Challenges
April 20, 2006
Franklin H. Kettle
Colchester Partners LLC
175 Federal Street
Boston, MA 02110
(617) 896-0200
November 2005
Cary J. Meer
Kirkpatrick & Lockhart Nicholson
Graham LLP
1601 K Street, NW
Washington, DC 20006
(202) 778-9107
BUILDING VALUE IN THE FIRM
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BUILDING VALUE IN THE FIRM
Second Generation and Succession Planning
Must have 2nd/3rd Generation
Must be in place and functioning well for a period of time
1st/2nd/3rd Generation should cover all required functions (i.e.
investing, operations, distribution (sales and service), compliance,
business management)
Single Generation Firms have limited value to third parties
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BUILDING VALUE IN THE FIRM
Enfranchising the Second Generation
Equity Participation
Cash Compensation Opportunities
Deferred Compensation Opportunities
Firm/Product Strategy Leadership Opportunities
Quid pro quo for combination of the above are Business Protection
Covenants
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BUILDING VALUE IN THE FIRM
Develop a Business Plan
Correlation to Success and Growth
Promotes a focus on People, Product, Distribution and Business Issues
Run the Firm as a Business
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BUILDING VALUE IN THE FIRM
Develop Additional Product Strategies
One product strategy firms have less value to third parties unless a
specialized niche
Additional products can be offshoots of original or new through lift-outs
of teams/people (examples)
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BUILDING VALUE IN THE FIRM
Develop Additional Distribution Channels
Institutional, High Net Worth
Various sub-markets within these channels
Direct, Indirect through intermediaries (brokerage firms and consultants)
Domestic, International
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BUILDING VALUE IN THE FIRM
Protect Intellectual Property
Product Strategies
Proprietary systems
Clients and Prospects
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BUILDING VALUE IN THE FIRM
Structural Matters
Separate Governance from Economics
Separate Compensation from Ownership Distributions
Establish an objective system for rewarding people
Estate/tax planning
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BUILDING VALUE IN THE FIRM
Further Structural Matters
Choice of the Firm Entity(s) matters now and later (C corps, S corps,
LLCs and limited partnerships)
Get good advice and address issues, if any, now before the business is
very valuable
Choice of Ownership Entity(s)
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EXIT STRATEGIES
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EXIT STRATEGIES
Initial Public Offering/Spin-Off
Realistic or not?
Volatility of Revenues and Earnings
Size constraints
Public Reporting
Sarbanes-Oxley and other regulatory issues
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EXIT STRATEGIES
Sale to a Strategic Partner
Issues to Consider
What do they bring other than money? (Distribution, infrastructure)
Synergies are almost always overstated
100% Sale vs. Majority Sale vs. Minority Sale
Degrees of Autonomy vs. Integration
Investments
Operational
Distribution
Major business decisions
Managing the Process
Managing the client/investor perception
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EXIT STRATEGIES
Sale to a Strategic Partner
Pricing and Structure
Pricing
Recurring Revenues and EBITA
Performance Fee Revenues and EBITA
Payment Structures
Upfront Consideration
Contingent, Earn-out Consideration
Consideration for Performance Fee EBITA
Liquidity Mechanisms for Minority Equity Retained
Puts and Calls
Timeframes
Pricing
Governance
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EXIT STRATEGIES
Sale to a Strategic Partner
Social Issues and Personal Commitments
Meeting of the Minds
Expectations and Responsibilities
Reporting Relationships
Integration/Autonomy for all functions
Employment Agreements
Non-competes/Non-solicitations of clients and employees
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EXIT STRATEGIES
Internal Buyouts for Ownership Transitions
Pricing
Structures
Timeframes
Financing
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EXIT STRATEGIES
The Role of Private Equity for Ownership Transitions
Pricing
Structures
Private Equity Exit Plan
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