Hope you enjoyed the employee stock ownership plan (ESOP) review in the August and November issues. I can’t emphasize enough how important that form of transaction is for contractors. If you are not ready to convert your efforts into cash now, then at least save a copy of the articles for future use when the time is right.
ESOP Review
Why do contractors find ESOP beneficial? Because it is tough to sell a contracting business in the city where you are now located. If you have competitors nosing around your business, and you feel that the only viable buyers will be competitors, they can probably get a deal done but at a pricing level lower than what you could get if numerous buyers were in play, especially some who want to start a business and grow it and thus earn a reasonable ROI on their investment.
An ESOP, however, will buy the shares at FMV based on past, current and expected cash flows if projected cash flows indicate the transaction debt service and other obligations are covered. The other great benefit being that your employees can participate in the deal by receiving shares which grow in value as the transaction obligations are paid down. It is a win-win for current shareholders, current employees who stay with the company and future employees who want to participate in growing the profitability of the company because it transfers into the shares that get allocated to them via annual allocations. Done right, it works, with potential tax benefits to boot.
If you are interested in exploring the ESOP option, please contact Nathan Perkins, managing director, ESOPS, FMI Capital Advisors, [email protected]. I can’t thank him enough for his input.
We will cover more on tax planning in a future column. Let’s look at 2024 and beyond.
Uncertainty
After reviewing what our government is doing in terms of spending, you may think that their programs will have negative economic impacts on our country, businesses and population. When you start spending more than you make, you soon run out of cash and borrowing power. And if you were able to get financing, the interest costs would put you out of business.
In addition, the increases in bankruptcies, past due periods regarding credit cards, auto repossession activity and a general feeling that something is wrong may impact how much business you get next year. They may also affect how much you collect for your work in 2024, the price of goods and materials (still high even though they are coming down) and a lack of personnel to do the work.
Reviewing data on how global economics will look over the next 10 years tells me there are four scenarios thought to be feasible:
- Option 1: A duplicate of what took place in 2000 through 2010
- Option 2: A higher chance for a longer scenario.
- Option 3: A balance sheet reset
- Option 4: Productivity acceleration
A survey of about 1,000 executives who reviewed these issues produced 84% who believed that Option 1 is out, and they thought that the other possibilities were spread out evenly among Options 2 through 3. And guess what? Every management-type person in the contractor world will be up to their ears trying to figure out which of the three options they will have to deal with to remain in business making reasonable returns.
I believe Options 2 and 3 is where most contractors will find themselves.
Option 2
Option 2 would start like where you find yourself currently, with rates, costs and wages increasing. From a management standpoint, the company will have to deal with pricing, spending and productivity to counter higher costs and wages. In other words, contractors will need a clear understanding of:
- How they will deal with these issues
- How to determine what pricing levels they will encounter
- Every dollar of spending and spending levels to match the billing estimates expected
Productivity improvements would also be required to help reduce costs and accelerate revenue billing.
Option 3
The balance sheet reset is an altogether different story. It is one in which the credit markets fall apart with businesses failing all around us. Contractors with what we call a fortress balance sheet that is not overleveraged with a flexible cost base able to be adjusted if the economy slows down dramatically. They will be able to produce positive cash flow from reasonable margins and manageable cost controls.
Option 4
I know you are thinking, “Who cares what happens over the next 10 years.” No matter what happens contractors must improve productivity by accelerating revenues or speeding up the workflow. At the same time, they must continually monitor expenses.
The Bottom Line
I guarantee that someone in every segment of the contractor business will review every aspect of their business and make changes that will reduce fixed cost, improve productivity via systems and outsourcing, educate their employees to improve profitability, use new systems and AI to better customer relationships, and be able to handle Option 3 and 4 and whatever else the economic metrics bring. In other words, those 10 years will be on you in no time as competitors transform their businesses using less capital and much less paper shuffling.
The bottom line is managers need to budget by reducing costs, selling off equipment or inventory that is no longer required, accelerating the billing process, and outsourcing jobs or work that can be done cheaper by another company. They must do all this while maintaining gross margins that will produce a bottom line to make shareholders and bankers happy, which is a tough assignment for staff. Here is where getting outside help can speed up the process and allow for adjustments to be made as necessary.
One last comment regarding AI. I was doing some research regarding taxes and what to expect for 2024. I used a search engine and asked for tax planning ideas for 2023 and 2024. Suddenly, I have an article appear on the right side of the screen with different scenarios to consider. Guess what? This was the search engine or AI providing the data. So, if you have questions about your industry or different metrics, I am sure you can find them using one of the internet AI programs.
