Automation Roll-ups & Growing Technical Leadership Talent

‍Text version of the interview 

Why did you enter this market?

Number one was, it seemed like everyone that I knew was really pursuing jobs in what I would call the coastal economies of big tech, finance, law, media. And so I sense that there was probably a significant amount of opportunity in more traditional industries and especially in manufacturing.

A big challenge in manufacturing right now is the lack or the absence of younger technical talent. There's just an enormous shortage of engineers in our country. And the ones that are here are going to Facebook and Google and more traditional tech routes. 

So a huge talent shortage in our industry. And that was something that I thought might be a nice opportunity for me. And roughly the same time, I came across an article and a phenomenon that was pretty transformative to me called the great wealth transfer. 

It's baby boomers, easily the most economically successful group of people in the history of civilization. And right now they're in the process of transitioning about $60 trillion of wealth to heirs, mostly to gen X and millennials, which I would consider myself to be a part of.

And the vast majority of that wealth transfer is going to come by way of small private companies’ stock. So small business ownership is really the wealth bedrock of this country. And ownership of small businesses is not something that's easily transferable.

It means that you have literally tens of thousands of small businesses throughout the country that need to change hands in the next 15 years. And I had this hypothesis back then that the vast majority of these businesses really had no succession planning. And that is turning out to be true. 

Here’s an example. Mike Sr. owns a small business that makes air compressor components in Ohio, and that business does $8 million of revenue a year. Mike Sr. has built that business for the last 40 years and is looking to retire. So what are his options? He has two grown kids. Mike Jr. is a dentist in Texas and his daughter, Katie works at Facebook in San Francisco.

Let's say, they each have their own families there and neither of them wants to have anything to do with a small but highly profitable plastic molding business in Ohio. So that option is off the table. 

Mike Sr. could ask of his employees who are interested in buying him out and trying to hand off the business to an employee, which is a great route if you can make it happen. 

His employees, for whatever reason, just are uncomfortable, assuming an ownership stake in the business. And so that option is off the table. Mike attempts to go out to the investment community, but they're just really aren't a lot of business buyers at that very small end of the range.

Mike's without many options for transitioning a very profitable $8 million a year revenue business and finding that next group of people to run with the torch. 

That's not necessarily the size of business that we buy, but it's a really common example that you see in the data that I encounter when talking to business owners and our suppliers and our customers, pretty much every day.

And so what this means is that there are a lot of really incredible businesses out there for sale that just don't have a natural buyer. And so, it presents a really good opportunity if you're willing to do the hard work to find those businesses, have a very emotional process with the business owner to figure out what a transition looks like.

And then ultimately, take ownership and do the hard but fun and rewarding work of running the business. 

That situation has unfolded many times at Eckhart, here in the last six years, I think every business that we bought as one in which it was from a founder, and I think the average tenure in the business was probably 30 years.

And then got to know the gentlemen that they were recruiting to be the CEO named Andy Storm to come in and run the business. And I hit it off with Andy and I knew right away that this was someone I wanted to work with for a long time. 

So those things allowed me to take the plunge into the wild world of lower middle-market manufacturing businesses.

Deal Sourcing

We don't use bankers. We look at companies that we encounter through day-to-day operations. One of our most successful ones was our primary competitor at one point in time. Or even supply base. 

Would like to look at someone that we have worked with or teamed up with on another project and we liked how they operate and what they brought to the table. So, I really liked fishing in that pond. Businesses that we know and we've interacted with versus ones that we get introduced with by way of a Powerpoint. 

Sourcing deals can come from anybody and it can come from different angles. It’s fairly organic. What are companies that we like to work with and why? Is there someone that we'd love to buy and incorporate into our operations? And that's proven to be a really great pathway. 

What are the challenges when you're finding a business successor?

The hardest part when you're buying a business is the element of secrecy. The founder doesn't want to reveal or tell their employees that they're going through the sale process. And so you really have very little access to other employees in the business besides the seller, so it's very hard. 

A primary challenge is understanding who else is in the business, what their ability is to lead and take it in the direction that we want to go and you hypothesize as much as you can.

But ultimately you need to have a plan and figure out who are the people that have a great track record that can participate in the new journey of the business. And that's everything from IT people, to accountants, to purchasing. 

So it's a real quick evaluation of what do we think are the top priorities at the target company and do we have the right mix of people currently that could go in and work closely with a new team and put people at ease and go through the social process of being an effective change agent. 

Finding the Right Person

Their track record is a big part of it. Who are the people in the last years that are really showing a lot of promise in terms of just pure horsepower? Are they willing to put in the hours and ride the highs and the lows of a growing small manufacturing business? 

So I looked for horsepower above all else. I'm not big on credentials. I don't really care what age you are. Whether you're late in your career, early in your career, a big part of it for me is your ability to work closely with people in a constructive way and your ability to bring a lot of horseback to the table to do often benign and boring tasks that just require a lot of time.

Cultural Fit 

Yes, it takes someone with a high degree of cultural alignment to sort of fit into these organizations and be well-received. You can't necessarily have someone that's overly polished or maybe from a vastly different background. They're just not going to be able to establish credibility and conviction with the people that we're working with. 

And we really want people that have ties and are rooted in the communities that we're operating in. And part of that is to just reassure people that we're not fast money, we're not in and out.

We're here for the long term and the people that we're bringing in are people already affiliated with the area, affiliated with the region, and share the same ties and convictions that they do. 

Identifying & Growing Leadership

It's hard for a small company. A lot of the training programs that you might find in a large corporation, are rotational programs, taking a year off to go do school, and coming back. Those are just things that really aren't realistic at a smaller organization.

And so, we try to get people an opportunity to change jobs more frequently than would make sense from the outside but trying to get people to cycle through a new position every year or 18 months, giving people an opportunity to go out the field and interact with customers and do the fun work and getting that exposure.

I'm always trying to make time to bring in potential leaders to meetings, to visits, to interactions that are maybe not core to their day-to-day, but potentially could be. And just seeing how they react, seeing if they crave more, if they're happy, sort of continuing what they're doing. 

So, it's definitely a challenge. And in a smaller company, it's maybe less structured than in a big company, but hopefully, you find people who are there for the right reasons.

How do you incentivize them to ensure business success? 

A lot of the traditional approaches like:

• Tying site performance to EBITDA targets, 
• revenue goals, 
• customer mix goals

We worked really hard to define a compensation plan that is aligned with the broader company plan, and the PE sponsor goals as well. 

If the site for trying to motivate the site to improve appearance or clean up safety or something, we can tie in those goals as well, but try to make everything quantitative, numerical, realistic, achievable, all the things that go into a well-structured compensation.

Automation Trend

There are four data points that we look at:

Number one is robot density. How many robots are working versus how many people are working? We're seeing 80 to 90% increase in robot deployments every year. 

Reshoring is real. COVID showed the shortcomings of having a long and extended supply chain and you're seeing major, major investment domestically in new manufacturing. 

You're seeing wage increases as we drive towards automation. $15 minimum wage is a popular topic. You're certainly seeing a lot of stimuli that are prompting companies to increase their wage rates to attract people to the labor market.

I think Amazon.com right now is paying roughly 20 or $21 an hour to have people pick packages. And when you're paying people 20 or $25 an hour, automation becomes very appealing alternative. 

And lastly, you have component prices are coming down. A camera that costs a hundred dollars today is going to cost $70 a year from now and so on and so forth. 

These are all suggesting that automation is going to continue to be a big part of the manufacturing world. 

Challenges

Leadership transition is very difficult. Founders are usually very dedicated to their business and emotionally attached. The biggest challenge is transferring ownership to us and seeing the changes that we are making in the company that they built.

Of course, we have our own opinion and a viewpoint of how to do things differently, and the challenge is getting that person comfortable with the changes. We like the sellers to stay around because they have an incredible amount of value and experience in running the business. 

Also, you have to figure out if the people that are there are on board with the changes that you're trying to drive. It's very common for the founder to have family members or relatives working on the business and you need their buy-in. 

We work hard to understand their ideas and the things that we should pursue because the reality is we're not trying to do anything to radical. We're not trying to upend what is a profitable business. 

That's the name of the game. Getting there on day one and learning what drives the business and where we think the opportunity lies. We're not experts in the business that we're buying. So getting in there, talking to people, getting them to confide in you, where do we think, what do we think we need to do?

Key questions to ask

I try to keep it very conversational on day one. I just walk around and introduce myself and ask them about the opportunities that they see inside the business and it's the same conversation that you have over and over again until you get a theme.

Also, you will get the sense of who do the people look up to as the informal power leader in the organization and what do those people care about. The goal is to find out what they care about and bring those ideas to life.

The important thing is to show that we're here and we're committed to growing and investing and doing more.

Lessons learned

Pace. Oftentimes, you come in, you're excited, you got all the energy in the world and you try to do too much. 

You have to make sure that your pace is in line with the existing culture of the company. Trying to get everyone to run at a pace that they're not used to is a great way to not make friends. Change takes time.

It takes time to grow the talent, to get the talent on board with the vision, and ultimately implement that. And so having the patience to get the people on board first, before you do drastic things, I think can be a challenge for a lot of people who maybe are naturally very motivated, very hungry, and fired up to do big things.

I also learned the value of very small improvements. Something as small as improving the lighting in a facility, improving the temperature, improving the tools available, giving everyone second monitors.

I mean, it really is sometimes the simplest improvements and the lowest cost improvements that can have the biggest impact on how people view you and how inclined they are to go along with what you're trying to drive. 

So, don't necessarily, I would say overwhelmed with trying to do something extremely ambitious or grand early on, ask people how to make their day better and how to make them better at work and deliver on whatever they say.

Change management 

It’s extremely hard. Most of the manufacturing spaces that you see are dark, dingy, and dirty and it's not something that we can be proud of. Suddenly asking them that you want it clean, bright, and safe can be a tough ask. 

So, these small continuous improvement exercises, are a great test to see who's going to be on board for some of the later innings when we're trying to do things that are maybe more ambitious or more complex or require more effort. 

It's tough but you have to find the right balance.  

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