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Special Report

INSIDE (FINANCE)

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EDITOR’S COMMENT

EDITOR’S COMMENT Even as the Covid-19 pandemic began to take hold in the UK in 2020, the word “reset” was on the lips of many. It became an opportunity, courtesy of working from home and a world seemingly on hold, to rethink many facets of life – from family life to ultimate priorities for living, values and future goals, and of course, the next business step. Recruitment slowed down to a crawl but the ambitions and dreams of recruitment business owners and those of some of their senior managers did not all lie dormant. Case in point: management buy-outs in UK recruitment took place, not necessarily because of the pandemic and actually sometimes in spite of it, but it was one demonstration of evolution in this generally fast-moving sector. Read our two MBO case studies, and hear from one seller and one chartered accountant. Is an MBO for you?

DeeDee Doke Editor Recruiter/ recruiter.co.uk 32 RECRUITER

KNOW YOUR BUSINESS INSIDE OUT? YOU STILL NEED HELP AND EXPERTISE TO STRUCTURE AN MBO by DeeDee Doke ichard Buchanan (above right) and Rob Dyer (above left) received their largest-ever present just nine days before Christmas Day in 2020. Although this was a gift that they had paid for themselves (with some financial help), the pair hope to see it giving back in abundance over the years to come. The present to themselves was Abatec Recruitment, where Buchanan and Dyer had each worked for 20 and 15 years respectively. They bought the construction, engineering and industrial recruitment company from their boss, the then managing director Philip Davies, with the deal signed on that fateful day in December. Three days later, Buchanan, Dyer and the Abatec staff bid Davies farewell with “tea, sandwiches and a few beers – and that was it”, Buchanan recalls. “From that point, it was ours. Realistically, nothing huge happened in those dead Christmas weeks, apart from Rob and I painting the office, but really from 4 January that was it, and then the new business plan was implemented.”

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A brief history of this management buy-out: solid plans to carry out the MBO came about last summer, when the first wave of the Covid-19 pandemic had eased, and the mood of the country had lightened somewhat. “We decided that it was the right time to approach the former MD and say to him: ‘What do you think? Can we accelerate your long-term plans, and can we make you an offer that we could all be in agreement with, and effectively buy your shares?’,” Buchanan says. The pandemic played a secondary role in the decision to propose the MBO last year, Buchanan and Dyer say. “We did bring it forward a couple of years. Covid probably accelerated it, but it was really a combination of things,” says Buchanan. “We went to him [Davies] initially with something, and he came back to us saying: ‘I’d accept it if the deal looks like this.’ So, we undoubtedly ticked the boxes that he wanted, to make an exit.” Assisting the ‘two peas in a pod’, as some have described Buchanan and Dyer, were Jo Bligh of Thinking Legal and Neil Denniss of Bespoke Tax Accountants. They had met Bligh a few years back, and a business consultant

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Inside MBOs (Finance)

acquaintance recommended Denniss. Buchanan and Dyer met with three different tax accountant firms before they chose Denniss. “We wanted somebody to hold our hand, because we’re neither accountants nor solicitors – so we were in no position to take a lead on it,” Buchanan explains. “We relied on them 100%.” Both men knew the Abatec business inside and out and, of course, understood the industry sectors they served and how to manage in a recruitment operation. However, what they did not have was the expertise to either structure an MBO or understand the very detailed contracts that had to be crafted to meet all parties’ requirements. “There were a couple of things we had limited knowledge about. One was how would the deal look, pre, or up until the point of sale, and post-sale; and how it’s structured, and how it was structured in line with the profits of our business. This was all new to us.” While the specifics of the MBO cannot be disclosed under the terms of the arrangement, Buchanan and Dyer can say that they had to come up with “a large sum of money up front to be paid on the day of completion. That sum of money, as representation of the total deal, was about 40%. And the rest of the payments were structured for the remaining term of the MBO.” Buchanan says: “Again, having had no prior experience, there’s no way we would have known this. And the other clever stuff is, when you utilise a tax specialist, they are able to utilise the money in the best way to, one,

benefit us; and two, benefit Phil, the outgoing MD. “We would never have had any of that. In reality, we couldn’t have done it without those two holding our hands.” Buchanan and Dyer had to come up with two large sums of money separately, which they had to finance themselves, “and it doesn’t take a rocket scientist to figure out that our piggy banks only went so far”, Buchanan says. They leveraged their properties and “begged, borrowed and stole” to come up with the necessary amount, he adds. Dyer even sold his home to bulk up his contribution. “When you’ve worked in a business – which for Richard has been 20 years and me going on 15 – there’s a big emotional attachment to the place,” Dyer says. “It almost feels as if it’s yours already.” Once the deal was signed, the two embarked on their business plan to make the business truly their own. One of the first items on the agenda was to refurbish and refresh their Weston-super-Mare offices with a glass-walled board room, new windows and paint, and by removing the cubicle walls that had made the premises seem closed in. “Just the aesthetics of the building, how it worked,” they say. Buchanan and Dyer did much of the work themselves.

ABATEC Abatec Recruitment is part of Abatec Holdings, formed in November 2020. Offices: Weston-super-Mare (head office), Bristol Primary areas of operations: South West England, South Wales Sectors: Construction, engineering and industrial recruitment Turnover: £12m Staff: 21 (head office), Bristol (3) In hindsight: “We thought we read the contracts many times but I would have read them twice as many times; there is so much information to take in.” – Richard Buchanan

“We have pretty much worked ourselves into the ground over the past three or four months, since Christmas,” says Dyer. Also, on the ‘to do’ list was relaxing the company’s somewhat old-fashioned dress code that demanded ties and jackets for male staff and similarly formal attire for women. Changes to staff pay, terms and conditions were introduced early on to reward their employees better, along with new technology and types of forecasts. Yet the biggest challenge they faced in the earliest days was helping their staff to “try to settle the company down – very much selling and implementing the business plan”, says Buchanan. “Bear in mind we have 330 temps [temporary workers], a big support workforce here at head office. There was quite a bit we had to rein in, and ensure that everybody was comfortable with what we’ve done and what we’re doing.” So far, say Buchanan and Dyer, the feedback has been positive. At the same time, the pair now believe they took on too much too early in their tenure as company co-owners. “We’d definitely say, don’t take on as many challenges as we did. The office refurbishment itself was a major challenge. And you combine that with taking care of the customers, ensuring all the departments are working properly, that everyone’s getting paid properly – it’s a big challenge,” Buchanan iterates. “Rob and I are pulling long shifts: six- and seven-day weeks.” Dyer compares the MBO and the aftermath to giving birth. “There’s a newborn baby and you want to take care of it,” he says. Yes, the company is 30 years old and is tried and tested, Buchanan says. “But because we’re bringing [it] back,” he explains, building up the company again from a very low trading point [last year] to where we are today, that’s taken a mammoth amount of effort.”

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RECRUITMENT SECTOR EXPECTS AN INCREASE IN MANAGEMENT BUY-OUTS IN THE COMING YEAR By Mark Maunsell he global pandemic, in conjunction with speculation that capital gains tax will rise, has encouraged business owners to re-evaluate their strategic options and consider when best to realise the value of their assets. A management buy-out (MBO) is one of a number of options and is common practice in the human capital sector, as founders look to support the continuing operation of the business by shifting ownership to the senior management team. The speculation that capital gains tax was expected to move to be in line with income tax has proved to be the catalyst for a number of shareholders to undertake a vendor-friendly MBO. The deals do not focus on value

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maximisation and often are limited in terms of the level of cash proceeds available to the selling shareholders, but they create a structure that works for all parties and can be carried out in a relatively short frame with low levels of risk. The benefit of such a deal is that there is always a willing buyer in the form of the management team, which is clearly different from a trade sale or private equity-led MBO. The level of private equity-led MBOs did, however, remain subdued through 2020 as investors awaited a return to a more normal earnings profile. The cyclical nature of recruitment businesses is commonly cited as a potential hurdle for private equity, so determining the sustainable level of

“The speculation that capital gains tax was expected to move to be in line with income tax has proved to be the catalyst for a number of shareholders to undertake a vendor-friendly MBO” 34 RECRUITER

earnings through a pandemic is exceptionally challenging. There is, then, greater appetite to back businesses operating in sectors proven to be more resilient through the cycle, such as life sciences, renewable energy, healthcare or those operating an attract-train-deploy model. The recent, founder-led MBO of G2V Recruitment Group, backed by Investec, is an example of a growing appetite to support high-quality operators that have developed market leading positions alongside an attractive growth plan. The sale of G2V was a competitive process; a number of the underbidding private equity funds are still seeking a recruitment platform. Other private equity-led sale processes are due to conclude in the coming months. We therefore expect to see rising levels of MBO activity over the next year as we emerge out of the pandemic and institutional investors seek a new platform. Mark Maunsell is director, business services, at Clearwater International Finance.

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CASE STUDY: CONTRACT SCOTLAND DeeDee Doke looks at the MBO on behalf of the seller (see opposite) and the buyers oing an management buy-out is not something many buyers gain much experience in. How often can you buy out the company you work for? Therefore, few people experience more than one. But the journey through an MBO can be prepared for, as happened at Contract Scotland, where the trio of long-term employees who bought out owner Colin Woodward’s shares of the company had spent years readying themselves for the event, under Woodward’s guidance and tutelage. (Woodward, now living in England, holds a non-paid advisory role.) “Colin’s succession has been on our agenda for maybe as many as 10 years,” says John-Paul (JP) Toner (pictured, above),

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CONTRACT SCOTLAND Contract Scotland is part of Contract Scotland Holdings, formed in February 2021. Offices: Stirling, Stirlingshire Sectors: Business Support Services, Civil Engineering, Construction & Building, Cost & Building Consultancy, Engineering Consultancies, Housing & Property, M&E Building Services, Senior Appointments & Executive Search. Turnover: £14m Staff: 25 Division of directors’ labour: Fleming and Shave oversee three recruitment streams each, both reporting into Toner, who also manages the group functions. All have the title of ‘director’.

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who along with fellow directors Julie Fleming and Alan Shave joined Contract Scotland, now 30 years old, as graduate trainees. “It has been a long time in the making, and those who have played a part in it have served very worthwhile apprenticeships. “And what I think Colin was keen to do was,” Toner explains, “make sure that at the time it happened, people were actually ready to step into roles… and be able to do those roles rather than do it [the MBO] in a hurry, with everyone coming to the table too quickly. “So, he was very methodical over the years, ensuring that the right people were in the right places to take the business forward… It was ensuring his life’s work was handed over to a group of people who can continue that life’s work, along similar lines, similar values and ethics, without compromising the core of the business that he had spent his life creating and then building to the stage that we got to pre-pandemic.” After the years of preparing and building, the deal itself came together “fairly quickly”, Toner says. “This is my one and only MBO,” he adds, “so I don’t have any experience of how long things are supposed to take. “But when we discussed the principle with advisers initially, a couple of years ago, timetables of nine to 12 months were bandied around – you could maybe do it in six.” Thanks to the long-time preparation and the parties’ understanding of what was expected of each of them, that projected timeframe was cut considerably. “From the moment we committed to it wholeheartedly and

meaningfully,” Toner says, “the deal took four months.” That said, the MBO itself was delayed considerably after discussions beginning in January 2020 – first because of the then-anticipated implementation of the new IR35 rules in April 2020 and subsequently because of the pandemic. “The MBO wasn’t off the table; it was just on another table,” says Toner. In autumn 2020, Toner and his colleagues decided “we had to look as far ahead as we could in spite of the pandemic, rather than using the pandemic not to look ahead”. With “enough faith and confidence in things continuing at a sufficiently satisfactory level that we could pull this off without in any way later regretting it”, the parties went ahead. While specifics of the deal cannot be disclosed, Toner can say that the terms were based on “a set of conservative assumptions… based on the middle to lower end of the range, rather than using all the ‘best case’ scenarios. “We had to think as far ahead as we could and try, in spite of it and against the backdrop of the pandemic, to put a deal together that worked for everyone, and we managed to do that fairly successfully,” he says. Of the three new owners, Toner has worked at Contract Scotland the longest, joining in 2003 in his “first grown-up job”, and has been a director there since 2009; Fleming and Shave, who became directors on 1 March 2021, joined in 2007 and 2006 respectively. “Between the three of us, we have 45 years with the business, which gives the business as strong a chance of success in the future as possible,” Toner says. He is now the majority shareholder, with the other two directors the notable minority shareholders; the three hold 100% of the equity in the business. However, Toner notes: “Part of the plan, in terms of the future growth of the business, is to create that opportunity for others. “My guiding star on this will be that I would expect it to be required of us to create the opportunity for other people that was afforded to me.”

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THE SELLER

he most important thing for me was legacy,” says Colin Woodward, who earlier this year handed over his Stirling-based Contract Scotland recruitment business to three long-time associates. It was a long-planned move, delayed by the Covid pandemic. “I guess it was a long-term strategy and approach to make sure that the business could be safely passed from me to the next generation of owners,” explains Woodward, who founded Contract Scotland’s forerunner, Contract Construction in 1990. The business was de-merged in 1998, with Woodward taking charge of the Scottish part of the company and renaming it Contract Scotland. At that point, Contract Scotland had a £2.2m turnover and three staff. Today, the company enjoys a £20m turnover and has 40-plus staff. The MBO “probably should have happened sooner than it did”, Woodward concedes, “but what was really important was making sure that there was continuity for everybody in the business, so nobody could be thinking that this was going to affect them in a negative sense. “So,” he continues, “it’s been quite a lot of time making sure that John-Paul [Toner], Julie [Fleming] and Alan [Shave]

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are more than capable of doing what they’re doing.” Contract Scotland’s new directors and owners – Toner, Fleming and Shave – joined the business as graduate trainees. “All of them came in at the bottom,” says Woodward. Asked when he knew that they were the right ones to eventually succeed him at the helm, Woodward responds: “You can see people develop – you know what they know, you know how they learn and their style of learning, and how they thrive with the more responsibility you give them. When you realise you have people with that potential, you look at what could be the next challenge.” He adds: “I’ve a lot of respect for them; they’re still young enough to bring on their own ideas and they’re experienced enough to know what they’re doing.” Woodward had already started to step away from the day-to-day running of the business well before the onslaught of the Covid pandemic to focus on building his management consulting venture, Coresco, and move toward his exit. He was also planning to move his family to England. But as the pandemic shattered his plans – along with those of much of the world – Woodward returned to Contract Scotland on a “pretty much full-blown capacity” from March, with the MBO plans on hold. “We had to make sure that we understood where we were, what the risks were, what the opportunities were. Navigating that period where everything was uncertain was quite a difficult one,” he recalls. “We got to August, September, and we could see what things looked like and how things were going to progress. That’s when we got the discussions back online and just said, ‘Well, let’s just pause this for a while.’ Once we got through that stage and realised that we could start to plan more than a few weeks ahead, we started to move the discussions on. “Another advantage, I guess, was that there wasn’t as much recruitment activity, and in construction we were coming towards the end of the year,

which is always a bit quiet, which gave JP, Alan and Julie a bit more time to think through what the MBO was going to look like,” Woodward says. Unlike many MBOs, the arrangements worked out to shift Contract Scotland’s ownership from Woodward to Toner, Fleming and Shave were not complex or hard-fought. The parties all have agreed to not discuss the terms, but Woodward says that all four had “a clear understanding for the valuations of the business, the opportunity to map the valuation… so there wasn’t really much in terms of negotiations needing to be done between us because we were all friends as well as colleagues.” Woodward adds: “So, from that point of view, it was pretty seamless. I knew what I wanted and the other guys knew what that was. It was really just a case of trying to get from where we were to where we wanted to go. Fortunately, that happened pretty quickly.” Following the MBO’s March 2021 completion, Woodward and his family are now in Exeter. He is still in contact with his former colleagues/friends, but they have not come to Woodward with questions. “If they did,” he says wryly, “I haven’t done my job.”

Colin Woodward:

FOOD FOR THOUGHT “If you stay in a business too long, you are actually going to have a detrimental impact on it. When I started in business, I had nothing to start with, so you take more risks. As you start to get a bit older, you start to take fewer risks, but the fewer risks you take will have an impact on careers progression and job satisfaction in the business. If you don’t take the risks, you maybe don’t create as many opportunities for the next generation of managers and directors. If you’re not prepared to take the risks that you need to as an entrepreneur any more, you need to get somebody else to.”

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TAKING YOU BY THE HAND Finding the right experts to lead you through the MBO labyrinth When the itch strikes to own your business, which option offers the most ‘knowns’ – a start-up or a management buy-out of the company you currently work for? “I think the MBO is probably your best bet,” said chartered accountant Neil Denniss (pictured), partner at Bespoke Tax in Cheltenham. “The vendor and the buyer know each other, warts and all – they know if they’re honest or not.” Denniss continues: “The MBO is a lower risk from every business perspective because there’s a consistency of management team; they haven’t got to get to know the business – they jump in, they’re already running. From that perspective, it’s a darn sight easier.” When Abatec Recruitment sought expert guidance for their MBO last year, Neil Denniss was their choice to lead them through the labyrinth. In Q1 2021 alone, Denniss has been involved in £144m worth of transaction. And as straightforward as an MBO might seem on the surface, many find to their dismay that such processes are not. Giving Abatec’s buyers, Richard Buchanan and Robert Dyer, as an example, Denniss explains: “The people who are involved are not familiar with doing it. It’s not something that they’ve got experience of doing; they’ve never done it before. They only do it once in a lifetime or generally that level of frequency. So, there isn’t any learning curve,” he says. And buying a business that you’ve worked for is different still than buying a company you’re less familiar with. “I think the biggest difference is that within MBO, there is an element of believing that the people who are buying

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it would get a slight discount because they have been involved in actually building the business up to where it is,” Denniss says. “And then that is reflected in the price.” As far as the vendor is involved in an MBO, “the warranties and indemnities which the vendor has to give… tend to be less where you’ve got an existing management team who are continuing because they know what’s in there, they know the warts and all, and therefore that makes it easier to actually agree those aspects, which can be quite time-consuming and onerous. “Someone buying it fresh has got no idea whether there are any skeletons in the cupboard. In actual fact, they’re not even sure where the cupboards are,” Denniss says. Another contributor to greater transparency in an MBO is the fact that the continuing management team has been “incentivised to make it work. There is a better chance of being successful”, Denniss says. A few ‘need to knows’ when embarking on an MBO: be aware of tax risks in how the deal is structured. “If you’ve been employed by the business before, how would you structure this so that HMRC [HM Revenue & Customs] do not want a big bite of the cherry?” Denniss asks. Typically, an MBO deal is structured by putting a new holding company above the existing company. “That’s the absolutely standard model,” Denniss says, “because that then gives the flexibility as to how you buy out the person who is selling it. Typically, you don’t give them all the cash on Day 1. Some of it is left behind as a vendor loan,

and then that is set up through the holding company. The new holding company doesn’t do very much other than agree to buy out the exiting shareholder for a sum of money, plus some IOUs.” Negotiating the terms of the IOUs requires careful thought of such questions as, “What are the terms of the IOU? Does it carry interest? How quickly is it going to be repaid? Is the repayment linked in any shape or form to the profitability of the company?” In his work with MBOs, Denniss says he has put in “various particular strategies” that might reduce the risk of the deal going sour: “I’ve seen a lot of these where the obligation to pay the vendor is too high, if there is any wobble in the market.” He adds that everything may seem to go “nice and smoothly without a problem, but you only have to have one month that doesn’t go nice and smoothly, and all of a sudden, the purchasers are left very exposed.” Often, Denniss says, MBOs are conducted “amicably… until they go wrong. They can get fraught particularly when circumstances change unexpectedly. You’ve not got a deal until the deal is signed”. What happens, he asks, if “something fundamental” changes the day after the deal has been inked? It might be losing the company’s major client, or a key individual falling ill, or perhaps a pandemic. “Suddenly we find that the income streams that everybody is set to be predicting are no longer there – has one party lost out significantly? Should more protections have been put in for that party?” he says. Denniss recommends that both parties contemplating an MBO retain “a good accountant”, preferably chartered, to work out what the contract will look like in terms of commercial considerations. In terms of personal and professional characteristics, Denniss suggests that the accountant should be able to both examine and analyse history in the accounts and to look forward. “You need to budget for professional time and cost,” he says.

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