As they plan for the future, machine shop owners want to leverage business equity with the freedom to transition into retirement.
The manufacturing industry operates as a dynamic ecosystem where tradition and innovation converge. Within this realm, succession planning acts as a lifeline that ensures the sustained growth and prosperity of manufacturing businesses.
But letting go and handing over the reins can be challenging. For many, it’s something they’ve never given much thought to, let alone planned for. Few have formal retirement goals or know how to identify potential successors. And family run businesses can face even greater complexity.
Wanting to spend more time with his wife, David Hannah, president of G Zero CNC Machining, was thinking of selling his business. “When I very first thought of selling, the way we were maintaining our books and the categories I was putting things into… it would have been hard to show the value of the company without me in it,” says Hannah of his Meridian, Idaho, business, which machines parts for aerospace, medical, semiconductor and firearm applications.
Hannah made an org chart, and his name was listed in five of the roles. “My goal was for me to not wear any hats,” he says.
At an industry conference, Hannah met Paul Van Metre, president of Bellingham, Wash.-based ProShop USA Inc., and was introduced to the company’s enterprise resource planning (ERP) systems.
Once Hannah began using ProShop ERP, he reconsidered selling as he was able to approach his business with a new succession planning strategy.
“There are so many nuances in the manufacturing world. Getting ProShop ERP was a game changer for the company because it gave me the ability to identify different aspects of the company that need attention,” Hannah notes. “From scheduling to purchasing, implementing the ERP system made it possible for me to keep track of the details and step away, being at ease that it is taken care of.”
As with many small companies, employees often wear multiple hats, so defining roles was a great help for Hannah, allowing him to not have to be on site all of the time. “It was a pretty amazing moment,” he enthuses. “My wife and I went to Mexico for a month—it was a big test to see how everyone was working in their positions. I was confident because I was able to login remotely and see how everything was running.”
Hannah explains that many business leaders feel tethered to their companies. “I was too,” he says. “Having good software is important to be able to have a good succession plan. Even on the shop floor, we had so many jobs that just went to one person because he knew how to do it, but with this new ERP system, with the training videos, anyone can step in to perform certain tasks,” Hannah explains.
Van Metre says that many shops don’t even realize that their business is valuable enough to have a succession plan. “They just figured that when they retired, they’d sell their business to a third party or other employees. Through working with us, they’ve realized how important it is.
“Every single thing starts with machining,” adds Van Metre. “That’s why it’s so important that these mom-and-pop shops have successful succession planning to survive, because manufacturing is the bedrock of the economy. Every single service is dependent on this industry,” Van Metre says. “We need people to succeed.”
While the manufacturing industry may experience economic fluctuations, the urgency of succession planning remains unwavering. As Van Metre says, “It doesn’t matter whether the economy or industry is up or down... the owner is going to hand it over with a headwind or a tailwind.” Therefore, a well-structured succession plan doesn’t solely prepare a business for the future; it has the potential to enhance its present performance.
Manufacturing isn’t a homogeneous industry. Machine shops in particular carve out a unique niche defined by precision, technical expertise and specialization. This highlights a critical aspect—finding successors who not only grasp the nuances of the industry but are also committed to perpetuating the legacy of a business.
The journey of Jack Sharp, a machinist who transitioned into a purchasing manager, illustrates the significance of identifying successors who are deeply invested in the business’s future. According to Hannah, “I approached Jack (Sharp) and he was interested. It’s been about two years now that I’ve been training him. He’s ambitious and he manages well.”
Hannah is two years into his five-year succession plan. “In three years, I will still own 51% of the company, then we’ll set the valuation of the company. That will be written in the contract and then five years after that, Jack will own the company outright,” Hannah says.
This strategic transition process underscores the importance of mentorship and nurturing potential successors. Part of Sharp’s current profits are going into a fund that will help him purchase the company. The equity in the equipment will be used as collateral to fund his loan to purchase the final 51% of the business.
As for what will happen after that, Hannah says he still plans to stay involved, mostly because of the people. “We’re kind of a family here,” he says.
In 2007, Heidi Devroy was visiting her sister when she got a call from her husband Bob saying the company he worked for was going under. Devroy, who is now CEO of Prosper-Tech Machine & Tool LLC in Richmond, Mich., scrambled to be the risk mitigator for the family and obtained catastrophic health insurance coverage for her and her husband, as well as state health insurance for their four young children.
“Both of us took on part-time jobs, and my husband would drive around to pick up scrap and sell it,” Devroy recounts. “We were going to do whatever we could to make ends meet. I also started to keep a list of blessings to stay focused on the positive and not get taken down by the negative.”
By the next month, the Great Recession of 2007-2009 was taking its toll. As the tool room manager, Bob was tasked with layoffs nearly every Friday. Two months later, he was one of the last of 300 people to close the doors forever with the owner.
“It was extremely hard on him,” Devroy says. “But again, focusing on the blessings, I added (this) to my list, because a lot of the equipment we started our business with came from the leftovers of that business.”
Fueled with the fear of economic hardship but armored with their faith, the Devroys launched a new business from their garage using wedding money, which they had invested in an IRA.
By 2014, the company started gaining traction and changed its trajectory to focus more on production machining. In 2016, Devroy went back to school to get a business degree; two years later she took part in the Goldman Sachs 10,000 Small Businesses program, which helps entrepreneurs create jobs and economic opportunity by providing access to education, capital and support services. “In my first day of Goldman Sachs, they asked what our exit strategy was; we had to write it down and put it in a sealed envelope,” she says.
The question threw her for a loop. Until then, she thought their exit strategy would be to sell the machines, shut the doors and sell the building.
Not long after, in 2020, the Devroy’s middle son Andrew voiced an interest in owning part of the family business and ultimately taking over. Andrew and his wife Gabby, both University of Michigan (U-M) graduates with degrees in mechanical engineering, had prior experience working in large manufacturing companies. But with four (now adult age) children, the Devroys knew it was critical to have open communication with all their kids, so they held a series of family meetings.
“We also knew we had to consult our lawyer to make sure how to set it up right,” Devroy says. “It made sense that Andrew and Gabby would get a salary; Andrew would gain ownership shares over time, but we also had to make sure all interests in the family were considered and protected.
“All the children would inherit our portion, but we knew we had to protect the risk Andrew and Gabby would be taking on and ensure they would never be forced to sell,” Devroy continues.
In 2022, the Devroys received a U-M grant funded by the U.S. Department of Defense that was focused on succession planning for companies in the defense sector. With the grant money, they were able to get a company valuation, assessment, consultation and legal documentation toward their succession plan.
“We needed professional help to make sure we were doing everything we could to protect our family. We did not want to create division because of our failure to plan,” Devroy says. “We are working on building a legacy now, not just an exit plan.”
The so-called Silver Tsunami was something the Devroy’s had been aware of and worked to mitigate over the years as well. The Silver Tsunami refers to the imminent wave of retirements within the manufacturing sector; it often involves strategic succession planning, talent development and workforce strategies to mitigate the potential disruptions caused by the mass retirement of experienced employees.
“Because my husband had been a journeyman toolmaker for many years, it allowed us to see the writing on the wall,” Devroy says. “Even before the industry realized someday soon professionals like him would be retiring and there were not enough signing up to fill in the gap behind them, we had worked to set up our company’s apprenticeship program. We saw what was happening with American manufacturing and even though we are a small business, we knew we could bring young people in while also giving back to the community.”
Now with a fortified succession plan and strong apprenticeship program in place, the Devroys can continue to count their blessings while watching the family legacy grow. Someday, Heidi can open that envelope from her Goldman Sachs 10,000 Small Businesses experience and reflect on the journey between the unknown and the reality she and her family created.
The successful transition of ownership isn’t solely reliant on identifying the right individual. There are a number of options, including employee stock ownership plans (ESOPs).
“An ESOP enables owners of a privately run company to have a liquidity event while maintaining the company’s independence and creating a meaningful, wealth-building incentive for employees,” says Jordan Burg, chief marketing officer of New York City-based CSG Partners. “For some owners, it helps them take some chips off of the table and make broader M&A (merger and acquisition) decisions down the road; for others, it represents a complete exit opportunity that entrusts their companies in the next generation of leadership (albeit family or trusted employees).”
Michael Bannon, vice president of CSG Partners, delves into the complexities of ESOPs. “A trust is formed that effectively acquires stock from shareholders. Over time, shares are allocated to employees’ ESOP accounts. When those employees depart the company, their vested shares are sold back to the company and employees reap those financial benefits,” Bannon explains.
Employees don’t pay directly out of pocket. Instead, the company finances the transaction on an employee’s behalf. This leveraged component takes the form of seller notes or third-party financing. There are many experienced lenders in the marketplace that are adept at lending to ESOP companies. This intricate dance of legal and financial mechanisms ensures the continuity of a business’s operations, safeguarding its legacy.
“The ESOP offers dedicated tax benefits to all stakeholders in a transaction. Companies receive income tax deductions (state and federal), employees can roll their proceeds into other tax-deferred retirement plans, and selling shareholders can defer capital gains taxes on their sale proceeds. No other M&A transaction offers these incentives,” Burg says.
The allure of ESOPs lies in their ability to ensure a smooth transition of ownership while facilitating ongoing engagement from the workforce.
“In addition to a liquidity event, many ESOPs are structured to address long-term shareholder and corporate objectives that may include succession planning,” Bannon says.
According to CSG Partners, ESOPs are well-suited for manufacturing companies because these plans align the interests of employees with the company’s success, fostering a sense of ownership and commitment that is crucial in the industry. ESOPs can drive productivity and quality improvements, proponents note, as employees with a stake in the business are more motivated to enhance processes and product quality.
Other purported benefits include:
ESOPs result in higher wages, better access to work benefits, and increased household net worth for employees, improving their financial well-being.
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