Who Will Be the Next Owner of Your Business?

Kim Phelan

The owners of small to midsize foundries are accustomed to doing more with less and tend to do so in the context of a family/privately-held business model that’s perhaps been operating for at least two generations. While the continuation of the business is naturally desired, it’s not something to be taken for granted. Citing Businessweek.com, Cornell University’s SC Johnson College of Business reports about 40% of U.S. family-owned businesses transition into second-generation businesses, but the odds of survival diminish rapidly with each successive generation after that. Approximately 13% are successfully passed down to a third generation, and just 3% remain intact for a fourth or beyond. 

Nevertheless, it’s easy to procrastinate strategic succession planning––from hiring employees to managing quality, production, and customer issues, the daily busyness of business becomes a powerful distraction until one day, a life-changing event catches the foundry management off guard and demands a decision that may not be what the owner really wanted for the company. 

“Unfortunately, they tend to ignore it until about 10 years before they feel they’re ready to retire,” said Jim Folk, a mergers-and-acquisitions advisor to the metalcasting industry who owns the Folk Group. “It just isn’t something that’s a priority, so it gets pushed aside until it becomes a necessity, but they should be thinking about it in some fashion at any age, at any time.

“You need to sit down every so often and say, ‘What would happen if ...?,’” he added. “There was a foundry in the Midwest with about 50 employees, and they had a vice president running the show who was really, really good. He was coming to work one morning when it was icy, got into an accident and was killed. The company was totally unprepared for what to do if, for some reason, he wasn’t available.” 

Modern Casting got an hour of Folk’s time to probe the problems and pathways for developing a transfer-of-ownership plan that’s right for the individual foundry owner, as well as his family and employees. Following are excerpts from the conversation.  

MC: Is succession planning a one-and-done event?

Folk: This needs to be a living process, a living plan—you need to be flexible. As environments change, as you learn things, be ready to make adjustments as necessary.

And it’s all about knowing what you want and how much involvement you’d like to have in the future. I once worked with a guy who wanted to retire at the age of 45, so he worked out how he could do that. On the opposite end of the spectrum, there was a company in Dubuque, Iowa called Eagle Ironworks––the owner, Andrew Krantz, worked every day till two weeks before the day he died at the age of 96. 

It’s something that should be in the back of your mind at all times: What happens if we lose a key person, because, in a small company, there’s only one or two key people. So ask yourself, “What would we do without that person? Or what would happen to the company if I wasn’t there?”

MC: Are people in their 20s and 30s today as eager to join the family business as previous generations?

Folk: It’s a mix. If you go to an AFS conference, you see some situations where the younger generation is stepping in and will be taking over. But it’s not always like that—we sold a foundry in Pennsylvania where the owner had three children, and none of them really had the talent or the interest to join the business. With no family in the business to take over, they ended up selling it. 

MC: Is there more to a good family candidate than talent? 

Folk: Personalities are important and should factor into the owners thinking. 
I’ll give you two examples: A father had three sons, two were active in the business and one was not. The youngest was a superstar—I mean there wasn’t anything he couldn’t do. The problem was, he didn’t know how to play well with others. He owned like a 25% or 30% share, and the brothers finally said, ‘Look, we’re going to sell.’ It just didn’t work out. 

Then there was a foundry in Pennsylvania whose owner was getting ready to retire. His daughter handled all the administrative functions and the son-in-law ran the foundry. He was doing a great job, but as the owner started having some health issues and was slowing down, all of a sudden, the business wasn’t doing well. The owner decided it just wasn’t going to work, and we sold it to a company doing roll-ups. They took a liking to the son-in-law and gave him responsibilities for additional foundries they owned, and now he’s doing great again. He’s just someone who needed a boss. If he had someone looking over his shoulder, he would do a terrific job. 

Execution is just as key as the planning.

MC: Can you achieve family succession even if you don’t have a child to take over? 

Folk: Sure. There is an iron foundry in the Midwest run by five cousins—no siblings among the group. And there was always somebody to step in and take the leadership role. But they had a rule: You could only be an owner if you were actively working at the foundry. And if someone wanted to retire, they would have a valuation done, and the business would then buy their shares based on the valuation. That was their succession planning, and it’s worked. They do very well, although I’m not sure what happens when they get to the last cousin—they may have to think about that.

MC: No 35-year-old can get a bank to loan them $5 million. How do owners–mom or dad—get their payout when transferring ownership to their family?

Folk: It’s actually not that difficult. In the end, it comes from the company.

One thing you can do is structure the deal so the owner/parent will get a perpetual salary; that’s part of the payout.
Think of this as part of their inheritance. Why take several million dollars out, pay the capital gains taxes and leave it to your child as an inheritance? You might as well just work out a strategy where you transfer ownership to them. 

I’m working with a foundry in the Midwest that’s being run by a son-in-law for two owners who are not active in the business, but they’re close to it—his father-in-law and a non-family member. Every year, the son-in-law gets a bonus based on the profitability, which applies to purchasing phantom shares of the stock. When he effectively owns 50% of the company, he’ll borrow the rest and buy out what’s left. There’s a strategy there that enables him to buy it using the company proceeds. 

In another case, there are two unrelated owners of a foundry, and the son of one owner runs the business and does very well. The father is slowly transferring his shares to his son and the other owner is ready to sell his shares. The business valuation price is part of the inheritance. The father is very well off outside the foundry—he’ll take a salary till the day he dies, and then his wife will take a salary until the day she dies. That’s part of the buyout.  

You do have more options when it’s a family member.

MC: What rules do the really successful family businesses abide by?

Folk: They establish very clearly that even though you’re a family member, and we’ll give you a job, you need to do a good job. And if you’re not doing a good job, we’ll find something to keep you busy, but out of the way. 

MC: What’s your advice to siblings who may be embarking on a business partnership for the first time?

Folk: Put a good partnership agreement in writing. Outline what happens if somebody needs to sell their shares. What can everyone expect about dividends? Make the plan clear, in writing and in advance, on how you deal with various situations.

MC: What do owners sometimes forget to consider when they work on their exit strategy?

Folk: First, they might be overlooking the age of the people around them—how old are the key people? If the owner is in her 60s and all the key people are in their 60s, it’s time to look at who’s behind them. 

Next, there’s more to having a good succession plan than just your estate or what’s going to happen to your family. You want to improve the probability that the company will continue to be successful. You have a responsibility for all your employees; they’re depending on you to run a good company so they have a steady paycheck to support their families. Too often, they don’t think about the employees.

MC: Who do you need to be talking to in the planning process?

Folk: First of all, I would talk to the people who might inherit the business. God forbid, but how many people have we all known who get a diagnosis like pancreatic cancer and in five or six months they’re gone. So, the people who inherit it should know.

You might want to talk to your accountant or attorney, too—a business adviser who doesn’t have skin in the game. Or, you may have an employee you’re especially close to and you can talk to. But someone who’s objective. 

MC: For those who might need to sell outside the family, what’s the industry’s consolidation landscape looking like right now?

Folk: I think it’s a seller’s market. This is a mature industry. If you’re going to grow, you either take customers away from someone else, or you do an acquisition. I think it’s a good time to be a seller.

Selling is the smart choice when you don’t have any other choice. People would tend to keep it in the family if they can, but that may not be an option. It may be that it’s just time to move on and sell out. It’s always something you can keep in the back of your mind, assuming you have a foundry that’s saleable.

MC: And what makes it saleable?

Folk: If you’re running a quality foundry, it’s always ready to sell. There was a jobbing foundry that sold last year—Superior Aluminum in the Midwest; they only had about 35 employees but they were extremely profitable. They were running like 2% scrap. And the place was immaculate. It’s the only place I know that used sweeping compound when they swept the sand on the floor so they didn’t raise dust. And about once a year, they would actually bring in industrial floor cleaners and scrub the floors like they do in the supermarket.  That foundry was always well run and was always ready to sell.

MC: If I’m selling my house, I know I have to paint rooms and fix leaks. Can you get a little more specific on what the seller of a small to mid-size foundry has to prepare for to get top dollar? 

Folk: The most important thing is profitability—that more than anything determines your saleability. But also the way the foundry has been run, because going forward, the buyer is thinking, “What kind of capital investment is it going to need?” 

We got a tremendous price for an aluminum foundry in Pennsylvania because the owner just loved equipment. The building was less than 10 years old, and there wasn’t a piece of equipment in there that was more than 10 years old. You could run that plant for four or five years with no major capital investment. 
Also, does your business show well? Is the place dirty? Sand on the floors or spilled metal that’s not cleaned up? Is the lighting good? 

What kind of management is there? Will the buyer have to put in a manager, or are there people there who can run it on a day-to-day basis? 
What market is it in? For example, some people won’t touch automotive now, but there are other people who look for automotive. Do you have a heavy concentration of customers in one niche? There’s a nice foundry in the Midwest that has one customer that’s 65% of the business, and it’s been that way for literally 40-plus years. It’s a good customer—they pay in one week. But, you know, if the ownership of that company were to change, you question how that will be seen.

MC: Even in a lucrative market, is an owner going to take a hit by selling to, say, a key person in the company?

Folk: No, you can actually get the highest price that way. 

We did a valuation for a foundry in the Midwest. The owner had been moving away from the business and the guy who was running it was doing a terrific job; better than the owner, in fact. So we did the valuation at $10 million, and the owner said, “Okay, I’ll sell it for $11 million.”

Then, there was a small aluminum foundry in Pennsylvania that did a couple million in sales—they had a really good right-hand guy. The owner gave him a price with a 20-year note. Well, if you look at what he paid for it over 20 years, it was almost twice what the company was worth. 

If you have a proven entity, and you’re willing to take a note back, you can actually sell it for more than a competitor would pay.

MC: Could ESOP be a viable option for the smaller foundry?

Folk: You need to be probably north of $10 million and have some depth in your management team. You should be financially sound with a clean balance sheet—no debt—because what will happen is the ESOP will borrow to pay the owner, but it won’t be enough. So the owner is going to take a note back for the balance.

But the pricing can be very, very good.

And the valuation could be very good for the owner, because it’s a tax-exempt transaction, so there are no capital gains taxes. It can work out very well, but again, it has to be a little bit larger company and they should be financially solid.   

Click here to read the article in the March 2022 digital edition of Modern Casting.