Middle Market Growth - Summer 2017 by Association for Corporate Growth

SUMMER 2017

// THE OFFICIAL PUBLICATION OF ACG

Flipping the Switch on Municipal Transport Electric Bus Maker Proterra Plugs Into Local Markets

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EXECUTIVE SUMMARY

Plug in to Disruption in the Automotive Sector

JASON BROWN Chairman, ACG Global, and Partner, Victory Park Capital

he transportation industry is undergoing a revolution—with advanced technologies such as ride-sharing, collision avoidance and driverless cars, as well as a push toward cleaner fuels, no part of the sector will be left untouched. The changes impact the broad and still fragmented aftermarket segment comprised of parts makers and service providers like body and lube shops that have historically attracted significant middle-market investment. The writing is already on the wall of the public markets: In April, electric carmaker Tesla overtook historical industry stalwart General Motors by market capitalization. Our cover story reflects the desire to use greener and more fuel- efficient vehicles; we profile Proterra, a fast-growing midsize business going after a specialized niche in the vehicle electrification market: municipal buses. With the backing of private capital, the company, whose management has strong ties to Tesla, is winning converts across the country, including L.A. County and Park City, Utah. The middle market and private capital are playing a significant role in finding and advancing technologies and service providers to leverage the auto market’s transformation. In our inside feature, we take a look ahead at the trends shaping the car of the future. Speaking of the future, the search to find ACG Global’s new CEO has been underway since March. A search committee—comprised of ACG Global board members and staff, a chapter representative and member volunteers—has selected executive search firm Heidrick & Struggles to manage the process. The firm is currently presenting qualified candidates to the board, and it is my expectation that the search will be completed by the end of this year. In the meantime, I have complete confidence in ACG Global staff; I am a regular fixture in their Chicago offices where planning is underway for a host of initiatives on the heels of this year’s record-breaking InterGrowth conference in Las Vegas. These include the annual Middle-Market Public Policy Summit on Sept. 27–28 in Washington, D.C., and the EuroGrowth 2017 conference in London on Nov. 6–7. Please be on the lookout for exciting details about both events. Please enjoy this issue of MMG magazine, and don’t be shy about sharing your thoughts with me or the editor. Part of ACG’s role is to keep members engaged and informed. //

MORE ONLINE Stay tuned for continued coverage of the middle market in our suite of MMG media, which also includes a daily news feed, weekly e-newsletter and complementary website, middlemarketgrowth.org.

MIDDLE MARKET GROWTH // SUMMER 2017

FROM THE EDITOR

Middle, but Far from Average

DEBORAH L. COHEN Editor-in-Chief, Middle Market Growth

middlemarketgrowth.org

ast Company. Inc. Entrepreneur. These publications and similar titles bring readers news of fast-growing, innovative companies—typically startups backed by venture capital. Think market disrupters such as Uber and Airbnb. But as most ACG members already know, the middle market, too, is rife with contenders for market disruption. Proterra, featured in this issue, is making headway in the green energy market by offering electric buses to municipalities in need of efficent, short-run transport. Proterra is one to watch as electrification and other sources of clean energy, like solar power and natural gas, displace traditional energy markets. In the last four years, MMG has covered middle-market companies that proved their mettle as disruptors in their own right. Storied camera maker Polaroid, featured in the spring issue, is taking share in the digital-imaging space with products ranging from cameras to portable printers, software and apps—all leveraging its history in instant photography and now backed by private capital. Madison Reed, which sells professional-quality hair color for home use, is fast becoming a thorn in the side of the salon market. The subject of a 2016 MMG cover, the company has raised more than $26 million in funding to date (PitchBook), landed its products on the QVC shopping network, opened a storefront in New York and doubled its revenue last year. Julep, profiled in another 2016 MMG cover, offers handpicked cosmetics and skincare shipped directly to consumers; the company was scooped up in December by a roll-up operation run by former Revlon CEO Alan Enis. Julep is a forerunner in the curated retail market, a space that includes names such as Stitch Fix, Bento Box and Trunk Club (the subject of yet another MMG cover story and now owned by Nordstrom.) By far, these stories have come onto MMG’s radar by way of ACG’s comprehensive network of insiders in middle-market dealmaking. Since my colleagues and I can’t make it to all 1,100 ACG yearly chapter events, we rely on you to tip us off. If you think you’ve spotted a potential market disrupter in your region, please reach out. Meanwhile, if Proterra goes public, we hope you can say you heard it here first! //

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SUMMER 2017

DON’T MISS A QUALIFIED OPINION Joe Sparacino, BB&T Capital Markets 14

QUICK TAKES Watermill’s View of the Automotive Aftermarket 13

IN THIS ISSUE

Executive Summary 1 From the Editor 2 Above photo: Fred Rollison. Cover photo: Dominic Bolton.

GROWTH STORY

Executive Suite 8 Midpoints by

Electric Bus Maker Proterra Plugs Into Local Markets Backed by private capital and a management team comprised of Tesla alumni, electric bus maker Proterra is forging inroads in municipal transportation, a market dominated by diesel-powered vehicles.

John Gabbert 9 The Round 10 Vertical View 12 Policy Points 30 Growth Economy 32 In Focus – An

TREND

Automotive Aftermarket Readies for Tech Advances

Inside Look at HBM Holdings 34 The Portfolio 39 ACG@Work 50

Connected cars and other smart technologies are prompting parts makers

The Ladder 54

and service providers to prepare for big

middlemarketgrowth.org

changes in how customers buy, use and

It’s the Small

repair their cars. 24

Things 56

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MIDDLE MARKET GROWTH ONLINE

EDITOR-IN-CHIEF

Deborah L. Cohen

MMG CONVERSATIONS

dcohen@acg.org VICE PRESIDENT, COMMUNICATIONS & MARKETING

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Visit middle marketgrowth.org for exclusive con-

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the latest issue!

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Golub Capital’s Van Dussen Discusses the State of Middle-Market Dealmaking

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at Golub Capital, touches on the competitive environment, syndication and unitranche lending,

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in an interview taped at InterGrowth 2017 in Las

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Vegas. The event was held April 24–26 at the

jcahill@acg.org

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across the globe

InterGrowth attendees, including capital provid-

from top news

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professionals who invest in the middle market; InterGrowth provides them with an important

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EXECUTIVE SUITE

PE Firms Ride Favorable Automotive Trends

The automotive market continues to be an attractive source of investment for many PE firms. Why? Significant M&A growth is driven by a boost in sales volume and seasonally adjusted annual rate volume (about 17.6 million in 2016). Meanwhile, attractive historical returns in recent years have spurred investment in auto dealerships, auto suppliers and aftermarket areas such as collision repair and finance. Investors have recognized opportunities in this somewhat fragmented industry; many believe enhanced development and properly leveraged back office operations result in efficiencies. Interest has also resulted in a steady increase in industry-wide valuations.

BEN REDMAN Partner, Dixon Hughes Goodman, LLP Ben Redman is a partner with Dixon Hughes Goodman, LLP, based in New York. As head of the firm’s transaction advisory practice, he specializes in complicated transactions for corporate and private equity clients in the middle market.

middlemarketgrowth.org

Q A

Do you have any guidance for buyers considering M&A? The market is highly competitive and subject to over valuation if buyers don’t complete adequate homework; financial and tax due diligence is critical, especially for those new to the industry. Understanding the relationship between the financial reporting automotive dealers provide to manufacturers and the standard monthly reporting in other industries can be challenging. Dealers sometimes bury key metrics in other income and expenses, masking historical performance. A dealership could report incentives from manufacturers with other income and expenses intended to offset the cost of the vehicles, directly impacting gross margins. Understanding the manufacturer relationship and the OEM’s priorities is critical as well.

Q A

How can sell-side due diligence provide a significant edge? Sell-side due diligence has been gaining momentum in all industries. It allows a company to organize data by reconciling trial balances to dealer financial statements, and to analyze EBITDA adjustments and provide support for modifications prior to buyer diligence teams, ensuring a smooth validation process. It also recasts historical financial statements with as much detail as possible to provide visibility to suitors on the impact of other income items, such as doc fees, incentives, and the dealer’s finance and insurance arm. Detailed historical operating results will help to achieve an efficient sales process.

Q A

What are the main diligence issues for an automotive target? Many sellers of automotive assets are small owner-operators not likely to be prepared for the sales process; they often report financials on a modified cash basis. Recognizing the quality of information and having realistic diligence goals is important for ensuring an effective outcome. Historically noted financial performance issues include nonGAAP treatment of rebate programs; one-time events such as hail storms that could damage inventory and reduce operating results; and smoothing of earnings via finance-and-insurance chargebacks and similar reserves to help present consistent performance. These factors can call for significant adjustments to reported EBITDA, an important consideration for deal negotiations. //

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MIDPOINTS by John Gabbert

Car Sales, New Tech Boost Aftermarket

he automotive industry has seen tremendous growth coming out of the last recession. Access to credit at low interest rates, along with an economy that continued to improve year after year, helped to boost vehicle sales. In fact, vehicle sales in the last five years alone have jumped roughly 30 percent, according to Federal Reserve data. The automotive supplier and aftermarket industry has been a direct beneficiary of this trend—specifically, original equipment manufacturers have seen increased demand due to consumers’ appetite for new cars. Private equity investors have taken note. Since 2014, about $25 billion in aggregate has been invested in the automotive and auto aftermarket sector, according to PitchBook data. PE groups have increasingly leveraged buy-and-build plans to enhance the value of their acquired targets. They can continue to deploy this strategy by consolidating the vertical value chain between parts makers, distributors and retailers, or by expanding horizontally to establish a presence in various geographic areas. Further, the automotive aftermarket was much less impacted by the recession than were automakers, providing a stable cash flow environment that PE groups could lend against as they sourced deals. Today the industry continues to experience noteworthy shifts. The rise of electric cars, along with headway made around self-driving vehicles, will impact not only sales, but the entire automotive supply chain as demand for various parts adjusts amid

these tech-based initiatives. Undoubtedly, portfolio company executives and their investors are aware of this shift; as the pace of innovation continues to increase, PE sponsors will look to deploy dry powder by acquiring and combining companies that can fulfill portfolio companies’ technology needs. Companies providing everything from basic components to advanced driver-assistance systems such as sensors and cameras will be sought-after targets. Interestingly, since many of these companies are JOHN GABBERT backed by venture capital firms, tradiFounder and CEO, PitchBook tional PE firms will likely cross paths with early-stage investors more often, mirroring what we’ve begun to see across the general technology sector in recent quarters. Globalization remains “COMPANIES PROVIDING a pertinent theme in this EVERYTHING FROM BASIC space. For years, regional suppliers alone could fill COMPONENTS TO ADVANCED the needs of many OEMs, DRIVER-ASSISTANCE but as today’s vehicle manSYSTEMS SUCH AS SENSORS ufacturers need fast-moving suppliers that can serve AND CAMERAS WILL BE their international initiaSOUGHT-AFTER TARGETS.” tives, consolidation has been an inevitable strategy to compete with global companies. Again, PE is very wellsuited for this race given its historical ability to combine and integrate companies. To illustrate, add-on transactions accounted for a weighty 66 Content Sponsored by percent of all PE deals last quarter— that’s the highest number we have ever recorded at PitchBook and a data point that speaks to the massive interest and experience PE has in combining businesses. //

MIDDLE MARKET GROWTH // SUMMER 2017

THE ROUND

professionals—learn the latest trends and best practices, and hopefully land my next deal.” Highlights of InterGrowth 2017 included: Keynote from Earvin “Magic” Johnson—NBA legend Earvin “Magic” Johnson, president of basketball operations for his former team, the L.A. Lakers, shared his journey from basketball to business, including how he built Magic Johnson Enterprises into a financial and philanthropic powerhouse.

E Attendees enjoyed the InterGrowth Lounge

InterGrowth 2017 Draws More Than 2,000 Attendees

he Association for Corporate Growth hosted its InterGrowth 2017 conference in Las Vegas at the ARIA Resort and Casino from April 24 to 26. The conference brought together over 800 capital providers and more than 700 investment banks and advisers, as well as hundreds of corporate leaders. “ACG members and InterGrowth attendees are a vital part of the U.S. economy that accounts for one third of total private employment and generates more than $10 trillion in combined revenues annually,” said Jason Brown, chairman of the board for ACG Global and a partner at Victory Park Capital. “If looked at as an individual market segment, the U.S. middle market

middlemarketgrowth.org

would be the world’s fifth-largest global economy,” he said. “There’s a reason why events like this have strong attendance.” InterGrowth is a perennial favorite for middle-market professionals and an important strategic networking opportunity. “This is my 14th InterGrowth and there’s a reason that I, along with so many others, come back year after year—consistent tangible results,” said Ramsey Goodrich, chairman of InterGrowth 2017 and managing partner of Carter Morse & Mathias. “This annual conference is the best way to establish new connections, reconnect with other middle-market business leaders—including investors, corporate executives and transaction

InterGrowth’s first-ever Women’s Networking Lunch & Panel—It was standing room only for this session, presented in partnership with Atlantix Partners, which focused on expanding the role of women in private equity. Middle-Market Insights Theater – Live from InterGrowth!—Back by popular demand for a second year, attendees enjoyed three hour-long sessions presented by Duane Morris LLP, Grant Thornton LLP and Merrill Corporation, which were simulcast to a virtual audience. The Middle-Market Fundraising Boot Camp presented by Buyouts Insider—InterGrowth 2017 closed with a two-hour program featuring some of the top LPs in the country sharing the latest trends, dos and don’ts of fundraising, and a live in-person pitch analysis. InterGrowth 2018 will be held May 2–4 at the San Diego Marriott Marquis & Marina in San Diego, California. For more information, visit www.intergrowth.org.

Lou Halstead Retires from ACG New York Longtime association professional Lou Halstead developed what started as a freelance job into a respected position helping to lead one of the most successful chapters in ACG history. Halstead, who began her foray into association management 17 years ago, will retire in August after overseeing operations at ACG New York as its chapter executive for 13 years. Over the course of her tenure, ACG New York’s membership has risen to more than 1,000, ranking it first by size among ACG’s 58 global chapters. Halstead’s staff now numbers five. “My biggest accomplishment as chapter executive has been my role as mentor to my amazing staff,” Halstead says. “I believe that I played a small part in helping them develop into mature, competent professionals.” What is due in large part to Halstead is ACG New York’s reputation for successful programing, which she attributes to understanding the needs of the New York dealmaking community. The chapter offers some 70 events each year in New York City and Westchester, attended by about 8,000 professionals. ACG New York’s Annual Healthcare Conference, which marked its ninth year in 2017, is among Halstead’s personal favorites. “I worked hand in hand with the chair and committee to build it into ACG’s premier healthcare conference,” she says, adding that the

committee “has remained strong and unchanged.” A former development officer at a private school, Halstead began her work with associations in 2000. She took on management of ACG Connecticut in 2002 and added ACG New York to her roster in 2004. In 2008, she started her own business, GWC Management, and dedicated herself full time to ACG New York. Since 2004, Halstead has worked closely with Bobby Blumenfeld, who became president of ACG New York in 2005 and is now its executive director. “When people ask how we can service so many programs, publish numerous articles, blogs, websites, newsletters, etc.—the answer is Lou,” said Blumenfeld. “She has been not just an integral part of our growth, but a great friend.” Busy Retirement It’s no surprise a busy career like Halstead’s will be capped by an equally active retirement. Halstead plans to spend more time with her children, grandchildren and friends, and to travel and do volunteer work. She will still develop and oversee special events, though now of a more personal nature. First up: her own daughter’s wedding. Says Halstead: “I will remain on the board of ACG Cares, but will truly miss seeing and talking with the ACG colleagues I have had the pleasure to know over the last years!” ACG wishes Lou Halsted all the best in retirement. //

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MIDDLE MARKET GROWTH // SUMMER 2017

VERTICAL VIEW

Pushing the Pedal on Automotive Private investment by PEs and VCs in the so-called ride-sharing market, which includes Uber and Lyft, nearly doubled in 2016 from a year earlier, tracking at

$6.8 billion, and eclipsing other areas of the automotive sector.

In 2016, some notable ride-sharing deals include Uber Technologies’ $5.6 billion round in May of 2016 and Lyft’s $1 billion round in January of 2016. The top investors from 2014 to 2017 based on deal count:

ɋɋ Fontinalis Partners ɋɋ Graphene Ventures ɋɋ Carma Axlr8r ɋɋ GV

In 2014, the automotive sector reached

$14.97 billion in invested capital, a level not reached in subsequent years. Helping boost the 2014 level was the acquisition of the Gates Corporation, a maker of power transmission belts, by the Blackstone Group through a $5.4 billion secondary buyout in July 2014.

Investment in the still-fragmented automotive aftermarket peaked in 2015 at

$1.72 billion over 47 deals, mostly LBOs and buyouts. From 2014 to 2017, the aftermarket’s top investors on deal count basis are ABRA Auto Body & Glass and Hellman and Friedman.

middlemarketgrowth.org

QUICK TAKES

Watermill Bets on Short-Run Production in Auto Sector

utomakers—the industrial behemoths not known for their flexible production capabilities—are increasingly required to pivot amid changing consumer demand and a host of fast-emerging technologies. That’s the main reason that Watermill Group, the Lexington, Massachusetts-based private equity firm, acquired Detroit-area automotive components makers Quality Metalcraft Inc. and Experi-Metal Inc. in 2015 and 2016, respectively. Watermill merged the companies due to their E complementary service offerings, but Julia Karol, is maintaining both brands. President and COO, “If you’re an automaker and you’re Watermill Group trying to bring something to market, doing it quickly and with quality is really critical to you,” says Watermill President and COO Julia Karol. Both QMC and EMI specialize in short-run production of component parts required to build prototypes; each has a plant outside Detroit. Together, they “WHAT WAS PREVIOUSLY AN service well-known brands UNCHANGED TRADITIONAL including Ford, GM and Fiat Chrysler. INDUSTRY IN THE U.S. They specialize in shortIS REALLY STARTING TO run and low-to-medium- SHIFT AND GROW.” volume production that helps iron out early-stage imperfections before turning a prototype over to a manufacturer for a large-scale rollout (think crash test dummies). And if a problem occurs on an existing line at one of the big

manufacturers, QMC and EMI can replicate that piece of the line in their plants to assess and resolve the problem, so the automaker doesn’t have to take halt production, Karol says. “Both companies have stories where they’re called on a Friday with an emergency and by Sunday they’re making parts,” Karol says. “The speed at which they can help a customer either address the problem or bring the product to market is one of the reasons they’re really valued by their customers.” Finding companies that serve dynamic markets such as the automotive sector is a sweet spot for Watermill, Karol says. “(Our companies) often serve industries that are changing really rapidly and need strategy—and our strategic support—to figure out how to better serve those industries.” Maintaining their nimbleness will be an essential part of growth at QMC and EMI as they grapple with new technologies emerging in the sector including driverless cars, electric-powered vehicles, collision-avoidance systems, enhanced GPS and more. “We continue to be enthusiastic about (automotive) and the growth in the industry,” Karol says. “What was previously an unchanged, traditional industry in the U.S. is really starting to shift and grow.” // —Deborah L. Cohen

MIDDLE MARKET GROWTH // SUMMER 2017

A QUALIFIED OPINION

Joseph Sparacino Managing Director, BB&T Capital Markets Joseph Sparacino heads the automotive aftermarket investment banking group at BB&T Capital Markets. With more than 15 years of experience in investment banking and corporate finance, he provides M&A transaction advisory services to private equity groups, their portfolio companies and other private and public companies.

“WHILE NOT CONSIDERED A HIGHGROWTH INDUSTRY, THE AUTOMOTIVE AFTERMARKET OFFERS STABILITY AND CONSISTENCY WITH OUTSTANDING RISK-ADJUSTED RETURNS IN JUST ABOUT ALL SEGMENTS.”

MORE ONLINE Read more from this interview at middlemarketgrowth.org

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How would you characterize the overall state of deal activity in the automotive aftermarket, and has it been on pace with 2015 activity? Deal activity in the automotive aftermarket remained strong in 2016, with more than 130 deals disclosed in North America, in line with 2014 and 2015. Corporate buyers continued to invest in growth through acquisitions in just about all industry sectors, while private equity continued to make new platform investments. Factors driving M&A in the automotive aftermarket have remained consistent: corporate acquirers have generated strong cash flows for years and view acquisitions as a growth-oriented way to deploy capital, expand market share and streamline costs; meanwhile, private equity investors see a relatively stable, low-risk segment of the economy that has grown in 29 of the last 30 years. The sector is expected to grow 3 to 4 percent annually over the next five years. While not considered a highgrowth industry, the automotive aftermarket offers stability and consistency with outstanding risk-adjusted returns in just about all segments.

What are the major segments of the market, and are there differences in how investors view each?

The U.S. vehicle aftermarket can be segmented by vehicle type (passenger vs. commercial), activity type (maintenance and repair, collision or specialty equipment), and by a respective company’s position in the supply chain (supplier, distributor, retailer or service provider). Most investors start with a view on the vehicle type—splitting out the $265 billion market for light cars and trucks from the roughly $90 billion segment for larger commercial vehicles, such as medium- and heavy-duty trucks. The light vehicle side is considered mostly non-cyclical, due to the non-discretionary nature of most repair and maintenance work, and the consistency with which people use vehicles. The commercial segment (e.g., delivery and freight trucks) is tied to economic activity, but also generates higher margins because parts are considered mission critical and low-cost in comparison to a truck’s down time (operators lose money when equipment is idle). Each of these segments can also be broken down by type of part or service, traditionally classified into three major categories: general maintenance and repair, collision repair and specialty equipment. The first two are considered non-discretionary—if your vehicle needs tires, brakes or an oil change to run properly, or you need

“THE BODYSHOP SEGMENT HAS UNDERGONE A REMARKABLE EVOLUTION IN THE PAST DECADE.”

body and mechanical repairs following a crash, you are going to get the work done. The final way to segment the market is by who does the repair; professional services or do-it-for-me generate more than 80 percent of repair activity in the light vehicle segment, while general consumers or do-it-yourself activities constitute about 20 percent.

The collision repair services segment has been particularly robust in terms of M&A activity. What are the catalysts there and where is the most opportunity? The bodyshop segment has undergone a remarkable evolution in the past decade. Enabled by advances in technology and under pressure from insurance carriers to contain the cost of vehicle repairs after a crash, four companies (ABRA, Boyd Group, Caliber and Service King) have been rapidly consolidating the space. Advances in technology have enabled these larger, better-capitalized operators to invest in systems and processes that are highly value-added to insurance carriers, which face their own pressures to attract, retain and profitably service customers following a crash. These larger multi-shop operators can leverage their scale to lower the cost of buying parts and paint, while utilizing centralized staffing to minimize back-office costs and better service their customers, particularly insurance carriers. Insurance

carriers, which pay most collision repairs, closely measure repair shops through key performance indicators, such as customer satisfaction and time to repair a vehicle. They use those metrics to rank service providers, resulting in more or less business for the repair shop. Smaller operators have a tough time competing with the level of investment required to run effectively and they become targets for consolidation. These deals usually have built-in revenue and cost synergies, so positive outcomes for both buyers and sellers are easy to structure. With about 35,000 independent repair locations nationally and less than 15 percent owned by the four largest consolidators, we expect acquisitions in this segment to continue for the foreseeable future.

Q A

What types of acquisition strategies are we seeing play out in this market? There are a few major strategies driving M&A activity, including consolidation in just about all channels and segments; the expansion of suppliers’ product lines, technology offerings, customer channels and geographies; and new platform investments from private equity, which inevitably lead to more consolidation or expansion plays. //

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ACG PERT gathers together CFOs, CCOs and in-house legal counsel of middle-market private equity firms nationwide. As a member of PERT, your firm will join a national network focused on shaping compliance best practices alongside federal regulators. FOR MORE INFORMATION, CONTACT CHRISTINE MELENDES, AT CMELENDES@ACG.ORG. © 2017 Association for Corporate Growth. All Rights Reserved.

MIDDLE MARKET GROWTH // SUMMER 2017

Flipping the Switch on Municipal Transport

Electric Bus Maker Proterra Plugs Into Local Markets

Photo (this page) by Dominic Bolton Photos (following pages) by Fred Rollison

BY S.A. SWANSON

H Plugging into local markets: Proterra CEO Ryan Popple

n 2010, Ryan Popple and Brook Porter were preparing to meet Al Gore, and they were nervous. Both admired the former U.S. vice president, who was a partner at venture capital firm Kleiner Perkins Caufield & Byers. Popple and Porter had recently started as junior partners at the firm, where their work included identifying investment opportunities in sustainability. “We need to sound smart and say something interesting to him,” Porter remembers thinking. That “something” was their take on the future of heavyduty vehicles. Popple and Porter agreed transportation would eventually go electric as battery packs became better and cheaper. But which segment would transform first? Their conclusion: diesel vehicles that travel local routes like delivery trucks and transit buses. The argument seemed counter-intuitive, considering the buzz around electric cars. But going electric with large, heavy-duty vehicles addressed the shortcomings of diesel fuel in operation costs—not to mention air pollution. “It became very clear that battery-powered EVs were going to start eating the entire global transit market over the next 20 years,” Popple says. An environmentally conscious Gore agreed, and in 2011 Kleiner Perkins and other investors (including General Motors) closed the initial $30 million funding round for a bus maker called Proterra. By 2015, Proterra’s revenue had grown to $28.7 million. This year, if it could ship its entire backlog order, the company would exceed revenue of $200 million. (It won’t be able to ship the full backlog due to constraints such as charging station construction.) To boost its numbers, Proterra has travelled a road filled with bus-sized potholes. “We had failed starts,” says Porter, now a senior partner in Kleiner Perkins’ Green Growth Fund. “We had to make a really hard decision: Do you double down? And we had to double down a couple times.”

MIDDLE MARKET GROWTH // SUMMER 2017

PROTERRA What: Designer and manufacturer of zero-emission electric buses Benefit: Enables fleet operators to eliminate dependency on fossil fuels and reduce costs Customers: Municipalities, universities and commercial transit agencies throughout the United States

Investors also made a smart bet on Popple, Proterra’s current CEO, despite his lack of prior experience in the bus industry or leading a company. To help recharge a business shaped by new technology, Popple turned to a very old strategy— attract more customers by listening closely to what they need.

Vehicle range: Some models

THE ROAD NOT TAKEN Electric buses cost more Funding: $140 million in equity than diesel, but save hunfunding to date dreds of thousands in fuel expenses over a vehicle’s lifetime (a minimum of 12 years, according to Federal Transit Administration guidelines). They dramatically reduce expensive brake repairs due to less braking— when drivers ease up on the accelerator, electric vehicles slow down more than others (the motor runs backward and recaptures kinetic energy to can go up to 350 miles on a single charge

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charge the batteries). What’s more, predictable bus routes help eliminate “range anxiety,” drivers’ fear of running out of juice. Those points helped win the Al Gore green light. But for other investors, the electric-bus thesis was not an easy sell. “We had to do a ton of work to convince our partnership that this makes sense,” says Porter, whose career has centered on fossil-fuel alternatives. Before joining Kleiner Perkins, he co-founded two companies— one in biofuels and one in EVs (He also has more than a dozen patents related to clean energy, including an electric motorcycle that Time and Popular Science named one of the best inventions of 2005). At Kleiner Perkins, the mere idea of public transportation—capital-intensive with long sales cycles—drew objections, as did the words “public transit bus.” “You can imagine the demographics of venture capitalists, romanticizing about that,” Porter jokes. A Proterra vehicle can do 0 to 20 mph in 6.8 seconds—zippy for a transit bus, but decidedly unsexy compared to a Tesla. The product envisioned didn’t need to inspire sonnets, but it did need a promising ROI. Popple saw that in Proterra, which was founded by electric vehicle entrepreneur Dale Hill, an engineer by training. (“He’s one of our best business development executives now,” Popple notes). In 2008, Proterra designed the EcoRide BE35; with a 30-to40 mile range, it charged in less than 10 minutes. By 2010, the company had its first customer, Foothill Transit in Los Angeles County (Two years later, one of Foothill’s Proterra buses was featured in an episode of “Jay Leno’s Garage”). After potential investors examined Proterra’s market possibilities, Popple encountered little resistance. He says, “The more people thought about what urban transit vehicles did, there was the question of, ‘Why didn’t EV start here first?’” Initial funding in 2011 helped the company move to Greenville, South Carolina, where it built a manufacturing facility. Investors hired an executive from a large commercial vehicles group to lead the business, a choice that seemed perfectly logical, but was wrong. “If you’re going

to disrupt the bus industry, you don’t want to just do things like every other bus company,” Porter says. Proterra then turned to a former Honeywell executive who had run some 40 manufacturing plants. That CEO was also a poor fit. “The bus industry is really an assembly business, but Proterra is a little different, because it has to do technology as well—it has to build its own drivetrain and its own battery packs,” Porter says. By 2014, Proterra’s metaphorical battery pack was draining. The company had added only five customers over five years. If its business had been an actual bus, it would have been careening down a mountain in treacherous weather, navigating switchbacks with no guard rails.

WHAT WOULD TESLA DO? For Popple, Proterra’s rough ride was a familiar one. “He had lived this story,” Porter says. “He saw what it took to get to the other side.” Popple was Tesla’s director of finance from 2007 to 2010, during one of the bleakest chapters in the storied electric carmaker’s history;

it nearly went bankrupt in 2008. (In April, Tesla surpassed General Motors in market capitalization.) “As investors, probably the most important decision we can make is the right CEO,” Porter says. “Putting Ryan in the CEO seat was that moment.” Popple took over in 2014, after convincing investors to put tens of millions into a company that was flailing. He had to fix it. The first step: Visit Proterra’s customers, as well as transit agencies that didn’t place orders, and listen to their concerns. Popple already

E Retooling the bus market

“PROTERRA IS TRYING TO SOLVE A VERY SIGNIFICANT CHALLENGE THAT METROPOLITAN AREAS ARE FACING AS THE POPULATION CONTINUES TO GROW AND THE NEED FOR CLEAN ENERGY IS IN GREATER DEMAND.” NEIL SMITH Partner, Cross Country Consulting

MIDDLE MARKET GROWTH // SUMMER 2017

Anatomy of a Proterra Bus Once assembled, each Proterra model offers a range of energy-saving features

knew about the early missteps with bus basics such as doors and windshield wipers that didn’t work and poorly placed buttons that made drivers’ jobs harder. “It reminds me a lot of the early challenges we had at Tesla,” he says. “We spent so much time on the core technology and not nearly enough time figuring out how a glove compartment worked.” Proterra had addressed those problems, but Popple found a much a bigger flaw. Many transit agencies had longer routes not suited to Proterra’s short-range bus. After his listening tour, Popple delivered a difficult message to the board and investors: We need to develop a whole new product. Also, we need more money. In 2014, Kleiner Perkins and GM Ventures led a financing round of more than $30 million. The next year, Proterra raised an additional $55 million and introduced its longer-range bus— the Catalyst XR, which travels 200 miles on a single charge. The company moved headquarters from South Carolina to a better recruiting spot: Burlingame, California in Silicon Valley, just 20 miles north of Tesla (Besides Popple, Proterra’s ranks include more than a dozen former Tesla employees, including the COO and the director of battery engineering). Popple’s commitment to listen and adapt even extended to bus maintenance workers. Their input during product redesign revealed an important insight. By shifting part placement, the company could simplify routine maintenance. “We try to think about the mechanic as well as the driver,” Popple says. Proterra also hosts quarterly roundtables to glean feedback from customers. Last year, Proterra extended its buses’ range with the E2 model, which sells for about $740,000 and can go 350 miles on a single charge. The company also opened a second factory, east of Los Angeles. “We found it was costing us around $10,000 to ship a vehicle all the way to the West Coast from South Carolina,” Popple says.

middlemarketgrowth.org

including a battery pack and a charger.

BUS BODY Available in 35- and 40-foot models, the body is made of a carbon-fiber- reinforced composite. The Federal Transit Administration requires that heavy-duty large buses have a minimum service life of 12 years or 500,000 miles, but Proterra wants to extend that life expectancy. To demonstrate the durability of the body and other components, Proterra brought a vehicle to a testing facility that specializes in vibration, shock and multiple axis simulations. After a 750,000-mile simulation—the equivalent of 18 road years—the bus had “outstanding structural integrity,” says Matt Horton, Proterra’s chief commercial officer. “We think our bus bodies can last 50 percent longer than other bus bodies on the market.”

BATTERY PACK

DRIVETRAIN

CHARGER

This is the single most expensive

Forget about oil changes. Weighing

The side of the bus includes a J1772

component of an electric bus.

less than one-tenth of a traditional die-

charging port (an industry standard

“Depending on who you speak to in

sel drivetrain, this component only has

used by Volkswagen, BMW and Ford,

industry, the battery is about 15 per-

two moving parts: a permanent magnet

among others). But the bus’s roof holds

cent of the cost of the vehicle,” says

drive motor and 2-speed auto-shift EV

the real magic. Proterra’s overhead

Horton. Proterra’s battery pack is

transmission. Proterra vehicles also

charger does the job quickly—for the

about the size of two twin mattress.

have regenerative braking—lift your foot

short-range bus (which can travel

Led by Dustin Grace, a former battery

off the accelerator and the motor starts

between 49–62 miles), a recharge can

engineer at Tesla, Proterra’s team is

running backward, recapturing about 90

be completed in less than 10 minutes.

a multidisciplinary group of a couple

percent of the vehicle’s kinetic energy.

In June 2016, Proterra opened up the

dozen engineers with mechanical,

“You’re basically running the motor as

patent on the overhead charger. “It gave

electrical and chemical specialties.

a generator,” says CEO Ryan Popple.

our customers a lot of comfort that

The battery pack helped Proterra

“That feeling is a little bit different than

we’re very serious about creating an

achieve a record-setting distance last

coasting to a stop in a diesel bus.”

electric vehicle industry, as opposed to

September, when the E2 travelled

As a result, Proterra has focused on

an electric vehicle monopoly,” Popple

603 miles on a single charge. The

additional training for drivers to help

says. “We did it to show that we were

drive took place on a test track,

them understand why they shouldn’t

confident we could compete without

without additional passengers; the

jam on the brakes. “We don’t want them

locking them into a certain charging

upper end of the E2’s real-world range

using the mechanical brakes very often,

protocol.” That’s reminiscent of an

is 350 miles.

because it wastes energy, and brake

earlier decision by electric car maker

pads and discs are expensive in this

Tesla. In 2014, Tesla announced an

market,” Popple says.

“open-source philosophy” toward all of its patents.

MIDDLE MARKET GROWTH // SUMMER 2017

E Creating a

WINNING ON THE LOCAL LEVEL

When Matt Horton joined Proterra as chief commercial officer three years ago, most transit agencies weren’t thinking about electrification. At that time, his sales team was tracking about $200 million worth of potential bus orders. “Three years later, it’s almost 10 times that,” Horton says. Last year, Proterra doubled its customer base. Bus price declines by an average of 35 percent have helped (in 2010, a Proterra bus cost about $1.2 million). More efficient manufacturing plays a role, as do cheaper battery packs, “WITH JUST OUR FIRST which dropped 80 percent TWO BUSES, WE WERE since 2010, according to a McKinsey & Co. report. SAVING OVER 500 Proterra has some buyers GALLONS OF DIESEL outside of public transFUEL A MONTH.” portation, like universities and corporate shuttles, but transit agencies represent DONNA DEMARTINO its sweet spot, generating San Joaquin RTD in California 80 percent of sales. That includes San Joaquin RTD in California, with about 4.5 million trips annually. In 2013, it added two Proterra buses to its fleet of hybrid electrics. By next year, it will have 19 Proterra buses. As the hybrids reach

new market

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the end of their product life, RTD replaces them with electric, and within the next 10 years, the fleet of 135 or so buses should be all electric. That’s part of a strategic plan to help clean up the environment, says Donna DeMartino, RTD CEO. She’s seen economic benefits, too. RTD’s diesel buses averaged 3 miles per gallon; hybrids doubled that. “With just our first two buses, we were saving over 500 gallons of diesel fuel a month,” she says. And with fewer parts to replace, RTD saves more than 30 percent on preventative maintenance costs. “Proterra is trying to solve a very significant challenge that metropolitan areas are facing as the population continues to grow and the need for clean energy is in greater demand,” says Neil Smith, partner at Cross Country Consulting, which nominated Proterra for a growth award with ACG San Francisco (the company was a finalist). “The business model is really compelling, but it also has social responsibility as an underpinning.”

WHERE YOU DRIVE THEY WILL FOLLOW More companies will follow that business model soon. By 2022, one in every five heavy-duty transit buses sold in North America is likely to

be all-electric, according to Frost & Sullivan. “By 2018, all major bus OEMs will have [electric] buses in their product lineup,” says Chandramowli Kailasam, Frost & Sullivan mobility team leader. Topple says he welcomes additional competitors, noting that Proterra has the longest-range bus available and the overwhelming share of the U.S transit market. He uses this gauge—of the $55 million in annual grants provided by the FTA for zero-emission buses, about 80 percent went toward Proterra purchases last year. That FTA Low and No-Emission Vehicle Deployment Program began during the Obama era. President Donald Trump’s administration may have different views on renewable energy and environmental protection, but Popple doesn’t think they will affect Proterra. “What we find is, at a community level, green is very different than at a state or federal political level. We’ve never run into somebody who’s been outspokenly in favor of air pollution,” he says. In January, Proterra received $140 million in funding, including $60 million from new investors. Popple says the company plans to go public during the next few years, but before

that happens, Proterra will explore other markets. A joint venture in Europe is one possibility as cities such as Paris and Amsterdam plan to eliminate diesel buses by “WE’VE NEVER RUN 2025. Another possibilINTO SOMEBODY ity is heavy-duty vehicles WHO’S BEEN beyond buses. In the 12 OUTSPOKENLY IN months ending in April, Proterra was contacted FAVOR OF AIR by more than 70 potential POLLUTION.” customers either outside of North America, or outRYAN POPPLE side the transit-bus realm: CEO, Proterra garbage trucks, agricultural equipment, ferry boats—almost anything with a diesel engine. Says Popple: “The hard thing about investing is predicting the future. You seldom get that right. You take a position on the record, deploy capital, and make a bet. When you’re right, it’s really satisfying.” // S.A. Swanson is a business writer based in the Chicago area. She frequently covers technology.

G Going local

MIDDLE MARKET GROWTH // SUMMER 2017

Auto Aftermarket Readies for

Tech Advances BY TAM HARBERT

he automotive industry is on the cusp of a revolution. Hardly a day goes by without a headline about advanced driver assistance technology and fully autonomous vehicles—and in April electric vehicle maker Tesla overtook General Motors by market capitalization. With ride-sharing platforms like Uber and Lyft, the entire business model of the transportation industry is changing. For now, at least, all that technology is having limited impact on investments in the aftermarket, the segment of the sector encompassing parts and service that has attracted the bulk of private equity investment (see sidebar on page 28). “I actually can’t think of any sectors of the established vehicle aftermarket where PE is not playing or hasn’t recently,” says Joe Sparacino, managing director and head of the automotive aftermarket group at BB&T Capital Markets. “They are looking for stable cash flows with the potential for outsized growth—the aftermarket is a great place to invest for that very simple reason.” However, the recent news of technology advances and investments by large companies offer clues as to what might be in store for the aftermarket. These include telematics, advanced driver assistance systems (ADAS), autonomous vehicles and ride-sharing. As these technologies develop, observers are assessing the entire transportation industry rather than just the automotive sector.

middlemarketgrowth.org

MIDDLE MARKET GROWTH // SUMMER 2017

Joe Sparacino

Behzad Rassuli

Daron Gifford

“We think that transportation is being changed by these converging trends in ways that produce as big a shift in the human condition as what the internet and the electronification of communications has,” says Steven Karol, managing partner and founder of the Watermill Group, a private equity firm with investments in the space. The Auto Care Association, which represents independent parts manufacturers, distributors, repair shops, marketers and retailers, has also broadened its view. “The transportation grid is moving toward intelligent transport systems, and vehicle manufacturers are starting to refer to their cars as platforms with an emphasis on the connectivity of their vehicles to the grid through telematics,” says Behzad Rassuli, the association’s senior vice president of strategic development. In an attempt to view the future through an admittedly cloudy crystal ball, Middle Market Growth interviewed several industry watchers about how new technologies in transportation might affect the aftermarket over the next few years.

THE CONNECTED CAR Increasing connectivity in vehicles—both within the car itself as well as externally over the airwaves—can spell both opportunity and threat for the aftermarket. Adding Bluetooth capabilities to older vehicles is a common upgrade in order to enable hands-free calling, for example. But it’s also a simple one that most consumers can do themselves. For more sophisticated communications, aftermarket companies have emerged to add hardware to vehicles that send information to fleet operators on driving behavior, for example, or that track the vehicles’ locations. And new companies like Voyomotive have developed aftermarket products that tap into vehicle diagnostic information. Yet there is controversy over exactly who can access such data. By 2020, some 50 percent of new cars will be able to broadcast data directly to the manufacturer, which could cut out aftermarket repairs shops, Rassuli says. “The manufacturers think they should be the steward of that data, so they can direct you to their dealers

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for service,” he says. “But the access to that data is critical to the auto care industry.” The association is currently in talks with vehicle manufacturers to reach some kind of agreement similar to a memorandum of understanding they forged over access to computerized vehicle diagnostics code, he says.

ADVANCED DRIVER ASSISTANCE SYSTEMS Most new cars already take over some functions from the driver—such as automatic braking, lane-change warnings and rear-view cameras— to make transportation safer. But most of the 270 million cars on North American roads predated these features. (The average age of today’s car is 11.5 years.) That could stimulate an aftermarket for ADAS, says Daron Gifford, a partner specializing in the automotive sector at Plante Moran. “If the aftermarket can get systems that will plug in to the older cars for driver-assistance technologies, that’s a potentially big market,” he notes. “It would reduce repair and collision costs.” Or not. Usually, the cameras, sensors and other hardware that enable ADAS are on bumpers and side-view mirrors, the very areas that get damaged in an accident, according to a recent article in the Wall Street Journal. Repairs of such sophisticated equipment can cost more than five times those of conventional parts. The importance of ADAS technology was highlighted in March when Intel Corp. bought Mobileye, an Israeli startup that makes sensors and camera systems for cars, for $15 billion. While most of the attention focused on how the purchase could give Intel a piece of the autonomous vehicle market, Mobileye also has a significant aftermarket business, which made up 23 percent of its revenue in 2016. For existing vehicles, the company sells a $849 collision-avoidance system—a small box that mounts to the inside of a windshield. Its vision sensors detect road markings, pedestrians and street signs. The artificial intelligence software embedded in the device interprets what the sensors “see,” and audibly warns the driver if the vehicle has drifted out of

CMY

its lane or exceeded the posted speed limit, for example, according to Michael Backman, general manager for the company’s aftermarket in the U.S. and Canada. The company sells to commercial and governmental fleets, car importers and dealers, insurance companies and other potential bulk purchasers “as a way for them to monitor and analyze driver behavior, set premiums, reduce costs and otherwise prevent accidents,” according to the company’s annual report.

RECENT REPRESENTATIVE AUTOMOTIVE AFTERMARKET DEALS June 2016: Audax Private Equity sold Integrated Supply Network

SHARING THE RIDE

to Freeman Spogli & Co. ISN is an independent distributor of tools

As the phenomenon of ride-sharing—pioneered by Uber—has caught on with millennials, some predict it will lead to less car ownership, which in turn could shrink the aftermarket. But observers don’t seem worried yet. “The so-called mobility market has the potential to transform the way we utilize vehicles,” says Sparacino, “but it will still require that we utilize them.” The aftermarket may actually benefit because the number of miles driven per car may increase substantially, increasing wear and tear and requiring more frequent maintenance and repair. “When you pair that with the dynamic that it’s an urban trend—those miles are in stopand-go city terrains, I view it as a net positive for aftermarket,” Rassuli says. Gifford thinks ride-sharing might also prompt owners to spruce up interiors with things like better upholstery or even individual sound-systems or phone jacks. So for every possible threat, observers of the automotive aftermarket see a potential opportunity. One thing seems certain—the aftermarket will need investment to keep up with the technology. “Clearly the vehicles are going to be entering service bays with more complex systems and service demands,” Rassuli says. “To be able to meet those demands, the aftermarket needs talent, training and tools, all of which require capital.” //

and equipment sold into the aftermarket automotive repair industry. February 2017: Kinderhook Industries LLC announced the acquisition of Performance Motorsports International from Dover Corporation (NYSE: DOV) to form a new performance parts platform, Race Winning Brands. The new company will manufacture performance and racing pistons and related engine components for the automotive and power sports performance markets. March 2017: AP Emissions Technologies and Centric Parts announced an agreement to merge, forming a leading player in the undercar automotive aftermarket. Harvest Partners will provide equity capital, in partnership with Audax Private Equity. Source: Joe Sparacino, BB&T Capital Markets

DRIVERLESS VEHICLES There are seeds of an aftermarket as companies race to produce a viable autonomous vehicle. Last year, GM paid $1 billion for startup Cruise Automation, which was readying a product for the aftermarket. Although GM was expected to use the technology in its own autonomous vehicles, “I’m wondering whether they are exploring that for aftermarket as well,” Gifford says. Another startup, Comma.ai, announced last year that it would ship a $999 aftermarket kit,

but pulled out after it received a letter from the National Highway Traffic Safety Administration. The agency was concerned about the product’s safety. Finally, a company called Perrone Robotics sells an R&D development kit to add autonomous and remote control driving capabilities to vehicles. Regardless of whether autonomous vehicles gain favor any time soon, Rassuli doesn’t expect much of an impact on the aftermarket. “An autonomous vehicle replaces the driver, not the car,” he says, noting that most autonomous vehicles today are constructed just like regular cars and will continue needing the same regular maintenance and repair.

middlemarketgrowth.org

POLICY POINTS

New Administration, New Legislative Opportunities

KRISTEN MALINCONICO Director of Public Policy and Government Affairs, Grant Thornton, LLP

MORE ONLINE Find updates and insight on policy issues at middlemarketgrowth.org

middlemarketgrowth.org

he change in policy priorities brought about by a new administration presents both opportunities and challenges for the middle market. At the outset of 2017, President Donald Trump set an ambitious agenda for his first 200 days. The U.S. House of Representatives and Senate are crafting legislation to move his administration’s agenda forward. Major legislative priorities during this time period include healthcare reform, comprehensive tax reform, a rollback of regulations, the renegotiation of trade agreements and an infrastructure plan. Each issue will touch middle-market businesses. Middle-market firms, whether on their own or through membership in ACG, can play a role in educating members of Congress and advocating for policy priorities. ACG’s membership network has already engaged in outreach on Capitol Hill as part of ACG’s Public Policy Summit on Feb. 14. With the House Republican tax reform blueprint gaining momentum, participants in the Hill Day met with congressional staff in both the Senate and House to present ACG’s viewpoints on two key areas of tax reform: interest deductibility and carried interest. Participating teams worked seamlessly to tell the story of ACG, the middle market and insights on tax reform, using anecdotes to demonstrate the impact of potential policy decisions on real-life middle- market firms. Financial regulations that impact the middle market are also a ripe area

for change in the current Congress. During the previous 114th Congress, ACG championed H.R. 5424, the Investment Advisers Modernization Act, a bipartisan bill that would modernize outdated portions of the Investment Advisers Act and remove duplicative burdens in order to facilitate robust capital formation. We expect members of the current House of Representatives to reintroduce similar legislation in the 115th Congress. Congressional Caucus on Middle-Market Growth The Congressional Caucus on Middle-Market Growth was recently reauthorized for the 115th Congress. This bipartisan caucus is co-chaired by Reps. Steve Stivers (R-Ohio), Jared Polis (D-Colo.), Tom MacArthur (R-N.J.) and Kyrsten Sinema (D-Ariz.). Its purpose is to increase congressional understanding of the important contributions the middle market has made to the national economy and to raise awareness of critical issues affecting this sector. On March 30, the caucus held a congressional staff briefing on the impact of tax reform on the middle market. The luncheon event was organized by ACG and Grant Thornton LLP in collaboration with the staff offices of the caucus’s sponsors. Staffers attending the event learned about ACG’s role in supporting the middle market, received data demonstrating the middle market’s economic importance and explored the effect of tax reform

FIND YOUR

E ACG PAC Contributors on a midnight Capitol tour

IDEAL CANDIDATE WITHOUT SORTING THROUGH

on midsize companies. Mel Schwarz, a partner with Grant Thornton LLP, delved into the current status of tax reform efforts on Capitol Hill and highlighted the impact of rate changes on pass-through businesses such as S corporations, partnerships and sole proprietorships. Steven Bortnik, a partner with Pepper Hamilton LLP, described the impact of any change from the corporate interest deduction toward full expensing. During the course of 2017, the Caucus expects to conduct up to three additional staff briefings on topics affecting the middle market. //

HUNDREDS THAT AREN’T. DON’T MISS ACG Leadership Week and Public Policy Summit Sept. 26–28, 2017 St. Regis Hotel Washington, D.C. Check ACG.org for details and registration information!

POST YOUR JOB

Kristen Malinconico is director of

O P E N I N G T O D A Y.

public policy and government affairs for Grant Thornton. She can be reached at

MORE ONLINE

kristen.malinconico@us.gt.com.

For a recap of the Middle

JOBSOURCE.ACG.ORG

Market Caucus event in April, please visit

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MIDDLE MARKET GROWTH // SUMMER 2017

GROWTH ECONOMY

MICHIGAN // 1998â&#x20AC;&#x201C;2015 Michigan was one of the states hardest hit by the Great Recession, fueling statewide bankruptcies, foreclosures and the infamous auto bailout. Michigan has seen both sales and jobs growth driven by private-equity backed middle-market businesses, including a jobs growth rate nearly three and a half times that of other businesses in the state.

JOBS GROWTH % BY SEGMENT

SALES

0% 11.5% 18.4% 46.6% 23.4%

130.3%

SALES GROWTH % BY SEGMENT

SALES GROWTH IN PE-BACKED BUSINESSES

0.2% 52.1% 27.3%

GRAND RAPIDS

11.2%

20.1% 0.2%

DETROIT

SALES GROWTH IN ALL BUSINESSES

Small: Less than $10M in sales MM Seg 1: $10-50M in sales MM Seg 2: $50-100M in sales

2015 TOTAL CAPITAL INVESTED IN MICHIGAN:

$4.68 BILLION

MM Seg 3: $100M-1B in sales Large: More than $1B in sales

JOBS

GROWTH IN PE-BACKED BUSINESSES

GROWTH IN ALL BUSINESSES

JOBS CREATED BY PE-BACKED BUSINESSES

71.4%

4.6%

23,519

MORE ONLINE See the impact of middlemarket private equity on your state at GrowthEconomy.org.

All stats are from PitchBook and the Business Dynamics Research Consortium at the University of Wisconsin-Extension.

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PROCEED WITH CONFIDENCE

Whether you are raising capital and pursuing investments, managing a portfolio, or planning an exit, CLA is here for you, every step of the way.

WEALTH ADVISORY | OUTSOURCING | AUDIT, TAX, AND CONSULTING Investment advisory services are offered through CliftonLarsonAllen Wealth Advisors, LLC, an SEC-registered investment advisor. Â©2017 CliftonLarsonAllen LLP | 24-0118

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Long-term Investors: Amy Fields, Mike DeCola, Don Roberts and Ryan Supple

Photos by Ashley Gieseking

IN FOCUS HBM HOLDINGS

The Patient Investor HBM Holdings Is in for the Long Haul

ometimes, the most important thing a company needs from investors is patience. The typical private equity model doesn’t necessarily provide that. Often, a PE investor will acquire a company, improve it and then sell it at a profit in just three to five years. What if a company has a good business, but needs long-term investment to make it great? That was the case with Tru-Flex, a manufacturer of flexible exhaust products for trucks. The company had been purchased by a private equity firm in 2010. As the firm neared the end of its holding period, Tru-Flex needed more capital to grow and take advantage of lucrative opportunities. Because the fund wasn’t willing to invest more, it decided to sell early so that Tru-Flex could find a longer-term investor. It found one in HBM Holdings. The firm was created in 2012 to diversify the family trust of Mississippi Lime, a 110-year-old company that mines limestone and manufactures calcium-based products. The goal was to branch out beyond the mining and chemical sectors, says Mike DeCola, president and CEO of HBM Holdings. To that end, HBM is building a diversified portfolio, now numbering four companies that fit certain investment criteria. (See box on next page.)

Content Provided by ACG Partners and Featured Firms

NOT YOUR AVERAGE PRIVATE EQUITY FIRM HBM’s business model combines the financial strength and long-term insight of a strategic investor with the transactional capabilities of private equity. Rather than flip a portfolio company for profit in five years, the firm takes a “buy and build” approach enabled by existing cash resources. It looks for companies that fit its diversification model—those with an established management team but the need for additional capital or other resources to achieve long-term goals, says Don Roberts, HBM’s CFO and senior vice president of corporate development. It’s a refreshing, but sometimes challenging, approach in today’s competitive market. “There is a flood of funds that have funneled into middle-market PE firms,” notes DeCola. “Those firms compete for the best companies, pushing up multiples, seeking the best short-term returns for their investors. While that’s good for potential sellers in the short term, it’s not conducive to long-term growth,” he says. HBM works differently, reinvesting the excess operating cash flows from its portfolio back into the companies, explains Ryan Supple, the firm’s director of deal origination. “It’s a different mentality,” he says. “It’s really an operator’s mentality at heart, not a financial engineer’s mentality.”

MIDDLE MARKET GROWTH // SUMMER 2017

That approach was one of the major attractions of HBM as a buyer, says Gregg Notestine, CEO of Tru-Flex. “We knew that we were going to require a lot of cash for working capital, equipment and investment,” he says. “The fact that HBM had a lot longer time horizon was very critical to us as the management team.”

INVESTING FOR THE LONG TERM

E HBM focuses on manufacturing companies with a sustainable competitive advantage. Pictured here: A Tru-Flex plant in West Lebanon, Indiana.

HBM INVESTMENT CRITERIA HBM typically seeks a majority position in companies with these characteristics: ɋɋ EBITDA between $10 million and $25 million. ɋɋ Focuses on manufacturing in one of four areas: industrial equipment and components, energy equipment, chemicals and minerals and transportation equipment (excluding light auto). ɋɋ Occupies one of the top three positions in its market. ɋɋ Has a value between $500 million and $2 billion. ɋɋ Has sustainable competitive advantage driven by a proprietary product or differentiated business model. ɋɋ Has long-term growth potential driven by unique

One of the first things HBM does after an acquisition is to go through strategic planning with the company’s management, identifying its goals and determining the resources needed to attain them, DeCola says. The acquisition of Tru-Flex, which HBM bought in 2013, immediately enabled the company to make two major investments. First, a key customer needed a Tru-Flex factory in Europe so it could better serve its European truck business. With HBM’s help, Tru-Flex found a site in Poland and built a multi-million-dollar facility, which opened in 2015. Next, Tru-Flex had identified an emerging business opportunity: to create a division to serve the aftermarket for its products, enabling dealers to replace exhaust hoses after their warrantees expired. In 2015, Tru-Flex launched this new division. Tru-Flex also was able to act quickly to take advantage of unexpected opportunities. For example, it acquired a machine-tool shop that could offer Tru-Flex customers additional, complementary products and services. In addition, HBM invested in expanding Tru-Flex’s existing facilities in the United States. It purchased new manufacturing equipment, including a $3-million stamping press. HBM’s investment is essential for Tru-Flex’s fast growth in the near term, while also positioning it for long-term success, says Notestine. The company’s revenue has more than quadrupled to about $80 million since 2010; the workforce has grown to 350 from 80.

end-market fundamentals or specific, actionable opportunities identified by the company. ɋɋ Headquartered in North America.

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FOCUS ON HUMAN RESOURCES “Besides the cash, we needed help to develop our people,” Notestine says. “We just didn’t have the horsepower to do that.” HBM has helped the

Mike DeCola, president and CEO, HBM Holdings

company find and hire good staff and management, and establish a long-term human resources process to develop and retain talent. In addition, Tru-Flex now has access to associates from HBM’s Accelerated Development program, which grooms early career management talent (see sidebar). The attention to HR development is something that a typical PE firm doesn’t necessarily do, notes DeCola. “It’s one of the adjustments Gregg had to make after we acquired Tru-Flex,” he says. “Rather than wait until they needed people, we kept emphasizing that Tru-Flex should hire them now in preparation for the future.” HBM conducts global talent reviews with its portfolio companies twice each year, says Amy Fields, the firm’s vice president and chief human resources officer; it then provides help with leadership and management training. “We try to broaden the way they think about talent,” she says. “We encourage (management) to think proactively and creatively.” It’s all part and parcel of HBM’s patient and deliberative approach to investing in its portfolio companies. “The hope is that we can partner with these companies for a long time and really help them drive true and meaningful growth,” Supple says. “We want to invest not just capital but time into seeing the company develop its strategy over the course of decades, not just a couple of years.” //

A BULLPEN OF TALENT When HBM Holdings was formed in 2012, it wanted to be proactive in developing talent for itself and its portfolio companies. So it launched an accelerated development program, essentially a talent incubator that recruits MBA graduates into HBM and prepares them for business management jobs. “We’re a resource for our portfolio companies, to help them fill any gaps they may have in talent development or succession planning,” says Amy Fields, vice president and chief human resources officer at HBM. The program hires the graduates into HBM Holdings for two years, during which time they perform corporate development work, such as identifying possible portfolio acquisitions, and consulting work for existing portfolio companies. After two years, they are assigned to a portfolio company with the goal of ascending to the level of general manager or functional leader in five to seven years, says Fields. Following the successful launch of our first associate into Mississippi Lime, Tru-Flex has been the most recent beneficiary of the program. In October 2014, HBM placed its first associate into a quality management role at Tru-Flex. He then moved into a sales role and recently into managing Tru-Flex’s new aftermarket business. Tru-Flex recently brought in its second HBM associate. “These are talented people,” says Tru-Flex CEO Gregg Notestine. “They’ve already had some work experience, and they have their MBA. We’re able to put them in pretty high-level roles right when they come in to our business and they make an immediate impact.”

MIDDLE MARKET GROWTH // SUMMER 2017

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Partnership M&A Gets Complicated SOUND DECISIONS // New Rules Could Increase Audits, Shift Tax Responsibility

T Melissa Pozniak Tax Partner, BKD LLP

he Bipartisan Budget Act of 2015, which was signed into law in late 2015, modified partnership audit rules, affecting private equity funds and portfolio companies taxed as flow-through partnerships. The new rules, effective for tax years beginning on or after Jan. 1, 2018, are intended to allow the IRS to more easily audit and assess taxes against large entities taxed as partnerships. Therefore, an increase in partnership audits is expected. This article does not cover the intricacy of the new audit procedures, but rather gives a brief overview of how they affect M&As. The most significant effects are to make the partnership responsible for federal income taxes resulting from audit adjustments and to designate the partnership representative as the sole authority to act on behalf of the partnership with the IRS. Unless an alternative procedure is used, the partnership’s liability for federal income taxes may shift the tax burden to taxpayers who did not receive the benefit of the deductions. The new default procedures mean that the buyer of a partnership interest indirectly assumes any pre-acquisition income tax liabilities that may arise during an audit with respect to that interest. This change will complicate the sale of partnership equity in several ways. The buyer will likely need to conduct more due diligence on the partnership’s income tax reporting. And negotiating the contract provisions governing each party’s rights and obligations in the event of an audit will become more complicated. Buyers and sellers may want to investigate whether the partnership can choose to use alternative procedures and make sure they understand their rights to participate in audit proceedings.

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One gray area regarding the effect of these rules on M&A activity is who’s responsible for an audit adjustment that is made after an acquisition of the partnership equity. The act states that if the partnership ceases to exist, then the responsibility for audit adjustments reverts to the former partners. The act is unclear about the exact definition of “cease to exist.” Does that include a technical tax termination or when a partnership becomes a disregarded entity but continues to exist for state law? The act leaves open many other significant details about the new audit regime, although some guidance from the U.S. Treasury is likely later this year. And although the IRS won’t be conducting audits under these new rules for a few years, partnerships should think about them now. Because partnerships are able to elect into this new audit regime now, buyers of minority interests need to consider the potential implications. Once this new regime goes into effect, all partnerships should consider amending their partnership agreements to address these new rules. // Melissa Pozniak is a tax partner in BKD’s Louisville, Kentucky office. She works extensively with private equity funds and is involved with tax compliance, due diligence and planning.

MIDDLE MARKET GROWTH // SUMMER 2017

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Don’t Overlook HR in M&A Due Diligence SOUND DECISIONS // Reviewing HR Compliance Helps Buyers Avoid Costly Liabilities

W Nate Olsen Managing Director of Business Development, Insperity

hen an acquisition is on the table, financial complexities often push human resources concerns to the back burner. But a complete HR compliance review should be a critical component of due diligence. A transaction can be an expensive, and often risky, way to grow a business. Paying close attention to people practices improves the chances of success. One of the biggest mistakes companies make is to underestimate the importance of employment law compliance. A compliance review helps prepare for the challenges and practical realities of M&A transactions, particularly in light of new employer responsibilities concerning workplace violations. The consequences of failing to comply with employment law may be more than the business, or potential transaction, can bear. An HR compliance review assesses and analyzes a company’s HR practices and provides recommendations and a plan to address identified gaps. It should also highlight certain potential HR-related liabilities or systemic problems created by a lack of appropriate policies or failure to enforce them. A review can improve an organization’s compliance at any stage, and is an invaluable tool in an M&A situation. Workplace Compliance Requirements The Department of Labor has instituted an aggressive strategy that requires employers to “find and fix” violations and prove compliance with wage-and-hour, safety and related workplace laws before the DOL receives a complaint or launches an investigation. An acquisition target should comply with: ɋɋ Certain federal and state HR laws and regulations ɋɋ Existing policies, procedures and practices ɋɋ Fair Labor Standards Act wage and classification information

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ɋɋ Hiring and termination laws and guidelines ɋɋ Best practices for health benefit offerings ɋɋ Employee performance and development best practices A compliance review also typically scrutinizes employee handbooks; compensation practices; performance management practices; and health, safety and security processes. Employers typically follow three steps to ensure they comply with the law: ɋɋ Plan: They maintain a written plan to identify and remedy violations of workplace compliance laws as well as other risks to workers. ɋɋ Prevent: They monitor compliance performance to prevent violations of workplace laws and related risks/hazards. ɋɋ Protect: They ensure that their compliance action plan actually protects workers and their workplace rights. The Payoff Being proactive about spotting HR non-compliance before it becomes a serious problem during a merger can save countless headaches and protect the newly combined business from costly legal claims. Once a target company is compliant, buyers can take steps to build a strong defense against lawsuits that may result from the transaction. And management can focus on the financial and legal details of the deal, leaving HR free to work on aligning staff, cultures, policies and procedures. // Nate Olsen has nearly twenty years of experience in the professional employer organization industry. He provides leadership, guidance and alignment of Insperity’s business development function in the United States. For more information, please call 866-814-6817 or visit insperity.com/acg.

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Today’s CFO: Changing the Game Plan SOUND DECISIONS // Insights from a Recent CFO Survey

A Srikant Sastry National Managing Principal, Advisory Services, Grant Thornton LLP

s businesses evolve, the scope of the CFO’s role is expanding. CFOs now have to balance competing demands on their expertise, priorities and time, while often playing a transformational role in driving strategy for their business. These expanded responsibilities are creating a tension between financial and strategic roles. At the same time, this intensifies the need for more data to inform decision-making. In this light, Grant Thornton’s 2017 CFO Survey looked at how more than 400 senior financial executives see the current state and the future of their business in the areas of risk, technology, investment and strategy. The survey also focused on identifying the challenges these executives face in adopting efficient solutions in these four areas. Of the survey respondents, 93 percent represent the middle market (companies up to $1 billion) and 92 percent are CFOs. A range of industries were represented in the survey, with top respondents coming from manufacturing, nonprofit and financial services.

Elliot Findlay Principal, Transaction Services, Grant Thornton LLP

CFOs Contribute to Business Strategy Given their expanding duties, today’s CFOs increasingly must balance their role of strategist across the business with their traditional CFO role. They reported a high level of involvement in strategy/executive committee meetings, and said they spend over one third of their time as strategic advisers. This is supported by the fact that strategic planning ranks third as a priority for the finance department, outranked only by increasing cash flow and reducing costs. But for CFOs, investing in strategic planning is a trade-off that can reflect either a cost or an opportunity. For instance, many CFOs are getting involved with operating metrics—a step beyond the financial metrics they have traditionally used. Yet, whether this is an efficient use

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of their time or an imposition depends on the availability of analytical tools—such as analytics platforms—and on the CFO’s flexibility to do analytical “what-if” analyses. So, if strategic planning is a top priority, the finance function needs to invest in its people and in the technology necessary to support business processes, such as budgeting, forecasting and long-term planning. This planning effort is not only related to financial data, but also to the operational information that drives the business. It starts with defining key business metrics and then tying these metrics to how they affect or drive bottom-line performance. Graham Tasman, principal in Grant Thornton’s Business Consulting and Technology practice explains the current situation further: “Finding a solution to competing demands on the CFO presents an opportunity for innovation. The tension that the CFO is experiencing between priorities inside and outside of the finance function increases the need to streamline processes through technology, which, in turn, promotes more integration between finance, risk, treasury, and operations. Another improvement focus is to consider core versus non-core finance activities, leveraging shared services for non-core processes, while leveraging technology and data analytics for core activities that help focus limited resources on delivering the highest value for the business.” Looking for more insights? Grant Thornton’s 2017 CFO Survey features additional insights into what the future looks like for CFOs. // Srikant Sastry is the national managing principal of Advisory Services for Grant Thornton LLP. Elliot Findlay is a principal in the Transaction Services practice within the Midwest market territory for Grant Thornton LLP.

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The Cloud Helps Grease Auto Aftermarket MIDMARKET TRENDS // Private Networks Help Manage Cash Flow and Credit Risk

S Dave Lindeen Senior Vice President of Sales, Corcentric

uccess in today’s automotive aftermarket demands a true business partnership between distributors and suppliers. The challenge lies in providing parts to distributors through a seamless process that manages cash flow while reducing credit risk. Distributors need reliability and the assurance that they are getting consistent pricing. Suppliers need to be paid on time. The thousands of parts on the market—all with different pricing, specifications and regulatory requirements— provide a myriad of options. But the logistics are complicated. It is increasingly difficult to make the most informed decisions in a timely manner, as well as satisfy the required DPO (days payable outstanding) in the billing cycle. Increasingly, distributors and suppliers are discovering that a cloud-based private commerce platform integrated with an e-payments solution can transform billing and support services, especially when credit risk is assumed by a third-party provider. In addition, a private commerce network can enable thousands of unique connections between distributors’ and buyers’ enterprise-resource-planning and point-of-sale systems. Among the benefits are: ɋɋ Consistent nationwide pricing. ɋɋ Centralized payments. ɋɋ Reduced credit risk through credit and collections management. ɋɋ Robust reporting from dashboards that aggregate data. Once a business identifies an ideal system to manage parts pricing and specifications—and make payments within a consistent time frame— integration and implementation become the focus. Seamless integration is crucial. Customized solutions can include upfront expenses for features that may quickly outgrow their usefulness. But a software-as-a-service-based solution

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can scale as the business grows. The results reflect the cooperative nature of the platform. Suppliers are able to: ɋɋ Sell to new distributors. ɋɋ Improve customer retention. ɋɋ Re-engage previously inactive distributors or buying groups. Consistent and standardized payment terms reassure suppliers and third-party collections reduce their credit risk, which allows suppliers to focus on growing their business. In addition, executives get 100-percent visibility into their transactional data through sophisticated dashboards. With the aggregated data, executives can see exactly where their pain points are, explore effective methods for resolving those issues and identify where they could save costs. Business leaders have options to take their organizations to the next level. The most innovative solutions will transform transactions and connections into standardized and secure data. Besides increasing efficiency of the process, dramatically decreasing invoice disputes and ensuring timely payments, an integrated and automated solution provides year-over-year data by distributor and location. As a result, executives can identify trends and patterns, so they can better forecast sales, develop strategic marketing initiatives and assess inventory by distributor. At the same time, distributors achieve better cash flow and turnaround of invoices. The result for all players in the network is stronger partnerships and greater business growth. // Dave Lindeen is senior vice president of sales for Corcentric. He leads its strategic business planning, including sales, technology investments and systems improvements.

MIDDLE MARKET GROWTH // SUMMER 2017

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Unlocking the Global Market MIDMARKET TRENDS // Advanced Dealmaking Solutions Simplify Cross-Border Deals

A Richard A. Martin, Jr. Senior Director, Merrill Corp.

mid record-breaking M&A activity worldwide, a new trend is emerging. Companies are increasingly looking beyond national borders for opportunities to drive external growth. However, cross-border deals bring layers of complexity that present new barriers and risks. Companies and investors actively seeking cross-border growth opportunities can simplify complexity and overcome barriers by building a dealmaking platform centered on robust technological capabilities and supported by consultative expertise in the nuances of cross-border transactions. To understand just how difficult it can be to close any M&A deal successfully, consider that our current record-high M&A numbers are mirrored by unprecedented numbers of broken deals. Some estimates put the number of deals that fail to close as high as 50 to 80 percent of all M&A. Cross-border deals inherently add several levels of complexity to the M&A process. Aside from the obvious challenges, they require navigating the disparate tax and regulatory requirements of two nations—a challenge magnified by the U.S. government’s heightened focus on enforcing corporate tax and anti-trust policies. Finally, the volatility of respective global markets makes currency fluctuations—a constant variable in cross-border deals—an even larger concern as parties steer a deal to close. To fully capitalize on cross-border opportunities—and mitigate the risk and cost of failed deals—both buyers and sellers should look for a platform with the following features: ɋɋ Multilingual Functionality: Leading dealmaking solutions feature software with multilingual functionality and translation capabilities. This enables buyers and sellers to evaluate information and execute critical tasks in a familiar language.

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ɋɋ Round-the-Clock Support: This keeps deals moving in real time, reducing costs that can quickly add up when a deal drags on longer than expected. ɋɋ Consultative Expertise: From recognizing the particulars of corporate culture in a specific region to understanding who is driving the transaction (e.g., corporate executive, financial adviser, investment bank, etc.) and how they approach deals, a consultant with cultural expertise smooths interactions. ɋɋ Professional Services: Leading dealmaking platforms enable companies to outsource the handling of difficult multinational compliance requirements and other tedious tasks to experienced professional services teams with extensive understanding of international tax rules and regulations. ɋɋ Seamless Access and Visibility: The best dealmaking platforms deliver a virtual data room with robust security, accessibility and control functions. This mitigates the risk of surprises that can sink a deal, lead to materials disclosure litigation and impede post-integration success. ɋɋ Early Engagement: Top dealmaking platforms now offer early engagement without added cost, enabling an organization to collect and structure data for easy and secure sharing, and empowering them with the agility to instantly respond to opportunities. With the right strategy and tools in place, organizations have the ability to capture the best opportunity, streamline the transaction, mitigate risk and steer the deal to a successful longterm outcome. // Richard A. Martin, Jr. is a senior director at Merrill Corp., responsible for Merrill DataSite’s global marketing group.

MIDDLE MARKET GROWTH // SUMMER 2017

Sept. 6-7, 2017 | Grand Rapids, Michigan The ACG Great Lakes Capital Connection (GLCC) will take place this September at the Amway Grand Plaza Hotel in Grand Rapids, Michgan. The GLCC is a dynamic networking, deal-sourcing and educational event that attracts a virtual who's who of middle market M&A professionals from across the country. It is a collaborative effort of seven ACG Chapters from Western Michigan, Cincinnati, Cleveland, Columbus, Detroit, Indiana & Pittsburgh. Each year, this high-energy event brings together more than 1,000 investment bankers, buyers, sellers, lenders and middle market professionals for incredible deal-sourcing opportunities, networking and insights into the biggest trends in corporate growth, finance and exits.

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ACG Capital Connection

ACG DealSource provides a venue, allowing intermediaries and investment bankers the privacy they prefer for meetings.

An ACG Capital Connection table is a great way to facilitate dealflow with 1,000 M&A professionals, over 150 private equity providers and 60 investment banking firms.

This year’s ACG DealSource will take place from 1:00 5:00 p.m. on September 6. If you are an Investment Banker and would like to reserve a table please visit our website: acg-glcc.org/register.

This year’s ACG Capital Connection will take place from 9:30 a.m. - 12:30 p.m. on September 7. If you are a Private Equity Fund who is interested in participating in this year’s ACG Capital Connection please visit our website: acg-glcc.org/register.

For more information on registration, speakers, agenda, hotel & sponsorship opportunities please visit: acg-glcc.org. You can also contact our offices: (412) 228-5829 | admin@acg-glcc.org. We hope to see you in September!

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How to Drive an Automotive Deal MIDMARKET TRENDS // Bridging Differences in Dealership Accounting and PEFO Analysis

W Ben Redman Partner, Dixon Hughes Goodman LLP

Thomas England Senior Manager, Dixon Hughes Goodman LLP

ith an abundance of consolidation, the automotive space presents exciting opportunities. Given the rise in private equity/family office (PEFO) activity, we offer some guidelines from a dealership accounting perspective to help navigate the industry’s distinctive language when analyzing an investment opportunity. In particular, new investors should consider: Dealer Financial Statement (DFS). This is an operational guide that tells a story about each department. For example, if there are four different profit centers sharing common expenses, each must be analyzed independently. Manufacturer Guidance. Manufacturers supply accounting manuals that don’t always align with GAAP and may even nudge dealers to record deals in a prior year or month, often leading to differences when comparing them to audited or reviewed financial statements. Cash. PEFO investors often ask how much cash a dealership needs to run day-to-day operations. This can be difficult to concisely answer, given variables like contracts in transit collection, frequency of manufacturer incentive pay, floor-plan payoff terms, accounts-payable turnover, historical chargebacks, self-funded warranty products and other issues. Start by referring to the DFS, where required manufacturer financial covenants are typically stated on page one. Inventory Analysis. Analysis of new inventory should consider model year and product mix compared to the store’s current market. Used cars can be more straightforward. Nevertheless, keep in mind that dealers can make money through favorable trade-in value and could earn more than the vehicle’s worth in the deal’s entirety (selling the vehicle, finance and insurance add-ons, etc.). Floor-Plan Financing. In addition to observing interest rates, consider additional incentives

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paid, offsetting the floor-plan rate that are not recorded as a reduction of the interest paid. These can include cash management account balances that reduce the rate, as well as overall manufacturer relationships that help profitability. Manufacturer Incentives. Ask the following: Are incentives received on a recurring basis? Are they based on purchases, sales, customer satisfaction index scores or other requirements? When are they paid and recorded? If the dealer received facility assistance, how was it recorded? GAAP vs. Income Tax Basis. Accounting differences between GAAP and income tax basis treatment that are not apparent on the DFS, so inquire about the basis of accounting. Other Income. Other income can appear as a significantly larger line item than normally incurred. It could be a result of larger income pickups, non-operational one-time expenses, accumulation of miscellaneous items or something else. Understanding what these other numbers represent and attempting to recast them can be helpful. Beyond the Books. Assess relevant items outside of the financial records and ask what resides outside the DFS, such as additional remittances or related-party transactions. Whether you’re a seasoned investor or new to the automotive space, these items will help you to unite the accountant and investor mindset and complete a smooth transaction. // Ben Redman is a partner with Dixon Hughes Goodman LLP. As head of the firm’s transaction advisory practice, he specializes in complicated transactions for corporate and private equity clients in the middle market. Thomas England is a senior manager in charge of dealerships at Dixon Hughes Goodman LLP.

MIDDLE MARKET GROWTH // SUMMER 2017

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The Legal Andon: Tectonic Automotive Shift MIDMARKET TRENDS // Ride-sharing, Similar Technologies Are Transforming the Industry

B Robert A. Zinn, P.A. Partner, Duane Morris LLP

eginning around 1950, automobile manufacturing was revolutionized by a simple pull cord—in Japanese, the andon. As part of the Toyota Way manufacturing process, any worker could pull the andon and stop the entire assembly line if he spotted a problem or defect. Japanese companies understood that reacting quickly to problems paid off. A new kind of andon has been pulled, and it’s going to revolutionize the industry—again. It’s named Google. And Uber. And now BMW and Cadillac. The rise of ride-sharing services and autonomous vehicles is going to fundamentally change every aspect of the automobile business. Another metaphorical cord has been pulled—so what happens now? The rapid rise of ride-sharing and autonomous vehicles is transforming the car from something consumers proudly own to something they use to get from point A to point B. This is a gigantic cultural shift, powered by the internet and the changing tastes of the millennial generation. Buying, maintaining, parking and driving a car has been replaced by calling an Uber. Or, soon, a car that drives itself while you do other things. For dealerships, which are the engine (pun intended) of the automobile business, this is a tectonic shift. Some think it’s a fad, or an insignificant trend, and are betting on business as usual. Many industry experts believe these dealers should seriously consider selling their operations as quickly as possible: values will only decline. More forward-looking dealers understand that these new offerings will fundamentally change how they do business. Rather than selling a product, dealerships are going to become a kind of transportation brokerage, providing customers with custom transportation solutions that

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meet their tastes and needs without the commitment of actual ownership. For example, for a flat monthly fee, you can borrow and use three different vehicles during the month—an SUV for weekends, say, a sports car for the drive to Chicago and something else for running around town. The Book by Cadillac program is an example of this, as is BMW’s RideOn plan. Some dealers operate these programs independently, providing vehicles from a variety of brands, and include Uber and Lyft services in the mix. Waiting in the wings, of course, are programs like Google’s Waymo self-driving car project, which will deliver another massive change. For dealers who plan to pursue the current business model, and/or sell their operations, the challenges are the same as they’ve always been: taxation, succession planning and transactional law. For dealers shifting to the new model of monetizing their customer relationships through ride-sharing and other programs, the work is more strategic. The dealer develops a business plan, shops it to investors, and the advisers help execute, including protecting IP, managing risk and handling new forms of potential liability. No matter what, though, the andon has been pulled. The car business line isn’t moving. And when it restarts, something very different is going to start rolling off the other end. // Robert A. Zinn, P.A. is a seasoned transactional attorney with in-depth knowledge of all operational areas of the automotive industry. For many years, he owned and operated a Mazda dealership in South Florida.

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AC Lordi BDO Blank Rome LLP Boathouse Capital LP Boenning & Scattergood Citi Private Bank CohnReznick LLP EisnerAmper LLP Eureka Growth Capital Management Fairmount Partners G-Squared Partners, LLC Guardian Capital Partners Houlihan Lokey JM Search Kaplan Partners Klehr Harrison Harvey Branzburg Larsen MacColl Partners Mergermarket Mergers & Acquisitions Milestone Partners Mufson Howe Hunter & Co. Murray, Devine & Co., Inc. New Phase Advisory Services NewSpring Capital Phoenix Capital Resources PNC Business Credit RLS Associates Santander Bank Saul Ewing LLP Seigfried Advisory Stifel Stradley Ronon Univest Bank and Trust Co. Versa Capital Management LLC WIPFLi

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INTERGROWTH 2017 Earvin “Magic” Johnson, NBA legend and president of basketball operations for his former team, the L.A. Lakers, engaged the crowd during his keynote speech. He shared how he applied what he learned on the basketball court to his approach in business. F

G The Opening Reception and ACG Capital Connection® at InterGrowth 2017 brought together more than 2,000 middle-market professionals with over 800 capital providers and more than 700 investment banks and advisers in the middle market for an important strategic networking opportunity.

E Presented in partnership with Atlantix Partners, InterGrowth’s first-ever Women’s Networking Lunch and Panel was a sold-out event. The panel focused on expanding the role of women in private equity.

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H ACG KANSAS CITY Neil Miller, Kutak Rock; Jamie McAninch and Mike Shannon, Restless Spirits Distillery; Zach Strube, The PrivateBank; and Nicole Doyle, C3 Capital attended a launch for ACG Next Kansas City, for professionals and business leaders under 40 at Restless Spirits Distillery.

ACG ATLANTA G Over 1,200 professionals attended the 15th annual ACG Atlanta Capital Connection event Feb. 8 and 9 at the CNN Center.

ACG UK F ACG UK celebrated its fifth anniversary party on March 16 at the Churchill War Rooms in London. Pictured (from left to right) Titus Schurink, HPE Growth Capital, ACG Holland and ACG Global board member; Rebecca Guerin, RSM UK and past ACG UK Chair; Joe Bedford, Stevens & Bolton LLP and ACG UK board member.

H ACG CHARLOTTE The third Annual Charlotte Private Equity Review took place on Jan. 26 when 240Â attendees gathered at the Ritz Carlton Charlotte in conjunction with Lockton Heavy Hitters.

MIDDLE MARKET GROWTH // SUMMER 2017

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H ACG LOS ANGELES Over 41 ACG Los Angeles members met at the McCoy Mid-Mountain Lodge, part of Mammoth Resort, a private equity-owned company, for the second annual Mammoth Deals event in January. The chapter has seen 30 percent growth in attendance. According to Bill Webster, ACG L.A.’s CEO, “There is no better way to network with fellow ACG’ers than a 10-minute ride up a chairlift.”

ACG DETROIT F The 2nd Annual M&A All Star Awards were hosted at the Townsend Hotel on April 11 when more than 220 middle-market professionals and honored members of the community were brought together. ACG Detroit was honored for the second year in a row as ACG Chapter of the Year.

H ACG MINNESOTA On Feb. 28, ACG Minnesota recognized midsize companies and their deal teams at the Bold Awards. Pictured are the Innovative Office Solutions team, the Boldest of the Bold. Back row (L–R) Julie Owen, Steinar Engebretsen, Jason Player, Jennifer Smith, Max Smith, Barb Kusilek, Bridget Smith, Lauren Richards, John Townsend, Leah Halvorson. In front, Non-Profit Award winners from Banyan Community, Sue Riesgraf and Joani Essenburg.

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ACG MARYLAND F ACG Maryland Deal of the Year Awards were hosted on the waterfront in March at the Baltimore Museum of Industry. It was ACG Maryland’s 12th annual celebration highlighting M&A and deal activity to celebrate the middle market’s impact on the broader economy. Pictured is FEDATA, winner of ACG Maryland’s Deal of the Year Award (left to right): Jamie Beniot, Frank Derwin, Will Reybold, Martin Berkowitz, Corey Taiken, and Geoff Nattans, and David Collier of Chart Capital.

G ACG DALLAS The 4th Annual Women’s Luncheon hosted 175 women as part of the Texas ACG Capital Connection on March 29, featuring women in private equity. Pictured (left to right) are Kelly Harris, Astrid Soto, Gemma Descoteaux, Pippa Malmgren, Mark Champion, Rachel Ingerto, Natalie O’Hanna, Sara Roth and Suzanne Yoon.

E ACG SAN DIEGO ACG San Diego hosted its seventh annual Private Capital Expo, the longest–running forum on private capital for the middle market in the U.S., on March 23 at Marriott Del Mar. Chapter President Mike Jones of Higgs, Fletcher & Mack welcomed 125 attendees; with panelists: Craig Dupper, Solis Capital Partners; Jeremy Holland, The Riverside Group; Mark Nowak, TrueWest Partners; Brad Wiginton, Prudential Capital Group; Richard Friedman, Sheppard Mullin.

CONTACT Want to share news from your recent chapter event? Email us at editor@middlemarketgrowth.org

—Compiled by Hollie Merrick, ACG Global

MIDDLE MARKET GROWTH // SUMMER 2017

THE LADDER

STEVEN HUNTER has joined investment banking firm Croft & Bender as a managing director. With over 20 years of investment banking experience, Hunter will focus on sourcing transactions in the industrial, consumer and business services sectors. Previously, Hunter worked as a managing director with Greene Holcomb Fisher which was acquired by BMO Capital Markets in 2016.

Global law firm Mayer Brown announced that MAE ROGERS has joined the practice as a New York-based partner specializing in banking and finance. She will focus on leveraged finance and represent private equity funds. Previously with Kramer Levin Naftalis & Frankel, Rogers has represented lenders and borrowers in the consumer products, retail, energy, automotive, chemicals and real estate industries.

JAMES MCINTIRE, former Washington State treasurer and chairman of the Washington State Investment Board, joins investment firm Star Mountain Capital as a strategic investor and senior adviser. McIntire will be working with small businesses in the lower middle market to achieve high-risk adjusted returns, while supporting job creation and economic development. McIntire’s 40-year career has focused on job creation and retirement plans for public employees including teachers, firefighters, law enforcement and judges.

Investment bank GulfStar Group hired KEITH LEBLANC to lead the new healthcare practice in Houston. With over 30 years of healthcare experience, LeBlanc will focus on healthcare service companies, including placement of capital and sales to strategic or financial buyers. Previously, LeBlanc was the co-founder and CEO of Millennium Healthcare where he led a healthcare startup to grow urgent care and occupational health clinics.

Plante Moran announced two new leadership positions: MICHELE MCHALE will lead the private equity practice, while MATT PETRUCCI will head the transaction advisory services team. McHale’s group will help clients with mergers and acquisitions, as well as due diligence, business and strategic planning. Petrucci will lead a team assisting private equity and strategic buyers to validate investment opportunities.

PE firm Inverness Graham promoted ALIYA KHAYDAROVA to principal. Khaydarova joined the firm in 2008; she focuses on deals in manufacturing, technology and service companies. Previously, she worked as an investment banking associate at Mufson Howe Hunter. —Compiled by Hollie Merrick, ACG Global

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middlemarketgrowth.org

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NOVEMBER

2017

R E G I S T E R

H I LT O N

LONDON

T O D A Y

A N D

BANKSIDE

S A V E

LONDON,

£ 2 0 0 !

W W W . E U R O G R O W T H . O R G

# E U R O G R O W T H

IT’S THE SMALL THINGS

AUTOMOTIVE INDUSTRY TRENDS // Start your engines!

THIS INDUSTRY SNAPSHOT IS ON AUTO FOCUS

BRINGING UP THE REAR IN A GOOD WAY

Online sales of automotive parts and accessories

A requirement for mandatory rear cameras on all

to consumers are expected to become a $20

new cars in the U.S. by May of 2018 has put manu-

billion business by 2020 in North America and

facturers on notice. The federal government says

Europe—an estimated 9–10% penetration rate

this will go a long way toward reducing accidents.

within the overall aftermarket.

—IndustryWeek, Autotrader

—Frost and Sullivan

FUEL ECONOMY—WHAT A GAS!

THE ATTRACTION TO ALTERNATIVE FUELS IS ELECTRIC

By 2025, automaker fleets in Europe and the

The alternative fuel market, including electric

United States must average upward of 60 miles

vehicles, will reach $614 billion by 2022. The Asia-

per gallon, requiring the industry to make step-

Pacific region is continuing to corner this market,

change improvements, not incremental ones, to

especially China.

meet these standards.

—ACAPMag

—PwC Strategy

—Larry Guthrie, director, communications & marketing, ACG Global

SEPTEMBER

–

28,

2017

S T.

REGIS

HOTEL

WASHINGTON,

D.C.

ACG LEADERSHIP WEEK

R E G I S T R A T I O N

O P E N S

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