Newport Board Group Managing Director Michael Evans co-leads Newport’s practice in the San Francisco area. As a partner with Ernst & Young for over 30 years, Mike served the Real Estate and Construction industries and was also a senior partner for Quality and Risk Management. His experience with middle market entrepreneurs includes advising many small-medium clients in Silicon Valley.
Advice For Middle Market Companies
Q: Mike, what is an example of business "common wisdom," assumptions about what middle market companies should do - that in your experience are questionable?
A: It has long been a supposed truism that big companies that have economies of scale, operate efficiently and create a dominant brand will wipe out their smaller competitors. For example, it was long assumed that mega stores would wipe “Mom and Pop” businesses off the map. Instead, the recession of 2008, like earlier downturns, led many laid-off workers to create home-based businesses using a low-cost website to create and sell products and services. The Internet gives small companies that target a specialized niche much greater ability to reach customers and source manufacturers and raw materials. An explosion of new capital since 2008 has made it easier to get a loan. There are plenty of opportunities for smaller fish to thrive, because they are more nimble and adaptive than their larger competitors.
Technology and social media have created opportunities for smaller companies to compete with larger companies - but only if they maintain more intimate, consistent connection with their customers’ needs. The kind of automated email surveys of customer satisfaction with calls to a service center that big companies like to do are no substitute for human contact to understand customers’ service needs. Maintaining a disciplined focus on what differentiates your company is essential to competing successfully with larger firms.
Q: Crowd funding, i.e. raising capital for a project or a business from a lot of small investors, is gaining acceptance as a means for raising capital. Should middle market companies consider utilizing this technique?
A: Crowd funding is an exciting and potentially significant form of financing for new businesses and products, especially those that have a special appeal to investors that goes beyond just earning a profit. Products and services that “do good” (for example, by assisting the handicapped or bringing new business to disadvantaged areas) are good candidates for crowd funding. But it is too new and still subject to regulatory restrictions to be a viable source of significant capital for a small company. The SEC is currently considering how provisions for crowd funding that were part of the JOBS Act of 2012 will actually be implemented. Companies that provide a platform for this kind of funding (for example, Kickstarter.com) may progress form being a fad to becoming an accepted method of funding ventures and product development. But crowd sourcing will likely be a last alternative after entrepreneurs fail to raise capital through more traditional routes. The unfortunate reality is that crowd funding can be a way for unscrupulous people to defraud investors.
Q: So what financing sources should a small business look to today?
A: Capital is more available than ever to promising smaller private companies. SBA-backed lending has increased; bank capital requirements have been loosened to push cash into the economy; and interest rates will likely remain low through the 2014 elections. Also, the role of alternative lenders (factoring, credit unions and micro-lenders) has expanded. For larger middle market companies that are profitable and have the potential to grow rapidly if they get an infusion of capital, private equity can be an alternative, though it comes at a price (typically, loss of control).
Q: What are some of the risks that middle market companies face as they grow?
A: Any business may see its profitability level out when growth causes operating costs to rise faster than revenue. Infrastructure like accounting and support personnel require a “step change” in cost in advance of incremental revenue to pay for it. “No Man’s Land” is the phase of development that comes when the owner can no longer handle everything himself - but the business is not yet large enough to take advantage of economies of scale. So if you’re planning an expansion or introducing a new product, make sure you are well capitalized. As you grow, you are going to be competing with larger, better capitalized companies. Do you have a specific plan to beat them?
In the second part of this Q&A, Mike will address other key issues for emerging middle market companies.
About the Expert
As a partner with Ernst & Young, Mike developed, led and drove significant growth in a number of practices. Mike’s experience also includes work with middle market entrepreneurs in which he advised many small-medium clients in Silicon Valley on tax strategy and planning. Contact or learn more about Michael here.
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