Industrial Private Equity with Thomas Davenport

In our web development work, we continue to encounter a lot of private equity activity in the industrial manufacturing sector. In this episode, I interview Thomas Davenport of Davenport Capital Management. Mr. Davenport generously answers my private equity 101 questions and helps us all see how things fit together.


Full Transcript

[Music] Welcome to the Solspace Podcast. Thanks for listening.

Mitchell: Hi everybody. Welcome back to the Solspace Podcast. This is Mitchell Kimbrough. My guest today is Thomas Davenport with Davenport Capital Management. Thomas and I met about a year ago when we were both in Detroit attending the Automate trade show. And I have a habit when I travel of finding a nice restaurant where I can get a good meal that's crowded that you can't get a table at. I like to go to the bar. Like sneak into the bar somewhere and have dinner right at the bar. Usually, you can strike up a conversation with someone and it's just my speed because it's either the person on the left or the person on the right.

It's not overwhelming, it's just my type of thing. And on my right that evening was Thomas Davenport, and Thomas is an investment banker. We had a good conversation where Thomas, you sort of unpacked the type of work that you do and the role that you have in the economy.

And I thought it was really fascinating to learn really what type of things an investment banker does, what M&A activity means, what private equity actually means. So, let's take a minute for you to tell me a little bit about your backstory, about your practice today, and how it evolved from where you started and that sort of thing.

Thomas: Gotcha. Gotcha. Well, thank you Mitch for having me on. So, to give you some background, so started like any good investment banker, started off in New York post-business school at a large bulge bracket bank. I covered industrials, which is a kind of a broad term for manufacturing distribution. There could be some technology components to go into that, but companies that make hard, tangible assets. And I picked industrials because I felt like these were businesses that I could understand. Like a little kid, I enjoyed touring the manufacturing facilities, seeing the robots at work, seeing the people at work, and seeing it all come together through a highly coordinated process from supply chain through manufacturing, through quality, to delivering an end product to a customer.

And I thought that that was really the core of the economy and the core of business activity, and found that very appealing. And so that's where I cut my teeth, was at a large scale New York Global Investment Bank. From there moved my way into a what we call a middle market bank.

These are firms that typically specialize in M&A mostly. A lot of times, they're very sell side-driven, so representing folks that have owned businesses for a while, first, second, third, sometimes fourth generation, and going through a M&A transaction to sell the business. Think real estate agent for complex business organizations.

So learn the dance of what is M&A. Learn, I'd say I learned the financing piece from the large bulge bracket and some M&A deals and some wild M&A things that, you know, if they had been done, they would be fully transformational to the business ecosystem. And I'd say I learned the blocking and tackling of M&A at the middle market.

You know, you're doing a lot more volume. The private equity had become all the rage. And so there was a, there was a ton of opportunities to get reps and learned that piece of the business. Probably four or five years into my career, which is a typical, I felt like I had done enough deals and had seen the process enough that I could go do it on my own.

And so decided to leave my perch at an investment bank and strike out on my own and see if I could deliver the same level and quality of advice to entrepreneurs, to families, to businesses that were meaningful from a personal wealth creation standpoint to most families or business owners, but may not garner the same amount of attention or care at a larger firm.

And so my thing was, if you could size it appropriately and charge the right thing for the advice and really deliver value for folks, you could replicate kind of the economic picture that you'd see at a middle market shop, and that that thesis proved to be correct. You know, got lucky and signed up my first client in 30 days and I was off to the races.

Over time that practice has gone from advisory, like I said, I still focus on industrials broadly, so that can include services, that can include technology, that can include manufacturing. But providing that service over time has become more of an interest in a pursuit of investing in these companies.

And so figuring out ways to wrangle capital or deploy my own capital into these businesses, and they get treated more like a long-term mandate from an advice standpoint. So, I'll sit on the board of directors and help steer and guide, may deploy into the company and work on a special project, or any and everything I can do to help supplement the management team's transformation process or execute our investment thesis. Leveraging my contacts from working at large institutions, CEOs and c-level executives that I've met along the way, bringing them into board of director positions or consulting positions.

And just thinking through how can we one, professionalize the business. Two, be smart about how we go to market. Three, how do we do other add-on acquisitions to create value? So, it's kind of the standard do you build it or do you buy it? And, and there are times where we've built it and there's times where we've bought it, and there's risk and challenges to both.

Obviously, buying's faster, but you gotta make sure that you're integrating cultures, you may be integrating two 50-year-old institutions that just may be at odds. So, part of your diligence process, part of your figuring out if these things hang together is not just the business case, but it's also the cultural case. That's how I spend my time now, which is mostly, I'd say of my 80 20, 80% is spent investing and helping businesses operationally. And the 20% is probably third-party client advisor or legacy clients that I've had for a while now that I step in and still help support their M&A activity.

Mitchell: You mentioned stepping in and helping a business professionalize. And you're, you also mentioned culture. And one of the reasons I was hoping to have you on the podcast to talk today was, I was mentioning in our sort of pre-call before hitting the record button here, quite a few of our clients are marketing directors.

Like that's the consistent theme, and they're marketing directors in these industrial manufacturing firms. And of our own client list, there's only one exception in our roster of clients in that space where they have not either recently undergone some sort of M&A event, or they're currently doing it, or it's on the horizon like it's imminent. And these marketing directors, it falls into their hands, it's in their lap to make sense of what the new brand is, to make sense of what the new messaging in it is. And in a lot of ways what the internal culture is going to now be communicated outwardly about. The fact that you stay involved and you invest your own time, not only money and client activity that you coordinate there, but you're engaging in altering the business, improving it, changing it. You must touch some of this, like you, you must have to grapple with questions of brand and messaging and position and so forth. I wonder if you could talk about that a little bit.

Is that something that you touch, or do you have other colleagues or professionals that you bring in to help with those questions?

Thomas: Yes, that is usually, you know, if there's a list of 10 things, that's top five. When we typically go into an organization is figure out what is the brand strategy for the business. You know, how has it been historically? How do we make it more cohesive going forward? Just recently acquired a business where we've got four different go-to-market brands.

And then we have an overarching parent company brand and figuring out kind of how, and they're all different ages, right? So, it'd be kind of the initial brand probably is what most people know the company to be, but now that we've got other services, we've kind of outgrown that legacy characterization and trying to figure out kinda what's the new marketing identity.

And so that goes down from your sales and marketing materials, refreshing your capability statement in your deck, flowing into kind of the website and your web presence, as well as just a general brand presence that you want to take to new clients to try to be comprehensive in your sales cycle. And so, yes, that is a very typical topic that we're addressing and seeking to address quickly so that we're integrated in our go-to-market.

Mitchell: And if it's top five, or if it's, if this marketing, branding, positioning question, resolving that, making sense of it, taking it seriously, if that's among the top five things that you're dealing with in an event like this, then you are also attaching money to it. You're investing, you're gonna invest more into, so, where do you look to structure that investment?

You mentioned website, of course, that's sort of an obvious one 'cause it's the hub of a lot of marketing activity. But where else do you look to believe that you can get a return on investment in that particular category of marketing, sales, branding, that sort of thing.

Thomas: So depending on scale of business and the nature of the purchase dynamics, you may also assign more personnel to it. So, you could think about hiring a marketing director. Most middle market companies that I've come across don't have someone totally directed to marketing.

Usually, it falls in the back of a head of business development or a sales professional. But, you know, tasking somebody that's truly creative and thinking about every detail in a marketing plan and how you present yourself to your customers and publicly, it may warrant the expense to make that investment just so that you get aligned and someone is tasked with doing that while you're doing all the other integration pieces that go along with acquiring a business, a new business.

Mitchell: I hear a lot of my clients talking about, as we're planning projects and writing proposals and getting ready for what's the next quarter looking like, what are we gonna do the next fiscal year? It often comes up that a project could be categorized as a capital expenditure as opposed to an operating expense. You're familiar with this language and you probably touch it quite a bit because you are investing in building an asset. Could you help laypersons out there who are not finance background people? Could you unpack what that means? What, what is that about?

Thomas: Yeah, so when you think about the nature of a CapEx investment versus something that's kind of operating in nature, so sits on your profit and loss statement versus your cash flow statement, the distinction is typically a one-time investment versus a recurring expense.

And so the ability to deploy CapEx dollars is usually around starting some type of initiative or funding equipment, or buying software, some type of investment in the infrastructure of the business. Whereas, you know, if you look at things that are more expense generated, it's personnel. It's maybe a, an ongoing and recurring service that you acquire. So those things tend to be more P&L expenses versus a CapEx investment.

Mitchell: Okay, good. That helps a lot. An example that I think is coming up for one of our clients is they're in the manufacturing space. We've built a second-generation website for them, and they are seeing some pressure from their customer base and also some opportunity to move more of the sales process onto the web. And the first step they're considering making is to integrate their, all of their sales activity takes place on Salesforce, integrate that into the website in the form of a customer portal. So, customers could log in, go to the website, see their order and process, see where it is in the factory. Is it on a pallet?

Like all that sort of status and have that sort of interactive touchpoint. That's a new build. Now it's an existing website, but we need to build that capability onto the existing website. It's non-trivial. It's, it's something pretty big, but it's not a huge job. It could be done on retainer, you know, on just our regular monthly retainer. But isn't that a case where it'd be a CapEx expense? And that would be, it would make sense for them to categorize it that way. And there's a write off of some kind, like there's tax benefits to this.

Thomas: So there is tax benefit to making CapEx investments into the business. I'd have to see the nature of it to kind of, and I'd get my accountant to review it and opine on that, but yeah, if you were buying a one-time investment in infrastructure, you can take that, put it on your balance sheet as an asset, and then you can depreciate that asset over time.

Depending on the, you know, the estimated useful life, you could call it five to 10 years of useful life. You could appreciate that asset and shelter your income.

Mitchell: Now I know what the language is, and I know why my clients, they kind of perk up when they see that there's that opportunity. And a lot of our work is building new capabilities that weren't there before. Which leads me into another question that's kind of hovering around some of the things you've said. Your practice is, and it says so on your LinkedIn bio, it's family is a key word for you. So that size of client and that set of problems is something that you have invested your practice in. We have several clients for whom the conversation about transitioning from baby boomer founder/owner to millennial kids who are taking over the business, or millennials of however they got involved in the business. Not normally an acquisition, but maybe they were on staff and now they're gonna be in a position to take over and take ownership and develop the business. We see this as a pattern and there's some pressure on these businesses to respond to what millennials need. Now, your family-oriented practice or the subset of it that fits that category, what do you see as far as this sort of generational transition?

How does that affect your work? How does that apply pressure in the market? Like what's going on there?

Thomas: So for us, well one, that transition is not that common. It's probably a minority of businesses that see themselves transitioning from baby boomer ownership to millennial ownership. And really for a handful of reasons, lifestyle differences between millennials and baby boomers and desires around being in an urban setting versus being in a rural setting. So, in the industrial landscape, many of these businesses are not on Madison Avenue, right? They're out in suburbs or exurbs, or could be out in a rural area depending on environmental needs, space needs to do your manufacturing. And so, a lot of times from a lifestyle perspective, the children that grew up benefiting from the business may not want to move out there and continue dad's legacy or mom's legacy in the business.

Then also the other piece is private equity has become a very attractive buyer and cash buyer for these businesses. So, there are ways where you've got wealth concentrated in an enterprise. You can, from a personal family standpoint, diversify your wealth, or at least get liquidity on this large asset and it allows you to kind of shore up your estate. Create a more robust asset allocation strategy. So, there's a lot of kind of just functional reasons as to why folks are selling their businesses as opposed to trying to transition that. And then you've got family dynamics where, which kid do you give it to, and maybe a couple of folks have interest, or depending on where people were in the birth order, they may just not be ready to take the reins, just because they don't have enough professional experience to credibly lead that organization. So, there's a lot of reasons why it's a lot cleaner and easier to kind of sell a business. And it's not a common occurrence where things get passed down through a family.

Mitchell: Okay. I'm glad they got that data point from you. There's sort of two sides to that equation, that conversation. There's the side of the family that owns this business asset and they are going to have some form of an exit in the form of a private equity acquisition. Then there's the other side, the private equity firm of which you're one, you engage in that activity increasingly more these days, I think you said. So, of course, the family gets a payout, but the private equity firm, what are you getting? You're getting a viable business that you believe you can develop more value in. And then what? What's the motivation on your side?

Thomas: So our motivation, from a personal perspective, we like to be the first kind of professionalized capital going into a business. So, we like to buy from owner operators or family-owned businesses, multi-generational opportunities, like to partner with existing management. So, what we're facilitating is a wealth transition for the family, but also a wealth creation opportunity for the professionals that remain with the business.

So, you may have a president of the business who's been running it for the last 15 years. They may have some equity. We would create incentives for them to kind of grow their position in the business as well as provide them the guidance and support and a new balance sheet to grow that business. So, they're sometimes in a life cycle of a business, family-owned businesses may have an incentive to run for cash and not think about growth significantly because that costs money. It's fraught with risk. There's execution risk associated with that versus if you've got a good set of clients. You've got strong margins, you can run that cash cow and it'll fund a lifestyle for a family, for professionals or staff that wants to grow a business and really professionalize the enterprise.

We create a conduit for that through our kind of economic incentives, as well as new capital coming into the business to help them think about growth opportunities. And there's a professionalization that goes along with that. We have kind of a whole playbook of here's the circumstances that make sense for us. Here are common situations that family-owned businesses find themselves in, and how do we help solve that problem.

Mitchell: So, from your side of the equation, is the goal ultimately some form of an exit in a time period, or are you looking to develop a base of business assets that are generating revenue in an ongoing manner? Like financially, what's your side of this?

Thomas: Yeah, I think we're kind of a mix we're I, I've partnered with institutional capital which has time constraints inherently, you know, the pension funds.

Mitchell: Pension funds, okay.

Thomas: They want their money back at some point, and so that shortens our whole period. If it's a deal that we can manage on our own and fund independently, in theory, we could manage that indefinitely. So, we've got some flexibility with regards to the mandate, it just depends on if it's us alone or if it's a larger deal I bring in some partners that have different stipulations around their capital.

Mitchell: Do you like a mix? Like do you like a mix of those sort of business relationships and financial arrangements?

Thomas: That's correct, yes.

Mitchell: A little diversification. The big questions I wanted to make sure that I asked, you were telling me before we started recording that, in the last year since we met, you had been sort of transitioning your ratio of your business activity to where you're more heavily on the private equity side where Davenport Capital Management is owning, acquiring businesses and owning them and doing this sort of professionalization activity. And you're doing fewer M&A events where you're consulting and helping put those deals together. In that version of your business prior to this year, how do you put deals together? Like how do you find, how do you, how do you see that there's a mix of two or three companies that could come together to create more value? Like how does that come about?

Thomas: Oftentimes, as a pure plan advisor, I'm putting my advisor hat on, I'm identifying a single asset or, you know, a single owner of assets to help them think about excel process. And then once we're engaged, what does that look like? We're helping them create their marketing materials. We're helping them think through the challenges in the business and how do we communicate those to the market so there's no surprises to buyers. We don't believe in hiding anything, but there are ways to kind of, you know, you think about your risk and you think about the things that mitigate risk, and being forthcoming with that to the market. Creating a list of buyers and viable suitors for the business and then stage-gating that so that there's some order to the market. You know, businesses don't just sell themselves and so you try to create kind of an ad hoc market in that business where there is time pressure, there are deliverables from the buyer to know that they're continued to buy into the process.

If they show me enough value bringing them to actually come see the assets, spend time with the management team, continue to vet, we put together a data room. Usually, we will work with legal counsel on the purchase agreement and have buyers’ kind of mark up a purchase agreement when they submit their bids so I have an idea of not only what they're gonna pay for the asset, but also the terms upon which they're going to acquire this asset, and if those are going to be satisfactory for my client. And then just helping manage and shepherd the due diligence process.

There's a whole army of accountants and IT professionals that do their own due diligence. There's insurance diligence, environmental diligence if it's manufacturing or they own a factory. So, there’s a number of professionals that need to be coordinated to assess this business on behalf of a buyer. And we stand in the gap for those sellers as they would go through that process.

Mitchell: I met someone recently who is a marketing director of a manufacturing firm. That firm had acquired three other businesses in a short amount of time, and my understanding was in the midst of that, obviously chaos for the people who are trying to manage the day-to-day functioning of the primary business, that there was a sense that there was a lot of good strategy behind that set of acquisitions where several companies came together with disparate offerings that now seem to make sense in some way. I would imagine it's more common in some of those transactions that you coordinate where it's a buyer seller, but is there some commonality with multiple parties being involved in merging some companies together? Like how does that landscape look?

Thomas: What you're talking about is a rollup strategy, and typically what it is, that's buyer-driven identifying targets and pulling those targets in over time. It's still the buyer/seller dance, they just may be doing it in rapid succession, or they could be doing it concurrently.

And to do that, you really just may have to make sure from a buyer standpoint that you can manage your diligence streams for each individual target. But there are private equity firms that have that, that model where they're just rapidly seeking to acquire as quickly as they can these different entities and then integrate them on the backend. But it's typically still a one-to-one dance, if you will.

Mitchell: Yeah, Okay. How many of these transactions will you do with your firm in a year? I mean, that's some indicator of size I would imagine, but how much can you do in a year's time?

Thomas: As an independent advisor, I could probably manage four to seven transactions a year. Assuming they probably won't all transact within that year, but at some point touching four to seven throughout the course of a year. 'Cause a typical M&A trade on the sell side takes six to nine months and can accelerate it or, you know, I've seen 'em take a couple of years, depending on extenuating circumstances. As a buyer, it's a lower number, probably three, two to three a year is a manageable, nice clip. More than that then we'd have to expand our platform and think about, you know, in our partnership scenarios, how much work we put on our partners versus our firm.

Mitchell: How do you find your clients, and or how do you find these target companies? I imagine of course a lot is networking, but how is the marketing and sales, as it were, aspect of your type of business? How does that take shape?

Thomas: It is. So, on the advisory side of the business, it is very much a networked marketing search. It's going to trade shows like Automate, it's spending time with other deal professionals, so lawyers, accountants. On occasion it's, I went to business school, so networking with my business school colleagues and leaning on some of their professional networks to find opportunities and put me in front of people.

And then bigger investment banks that don't want to do deals of a certain size, or they're overcommitted and just simply don't have the bandwidth and I've got the right industry expertise to help get comfortable. Those are always great referrals.

So it's kind of a mixed bag, but you're constantly, if you're not executing a deal, you're constantly in motion with like minds or folks that touch the deal ecosystem to find that next client.

Mitchell: Well, the way you've described your activity and the way you've described how, you know, your answers to the questions I was asking from the point of view of our primary client, that marketing director, manufacturing marketing director, it makes me think that, well Automate's fun. And there's a lot of robots to watch, but I need to go where private equity is, you know, I need to go where the people acquiring these businesses who are going to inject capital to build value. That's, that's a much more clear opportunity for my company's type of work, where we are building up capabilities on the web that previously existed in the real world, digitally transforming businesses. Now I have to figure out where those conferences are and find out how to get in there and ask decent questions.

Thomas: Sure.

Mitchell: It's not as easy if you go to a robotics conference and you're instantly curious, like you were saying in your early career, how you saw that the manufacturing space just held so much intrinsic interest to you. I feel the same way. The supply chain that is invisible to so many of us, that becomes visible when you start talking to these types of businesses and you see how they interact with others and how they buy and sell to one another, and stuff that you just never even touch. You never even have a concept that certain types of products exist and they get all integrated together. It's just endlessly fascinating at that level.

Thomas: Agreed.

Mitchell: But in your practice, that's not the sole part of your business. Like it's, you know, the industrial manufacturing space is enormous, but you do more than just that. So maybe you could draw a line or circle around your practice area so that the listeners and myself can understand that a little bit better.

Thomas: Yeah, so I would say, the backbone of it historically is what I would characterize as industrials. And that could be, so it could be services or that could be manufacturing, and so a lot of that's B2B, but some of it is business to consumer. So, there could be, you know, consumer products or branded products.

And so that's kind of our focus. I'd say broadly it's consumer and industrial, but typically there's gonna be some service element or some manufacturing element that's making that business click and generate revenue.

And so it's a broad thesis. It's a simplified thesis, but one that I've got a bunch of war stories that I can tell from those different clients, and a number of colleagues and folks I've met along the way that have been very senior level executives have led organizations in the space. And so they become, if nothing, less interesting cocktail companions for executives that we're marketing to through kind of trusted advisor as that relationship builds over time.

Mitchell: Okay. You're based in Atlanta, and I think you were talking about having recently acquired a South Carolina business. What is your sphere of influence? Like regionally, do you feel like you have a regional footprint or you know, what's your territory, as it were? Or is there such a thing for your type of work?

Thomas: You know, if the business is large enough, we'll travel. Typically, I am Midwest or southeast focused. Spend a lot of time in Chicago, kind of, you know, cut my teeth as an investment banker in Chicago. So, still look at a lot of opportunities and kind of that upper Midwest region. Atlanta is home and a burgeoning manufacturing basin for the country. And so, it's been a good bit of time down here as well sourcing opportunities, call it Texas to Virginia.

Mitchell: Okay. Any commonalities as far as the type of manufacturing activity you see in that region? Is there a focus on energy? Is there a focus on, I don't, you know, what's, what does, how does that break down? Or is there any, any sort of pattern?

Thomas: You know, starting to see more things in what is termed industrial technology, so technology appending to old economy businesses, that seems to be fairly interesting. And then, you know, if you look in the Midwest, it's a lot of plastics and packaging, some automotive, some heavy truck opportunities. And then the southeast is kind of developing their own automotive network. So, the tier one and tier two suppliers are fairly interesting. And then to your point about energy, you know, the battery companies and manufacturers, or the supply chain that supports that, that's become of interest as well.

Mitchell: Okay. I've become aware that in Southern California, not necessarily in the Bay Area where I live, but in Southern California, there's quite a manufacturing industry in the sense that there are these sort of family-shaped and sized firms that are working with one another buying and selling with one another. And I'm, I don't really have a handle yet on what the larger categories of that activity is, but I'm trying to get into that. Do you have any familiarity with that part of the country at all?

Thomas: Yeah, I sold a handful of businesses in I'd say Central Coast and southern California, particularly around healthcare. So many components that go into large healthcare machines, wiring cable, harnesses, that type of business.

Mitchell: I've seen that too. I've encountered several prospective clients who are in that sort of healthcare, medical device manufacturing space. So there seems to be activity there. Good.

Well, Thomas, you've been really generous with your time. You answered all my questions far better than I imagined. And I do have a handle on some things that I didn't before. I wanna thank you for coming on the podcast and giving me some of your time.

Thomas: Sure. Thank you for having me.

Mitchell: So, how can people find you? If someone's listening here and they think I need to talk to Thomas, how is the best way to reach you?

Thomas: I would say LinkedIn's probably the best way to reach me, or send me an email, it's just simply thomas@davenportcap.com.

Mitchell: Good. Alright. Thank you again, Thomas.

Thomas: Thank you. Take care.

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