Can someone explain Chenmark to me?
December 15, 2023
by a searcher in New York, NY, USA
I must just not have the details right (because they seem to be thoughtful people who are doing well), but I don't quite understand how Chenmark's (or any holding company with EtA sized investments) model works economically.
To have a holding company with numerous different investments, you need to hire someone to be the CEO of each individual company. And you have to pay that person. But An EtA deal might only have $1M of EBITDA, and after taxes, interest, debt principal repayments, and capex, there might only be a few hundred thousand left. So how is there enough money to pay that CEO and also provide decent cash to the holdco?
Also, it seems weird to have someone else be the CEO. If you're the entrepreneur, isn't that your job. It seems like if you do a holdco, you're just an investor and not really an operator?
Anyone have thoughts on this?
in Alpharetta, GA, USA
Like them I used to work on Wall Street before ETA and now I have a Holdco that has made 2 business acquisitions in the commercial cleaning space. While I am CEO of both I could afford to pay someone else to be CEO and the economics still work.
Here are some things that you may not be considering:
1 - like Chenmark my businesses are not located in high cost coastal enclaves so a little bit of cash flow goes a long way toward paying management and covering costs.
2 - I own service businesses and the CEO of a small service business doesn’t make mid six figures. Think more like $150,000-$200,000 for a strong CEO.
3 - service businesses require very little capex and, due to amortization of goodwill, tend to pay very little in taxes for the first 10 years (assuming the vast majority of the deal value is goodwill, which for a cap lite service business, it is)
4 - low acquisition multiples mean easy debt service. If you buy a $1mm EBITDA business for 3x (so $3mm EV) your debt service on a fully amortizing 10 year loan (assuming 20% cash equity) is going to be around $350,000 per year or 35% of cash flow. If you pay a CEO $200,000 + $350,000 in debt service + (pick a number) $50,000 in taxes + (pick another number) $100,000 in capex you are still generating $300,000 cash annually on your $600,000 equity investment (50% cash on cash return) not to mention the $175,000 of principal payment each year which also is equity creation.
Now if you do that 10x you have something that generates real value.
from Northwestern University in Milwaukee, WI, USA
I can't speak for them, but I imagine they are buying businesses that do have a fair amount of cash available to pay a CEO. Typically pay of the CEO would be included in EBITDA, anyway (unlike your example above), and a few hundred grand is more than enough to pay CEOs of the size businesses that Chenmark acquires.
The founders of Chenmark have been on a ton of podcasts. I would listen to those or check out the resources on their websites to better understand their holdco model.