Management Succession Strategies for Home Builders

The clock is ticking on a generation of home builders, but most of them don't see it. Buried in their businesses, they may not give long thought to retirement or their own mortality. But every builder, especially those past 50 years old, should be training a successor in the art and science of running the company. Having a successor in place not only makes retirement possible, it adds value to the firm today.

Nearsighted Vision

In the corporate world, ambitious executives know the key to climbing the management ladder is grooming a personal successor for the job they now hold. But most home builders don't see succession as an important element of their business plans. Why would they? They're already the big kahuna.

"Most builders start with a few employees and build larger companies over many years," notes California-based management consultant Steve McGee. "The human side of that expansion is always troublesome. Entrepreneurs are rarely enlightened managers. Dictatorial owners certainly find it hard to keep around anyone who might have the makings of a successor. After all, leaders lead; they don't just take orders. Grooming future leaders inside a company requires participatory management and decentralized control. How many builders have that kind of company?"

Many builders don't realize how overpowering their presence is within their companies until age forces them to consider retirement. Then they look around, and there's no one to take over. How deep is your bench? The further you want to get away from day-to-day management, the deeper your bench needs to be.

"Most builders who try to bring in someone to take over fail at it at least once," says Bob Piper, a principal of Dallas-based The Talon Group, a search firm that specializes in finding CEO successors in housing. "They seem to need someone to practice on before they get it right.

"There are big egos in this business," Piper says. "It's not going to work to walk in, throw somebody the keys to the models, and leave the next day for Bimini [Bahamas]. It takes time to find the right person, and the transition of management authority and responsibility works best if it happens gradually, over a period of months — perhaps even years.

Many builders have no idea how to answer the questions necessary to plan for succession, Piper says: "Will a son or daughter lead the company? Do you have a successor among current management? Or will you need to go outside the organization? How much involvement will the founder have after passing the CEO title to a successor?"

They don't think beyond the next land deal until the clock forces them, but by then, it may be too late. If you have no plan for management succession and no vision for what you want to do in retirement, get ready to die with your boots on.

A lot of builders now at retirement age envisioned selling their companies for big bucks to fund a life of leisure. That was realistic until last year, when crashing markets shot company valuations full of holes. Builders who want to retire right now are hanging around, waiting for a market more favorable to sell the company.

Will builders now in their 50s count on a favorable market 10 years from now, or find a better plan — one with multiple options?

Options Abound

The first step is to write a succession plan. Get down in black and white what your goals are and what the time frame is for transition.

Builders in their 50s still have time to put a succession plan in place, and that opens myriad alternatives beyond selling the company. "Even if you decide to sell, the company is worth more with somebody other than the founder in the leadership role," Piper says. "Nobody contemplating an acquisition wants the owner. They want a young, aggressive management team eager to use additional resources to grow the business."

It's probably a good idea to have a management consultant involved in the succession process. Industry mainstays such as Chuck Shinn, Scott Sedam, Doug Wilson and Steve McGee all do this work. But there are others who specialize in it, beyond the bounds of home building. Carlos Lowenberg Jr. of Austin, Texas-based Lowenberg Wealth Management Group has led succession planning and designed and installed executive reward and retention programs for builders, trade contractors and small manufacturing firms active in the housing industry for 17 years. The CEO says personal discovery is the first step for owners seeking a path into retirement. "They need to understand what they want," he cautions. "It makes no sense to plan on retiring if you don't know what that means.

"We do a discovery process first to see what possibilities may be available. What do the financials look like? What's the human capital like? How about intellectual capital — the things you know that others don't that keep the company strong? Will there be enough money to fund the principal's retirement without compromising the estate? Without planning, it could all disappear in taxes."

Lowenberg says most entrepreneurs are too valuable to their businesses for their own good. "If the business would fall apart without you, that's not good," he says. "You can benefit enormously by finding new people to do as much of what you do now as possible. Nobody wants to buy a company that can't make it without the founder.

"Many owners find that when they bring in a successor and get out of day-to-day management, the desire to retire goes away. We have clients who are now working 20 hours a week instead of 70. They're playing golf but making more money than ever. They're having so much fun they don't want to leave. We call it the 'no-exit exit.'"

Family Minefields

Consultants in succession planning always start with the family. Is there an heir apparent among the offspring? If so, what does that mean for other children, who usually have an ownership stake in the business and often work in it as well? Succession of a son or daughter to leadership often opens a Pandora's Box of estate planning and family relations issues.

"Any offspring who wants to run the company needs to buy it," says management consultant and Professional Builder columnist Scott Sedam of Northville, Mich.-based True North Development. "That way, the other offspring who don't want to run it get their money from the sale of the company. Successions within the family fail as often as those where an outsider is brought in," he says. "By the third generation, more family businesses are in trouble than are succeeding. Multi-generation successes like Shea Homes in California and History Maker Homes in Fort Worth, Texas, are the exception, not the rule."

Many baby boomers married and had children late in life. That sets up another phenomenon of the 2000s: Builders who have children who may want to run Dad's home building company someday but are not ready yet as the founder approaches retirement age. Such cases create another motivation for builders to hang onto ownership but bring in a new CEO to bridge the gap between Dad and the offspring. A CEO with talents that complement the owner's can add enormous value to the company and help Dad train the next generation of family leadership, developing a much stronger company.

Independent Board?

Many consultants favor creating an independent board of directors as a first step in transition. "For builders, letting go is the toughest thing they will ever do," says Piper. "Status quo is not a good objective. Any new leader is bound to change something. But it's hard for founders to accept changes brought in by someone else.

"I like the independent board. Outside members who are good business people, perhaps from a variety of industries, can buffer the founder's tendency to intrude in operations. They'll often counsel a chairman to stick to the big, strategic issues," Piper says. "Nose in, fingers out" is a good rule.

An independent board is a natural step toward a more professional management structure — an especially good idea for companies intent on growth, where new levels of management may be created and those where the successor will not be a family member. It's harder for family members to gang up on a new CEO with independent board members voting on critical issues.

Compensation and Equity

Most of the consultants we spoke to about succession come down in favor of an equity stake for a new CEO, whether hired from outside, promoted from within or a member of the family.

"It's hard to convince anyone this is a long-term commitment without significant equity transfer, over time, from the old guard to the new generation of leadership," says management consultant Doug Wilson of Newport Beach, Calif.-based Next Solutions.

"We've done successions without equity," says Piper. "But the most successful transitions seem to involve it.

"There are a lot of ways to skin a cat. You could use the book value of the company at transition, then compare that to book value at some future date, as a measure of the value added by the new CEO, who would get a percentage of that added value. That gives the person a sense of equity without actually doing it."

Bottom Line

If you're in your 50s, get moving. Allow at least five years to reach the target of full retirement, if that's the goal. Start by writing down what you want the company to look like in five years. What kind of person should the new leader be? Don't undervalue compatible vision and values.

Make sure you have a management information system that produces timely reports on the key metrics you use to measure how well the company is doing. An owner mentoring a successor needs to be able to see those metrics at least weekly to have confidence in gradually letting go of day-to-day management. Use a simple monitoring code, McGee says: "Red, you're in trouble. Yellow, you're OK. Green, you're in bonus territory."

Metrics may differ depending on the builder, product, market position and competition but ought to include progress reports showing how entitlements and development are moving; starts; completions; projected versus actual gross margins; traffic; sales; and customer satisfaction.

If you need to conduct a search for outside candidates for a successor, allow six to eight months, and don't rush it. Bringing a successor into your company is akin to adopting a child. "It takes time for both parties to find compatibility and trust," Piper says. "You have to hit that comfort zone."

CASE STUDIES

Succession to Growth—Frey & Son

Fort Myers, Fla., builder Barry Frey, 43, succeeded his father Bill, 72, as leader of their custom building business, Frey & Son, in the late 1990s. "Dad drifted away from day-to-day involvement as I took more responsibility," he says now.

But Bill Frey did not go quietly. Instead, he became involved in a production building company targeting first-time buyers — America's First Home — in Orlando, Fla., that soon consumed much of both men's time. The growth and broad reorganization of that company has the Freys now engaged in a second level of management succession to a professional management team entirely outside the family.

"The management team we brought in for America's First Home is really more a growth strategy than succession plan," Barry Frey says. "We decided to go to more of a corporate structure. I've never been involved in day-to-day operations of that firm. Dad got into it as an investor in 1999, but he started having issues with his partners, so I took an active role as managing partner in 2001. Then we bought out the other partners."

With guidance from management consultant and Professional Builder columnist Chuck Shinn, the Freys opened a division of America's First Home in the Southwest Florida market, then split the Orlando division in two. The three divisions were then placed under a new corporate management team led by President Ron Wilson. Shinn advised the Freys to create a corporate structure with a COO, CFO and vice presidents of human resources, purchasing, sales and production who would report to Wilson, Barry Frey says.

The Freys keep America's First Home (2006 revenues of $270 million from 1,096 closings) completely separate from the custom building business, but there's no question the tail is now wagging the dog. "I always thought entry-level builders made thin margins," Frey says, "but ours are as good as on custom houses. That was a real eye-opener."

Frey & Son peaked in 1995 with 24 homes for $32 million and last year dropped to 14 closings at an average price of $1.4 million. Meanwhile, Wilson has America's First Home poised for a growth spurt whenever the Florida market rebounds. "We haven't bought land for two years, but we're starting to look at deals again," he says. "The public builders are walking away from a lot of good ground."

Bill Frey, a former professor at Penn State University and the University of Massachusetts system, still accompanies Barry on trips to Orlando. It's enough to convince us that no builder can be trusted to stay retired.

A Family Affair—Bigelow Homes

Chicago builder Perry Bigelow, 66, is in the final stages of transferring leadership of Bigelow Homes (150 homes closed, $33 million in 2006 revenue) to his son Jamie, 41. He's also transferring ownership to Jamie and son-in-law Scott Bauer, who works in Bigelow's design and planning department. It's a textbook example of passing a housing firm to a second generation of management and ownership, but the formula might not work for builders who don't share Perry's religious convictions.

"I decided if it's alright with God, I'd like to die as close to penniless as I can," Perry Bigelow says. "Since Jamie is leading the company, he should have the greater ownership interest. We're not dividing it 50/50. Someone has to be in charge. Six years ago, we decided to get rid of our single company for liability reasons. We restructured into a series of limited liability companies, and set them up so I have 30 percent ownership, Jamie has 42 percent and Scott has 28 percent.

"But when I looked at my net worth, even though I was giving 50 percent of my income to Christian activities, I was still acquiring wealth," Bigelow says. "So in future LLCs, I'm cutting my ownership to 5 percent. Jamie has 57 percent and Scott 38 percent."

When Perry Bigelow confronted succession planning in the early 1990s, Jamie wasn't in the company and showed little interest in home building. He still has none of the technical expertise in design, community planning and energy efficiency that Perry, a professional engineer, turned into competitive advantages. But Jamie eventually created a career path by entering the company as a sales agent. "He was never given anything," Perry says. "He started at the bottom. He was very good at sales and mastered marketing. He's great with people, much better than me. He's a natural leader. He doesn't know everything about construction, but he's learning, and he's the best sales manager I've ever seen."

Jamie says it was important his father moved him into the presidency before he was ready for it. "Our relationship became stronger because I had to face the challenges of leadership. He became my mentor — helped me get through it."

Perry is thrilled to be out of operations management. "I get my jollies from community design, building systems technology and entrepreneurship. Jamie's better at running the company. And Scott Bauer has a skill set that's a perfect complement to Jamie's: He has design vision and technical expertise."

The Bigelows are working with consultant Scott Sedam on an ambitious program to process map their entire company. "We're documenting, as much as possible, what's in Perry's head," Sedam says. Jamie told Sedam: "I don't know what my dad knows. I need to learn."

Golden Search—McStain Neighborhoods

The gold standard for a successor search that went outside McStain Neighborhoods was set by Tom Hoyt, a Boulder, Colo.-based builder with an enviable reputation for community design and green building. "Part of the reason we decided to do a search was because of the company's mission," Hoyt, 65, says today. "We felt it was important to keep it in business."

Hoyt began looking for a successor in the mid-1990s. Neither his son nor daughter is active in the company. "There aren't a lot of blueprints for private company succession when no family members are interested in inheriting leadership. We had a diverse ownership base, with two major investors besides my wife, Caroline, and me." (Caroline, an architect, plays a significant role in McStain's design processes.)

Hoyt eventually decided to combine employee ownership — an ESOP that will top out between 46 percent and 49 percent ownership — with an outside search for a new leader, who needed to share the strong sense of values shared by McStain's employees. But his first move was to establish an independent board of directors. "I assumed the role of chairman as well as CEO," he recalls.

Hoyt spent eight months with headhunter Bob Piper on the search that led to Eric Wittenberg, who had worked mostly in California. "It takes a big investment of time, and you need to plan how the transition of authority will take place, as well as the gradual transfer of ownership."

Hoyt believes it's important for founders-turned-investors to have a role in setting strategy and how assets are deployed. His title is now mission advisor and one of the investors has taken over as chairman of the board. "He's converted from being my mentor on day-to-day to more of a strategic advisor," Wittenberg, 41, the company's president, says.

Hoyt says a successful management transition must include equity. "It's a huge motivator for keeping people. That's why Eric and the management team will progressively own more of the company," he says.

"We added the stock grants for senior executives, then recently showed Tom and Caroline what a total buy out would look like," Wittenberg says. "All of the original shareholders decided they want to keep a small stake because of their emotional attachment to the company. We have plans in place to ultimately buy out their interests from their estates."

Perhaps most important, Hoyt made sure they were aligned with a common set of values and sense of mission. Together, they almost seem like father and son.

McStain ended 2006 with 303 closings for $120 million in revenue, 18 percent below its business plan in a tough market. And 2007 is likely to see further declines, although Wittenberg expects 400 units and $160 million in revenue in 2008.