Creative Accounting - selling out
Creative companies rarely comply with standard business templates. Their working practices, pay scales and – yes even in these austere times – expense accounts, would give many a traditional finance manager an aneurism.
Assuming they are based in a tall building, the old cliché still holds true that, with creative agencies, the assets go up and down in the lift every day.
Which is why valuing them can be tricky – and buying them down right dangerous. But one organisation that is aiming to find order in this chaos is Pembridge Partners. The organisation, which has five partners and 20 associates, specialises in offering consultancy and raising finance for creative businesses.
Hugh Mason, one of their consultants, believes preparing a creative business for either a trade sale, or a flotation, can be a long hard process – one that may demand a wholesale change of culture.
“In the creative industries there is a glut of companies that get to a certain size, and grow no further. Most firms get to between the £1 and £2m turnover mark and seem to get stuck. In other sectors companies go beyond this into the high growth phase toward flotation.
“It makes me think, ‘what is holding them back? Do they want to grow? Are they simply comfortable being the size they are? And these are the sort of issues we are really looking into.”
Mason believes that what actually holds many companies back is their tendency to work in that business rather than on the business.
“A standard scenario is that a bunch of people get together to start an agency,” said Mason. “They have various talents. Some of them are good with clients. Some of them are good at the creative.
“Over time they get a raft of clients and projects come and go. What they learn to care about is the current projects and current clients because that is where their money comes from.
“But what they forget is the company. In fact the only time they think of the company is when something goes wrong or when the year end approaches.
“What they need is an awareness that the company – separate from the people who founded it, separate from its current client list – could have a value.
“And when I talk about value in a company, it is that value I am talking about.”
There is a tendency for many companies – who get through the difficult first two or three years – to simply fall into the comfortable rhythm of running a ‘lifestyle business.
“That is where the agency is run to service a kind of lifestyle,” he says. “I say that without criticism. There are some world-class, award-winning creative businesses which work in that space, but structurally, internally there are some real issues if those companies want to grow.”
Pembridge’s interests lie in those agencies which decided to leave their comfort zones and go for growth. And if that is the route they intend to follow, then they are unlikely to get much help from venture capitalists – because, well, they are different.
“In the creative industries, the venture capital aspect is virtually irrelevant,” says Mason. “There are not many services businesses that will ever do what VCs want them to, probably because if you want to double the revenue, then you have to do twice as much work in the service business. Revenue scales with the number of jobs you get so it won’t do what VCs need to achieve their return on investment.”
Instead – like a good Buddha – creative businesses first need to find the solutions within. “Those who own creative businesses,” says Mason, “have to remember that companies – and I mean companies in a technical sense – are simply a vehicle to do something.
“Often when people start up businesses, they find it very difficult to separate the company from themselves and they imagine that while there are all these things that they would like to do, they have to do them through this one vehicle.
“But they don’t. I currently run two businesses and I also set up a charity and those are all part of who I am. If you think about real life, you have different vehicles for different purposes.”
Just like having a sports car for impressing the ladies, and a van for moving furniture. Don’t try and put a wardrobe in your Porsche Boxer!
“It is very easy,” said Mason, “to think ‘I set up this agency ten years ago and I set it up the way I did, and now that I’m driving it, it’s giving me some of the things that I want to do.’ It’s such a big wrench to say ‘that vehicle is never going to give me what I want.’ But the moment that you can start separating yourself from the vehicle then, you as the owner, the director of the business, can start making this business available for investment or available to sell to its employees in a management buyout or making it available to sell to whoever wants to buy it.”
Mason blames the emotional attachment involved in the creative industries on the fact that it’s a people business. “It’s a psychological trick,” he says. “It’s so hard for creative businesses to make the separation between the people who founded the business and the business itself because it’s so hard to see what the business is. If you run a chip shop, you have a chip shop, as in there is fish, there’s the chip fryer and there’s you. It’s very obvious.
“Creative businesses are less tangible. So we shouldn’t beat ourselves up for having that challenge of separating ourselves from our businesses. But we need to if we’re going to think about the business independently. Another example would be, if it becomes appropriate in your ‘business’ life to take on debt to finance growth.
“However, you might be against debt in your personal life. But the bottom line is that it can be wrong to apply the same personal values that you have in your home life to your business life.
“A company is legally like a person and it has its own destiny and as soon as you can give it its own wings and let it fly, the better.”
Okay, you recognise your company as its own man, and are busily cultivating flight feathers. Exactly when does the like of Hasgrove come knocking on your door? Slow down says Mason. And besides, you may want to serve as the predator, as opposed to the prey!
He says there are five transitional phases companies tend to go through: Start-up, lifestyle, high growth, venture capital and PLC.
However, it is not always plain sailing; he claims that two years after a company has floated, what generally happens is all the creatives get pissed off and leave to set up a smaller business.
“It’s a cycle,” he says. “But to succeed you need to focus on what you’re trying to achieve and pace yourself sensibly to get there. It’s as simple as that.”
Surprisingly few company owners define that success purely in terms of hard cash.
“The human factor really dominates everything if you’re dealing with a 20 - 40 person business,” says Mason. “The first thing we do when working with a small company is to take the directors of the company away and ask ‘what do you want to achieve, not for the business, but for yourself?’
“The kind of thing we’d like to hear about is ‘I would like to send my kids to university and not worry about the fees in ten years’ or ‘I would like to take time off and write the book I’ve always wanted to write and know I’ll have enough money to do it’, or “I would like to go sailing round the world.’
“Surprisingly few will say ‘I want to make ten million quid.’ But often people find it quite hard to define those personal goals and often that’s a surprise when you think about it because they are radically different now to what they were when they set up five or ten years ago.”
But as well as not being able to define their goals, many creative businesses find it hard to discern what sort of business they are. To help categorise companies Pembridge has designed a chart – which plots companies through the growth cycle from minor to major.
It is published on this page and tells us that companies in the bottom left hand box are both small and unsophisticated in terms of corporate strategy. Their opposites are in the top right – which are companies with scale and a strategic corporate edge.
Explained Mason: “On the bottom row are folk who understand how to do what they do quite well, be it design, PR or advertising. But, in terms of strategically growing value in business, they don’t know what they’re doing. They are low on a commercial, streetwise maturity. Folks in the middle are learning and the folk at the top know their stuff.”
He believes that the creative industries are dominated by those in that bottom and middle left hand box.
“There is a kind of company, which I would call a hobbyist company where actually the work is far more important than actually being paid,” he says. “Those kinds of businesses don’t really scale above four or five people, they sometimes go bust because they forget to invoice people, but that’s not untypical of most start up creative companies.
“There’s another category start-up called clubs, which has around five to 20 people and the company will be the kind of place that is like a family, where everyone will remember everyone’s birthday, you would remember everyone’s second name as well as their first name and you all go out for dinner a few times a year together.
“Those kinds of shops can be the most fulfilling creative places to work, it can be a fantastic place to nurture new talent and it usually lacks any kind of process and structure internally that it needs to grow.
“You can’t take that kind of structure and double it in size, it just doesn’t work. In fact you can’t even make it one and a half time bigger than it is.”
That’s not to say ‘clubs’ are all bad. “It is a valid way to run a business,” says Mason “You can run an award-winning shop that way and have extremely happy staff. If your motivation is to build the kind of business that you always wanted to work in, then that might be exactly what you offer. But if you want to scale a business, you have to change gears completely, and change the company’s culture.”
But what about the old complaint that once the structure’s changed, all the magic has gone?
“Once you start becoming a mature business,” said Mason, “and asserting yourself, doing the kind of stuff that grown up businesses do, the culture does change. I remember working for a PR firm that went from 25 people to 65 and I remember the day that a little book appeared next to the fax machine where you were to write down which client you sent faxes to so that they could be billed back to the client.
“That was the example of process starting to appear. And I also remember when it was possible to remember people’s second names. That’s what happens when you take a company into that bracket. You might lose something in terms of culture but you gain something in terms of scalability.
“Our job at Pembridge is to help people jump between those brackets. The analogy I give to people is that when we help the company make that transition, it’s like when you sign up to the gym. A lot of people say ‘I want to be thin’, but most people who go to the gym don’t follow the fitness plan through. The same thing seems to apply to company fitness. It’s fine for us to help a company set itself some goals, but they need to be your goals, not ours.”