Welcome to Think Big Buy Small, a podcast from Harvard Business School about entrepreneurship through acquisition. We're your hosts, Royce Yudkopf, and Rick Rubach. In today's episode, Rick and I host Jeff Homer, who is the CEO of Ensemble Performing Arts. Jeff, we're just delighted to have you here and follow your journey through search and building up a sizable business. I'm looking forward to our conversation. Likewise, thanks for having me. Maybe a good place to start, Jeff, is by asking if you would just tell us a little bit about where you grew up, what your family was like, your own family now, and a little bit about your professional career leading up to Ensemble. Sure. I grew up in Calgary, Canada, oldest of three kids. My dad was a lawyer who struck out on his own, and my mom was a special education teacher who early in my life ended up tutoring for herself. So I was the child of two professional services entrepreneurs. I moved to the United States to attend undergrad, I was Harvard Class of 13. I studied economics and at a school and went and worked for Bane Capital's Credit Fund, and then I spent a couple of years in New York City working for Reservoir Capital, which is a $5 billion AUM Middle Market Pipe Equity Shop. I'd liked working there. I hated living in New York City. I found my way out of New York by way of a family office opportunity in Denver, Colorado, which is where I live now. And it was while I was at the family office in Denver that I started my ETA journey. I actually did both for a significant period of time, which I know you tried to dissuade listeners from trying to do, but I had some success with it. I'm not married, and that's given me a lot of time to invest in building the business. I've spent a lot of the last six years traveling four out of five days. I think that might have been a difficult thing to do if my family situation had been otherwise. Do you have a dog? I do not. It would be a really unfortunate life for the dog. It's been a lot of time at a boarding arrangement. I see. Jeff, one of the things I found really interesting about your journey is, as I learned about your business, what I learned was that this began as a passion project for you. That is really, really love music. It's really interesting for Royce and I because we have a few of our classes in our MBA program where that is the topic of discussion. Do you really need to love your business or is it even good to love your business? Tell us a little bit about that piece. First of all, I do really value the fact that what I wake up every day to further is music and dance education for kids. I think it's something that has value to society in a way that I'm not sure that my prior professional financial services, occupations, advanced society, meaningfully, I do think that every business is more interesting once you get under the hood than it appears from the outside. One of my favorite things about the investing profession was exactly that, picking up a new business every day, trying to understand how it works, how it makes money. I really do think that there is value in loving what you do and being able to participate. I think so many times, searchers end up in services business where they're not the service provider. I do play in some of our performance opportunities and adult recitals and that sort of thing. It's fun to be able to participate in the business in that way. Give me a leg up and being relatable to the staff and teachers of the schools that we acquired in their early days. The thing that is, I think most unusual about my ETA journey is that it started as a side hustle. I had a day job working for a family office. It was a great seat and it was what I intended to hold for a long time. The reason I thought a music school was an attractive purchase for me was that it was a night's and weekends business. It's an after-school program. The business actually operated outside of market hours here in Colorado and it really seemed like something I could do alongside a day job. I'd come from the New York private equity world where balance expectations were such as they are. In Denver, I found myself with some time on my hands and apparently not enough hobbyist. I thought the music school would be an opportunity to get some operating experience to get out from behind the spreadsheet that I was sort of hidden behind in my public markets long-short equity role. I expected to make it an attractive financial return on my time but I imagined really enjoying the time I would spend at the school. And what instrument do you play? I'm a pianist by background and to be clear, like not an exceptional one, I play at a high school level, but definitely passively. I've taken a couple years of drum lessons but achieved much less progress on the instrument than might be evident and I was also in my high school in college choirs. I find it intriguing that not only you but most of your senior leadership also has a real tie to music. You have a professional drummer in your leadership team. You have lots of people that have passion for music. Is that part of what you recruit for or do they find you? We've absolutely selected for it. And one of the reasons why I think the performing arts were not overrun with searchers, I think there's a presumption that the performing arts are kind of a non-profit space and as a result, it doesn't attract the business world or the finance minded in quite the same way. Your local civic orchestra requires donations to continue to exist. It's not an going concern on the basis of its own revenue. These music schools, I think they're great businesses and sort of underappreciated because of that presumption that we and I made when I first thought about it. But I think absolutely it attracts not someone that's looking to get really rich and to earn a top dollar compensation but someone that's passionate about. That's the fact that we provide a valuable service to students and children. And could you give us an example where there's a decision that you made that you perhaps would not have made had you not had the passion for your business? That's a really interesting question. The most important moment of any ETA journey I think is that transition and introducing yourself to a new staff as the owner and getting buy in for your leadership and your vision for the business. And I think the fact that I was able to say to a teacher, I'm not a professional and I can't do what you do. But I understand the value of the product or service you're delivering. I've been the student in this classroom and music has enhanced my life. Absent that I would have been this Harvard private equity guy coming into an arts business and I think there would have been a lot of suspicion. And there was a base level of suspicion to read that. Because you were actually a Harvard trained private equity guy when you went in there. Correct. And I think my ability to defuse that is primarily driven by the fact that I could relate to these folks that have that background and at least share my own experience with it. Jeff, I'd like to go back to the moment where you were working at this family office and you bought a music school as a side hustle. Were you thinking about finding a way to be an entrepreneur or was this just ignited by this specific side hustle in an area that kind of interested you when you backed into being an entrepreneur? Yeah. So this is my second entrepreneurial venture at the tail end of my time in New York. It worked really hard at trying to stand up a shared savings, financing vehicle for energy efficiency projects. So like LED lighting retrofits and other things. I got really far down that path, including recruiting some technical co-founders and people that knew more about the operations with that than I did. I was going to be the finance guy in that platform. And I got the call for this family office gig that I thought was really interesting. And so I put a stake in it and I moved out to Colorado and I took the job instead. But I was really motivated by an entrepreneurial opportunity. And I feel this is common with many folks that choose ETA. I really wasn't a great employee. I didn't love working for other people. I was sort of consistently grading against management and leadership in a way that was maybe unbecoming of a 20-something early in one's career. And so I often spent a lot of time at my desk day dreaming about ways that I could own my time and bet on myself financially and otherwise. And ETA was much less well publicized. And I think the two of you are responsible for much of the success of that message changing over the last six or seven years where it's become so much more visible. But in 2018 it was sort of where I became aware of ETA as a concept. I was sort of thinking to myself, okay, so there are small businesses for sale. You can pay three, four, five times for most of them. And the starting thesis that I had was very naive, but it was basically to say that I really think that there is less correlation between price and quality at this size of the market, where in the public markets, in large cap private equity, a good business trades for two to three times the multiple of a poor business. In lower markets, it's just not the case. I mean, maybe there's maybe a great business trades for four times instead of three times, but the difference in price is not nearly a significant. And so my whole plan was to go out and start using the Broker Search channel to see a variety of different businesses that might be for sale and see if any peaked my interest intellectually, operationally, financially. One of the early opportunities that came across was a music school that was for sale. It just stood out to me right away. I just find this so intriguing. Would you have bought the music school if you anticipated not making any money out of the transaction? I put up six figures of my own money to buy the school. I had to have some expectation of return. Tell Rick in me what it is about the music school business that makes it a high quality business because that's clearly where you're pointing us. So when I was a kid, I took piano lessons and I had the same piano teacher for 11 years. The right away I'm thinking, hey, this is a really sticky, long-lived, custom relationship that's driven by a passionate student and their personal connection to a teacher that serves as their guide over their journey through music. And certainly not everyone sticks with it for
decade, but it didn't take a lot of digging to figure out that the average student life at the school was a couple of years. So month over month retention for the business was 95 to 97%. These are high value students. The customer lifting value is high. The revenue relationship with the parents is a monthly auto debit, so you pay on the first of the month every month, so there's a recurring revenue element that's very present. Most of the challenge that the business has is related to the fact that the operator or founder is an immensely talented teacher in most cases, but not someone that really cared about building a scalable business. So the person who started the business was a service provider and got out of providing that service in order to administer the business, but isn't especially good at administration. This first opportunity that I came across, it was largely a pen and paper business. Rick, here's your schedule for the week. Please place a check mark next to each student you see. We'll use our index finger to count up the check marks that are on the page and we'll cut you a check at the end of the week. That was a lot of how the business was administered. I'm thinking like there's got to be vertical SaaS software and scheduling and CRM and digital marketing and all these opportunities that are present, but underlying all that, I thought the business model was really attractive for the reasons I mentioned. Primarily because you think it's sticky. And there's data to support that. It is a very sticky, highly recurring, high lifetime value relationship with the customer. Does the success of the student impact the stickiness? Are there playing chopsticks for seven years? They're unlikely to continue, right? Yeah. I think as with anything, whether it's sport, whether it's music, whether it's dance, I think one of the things that fuels engagement is progress. Parents and kids want to see evidence of progress and progress begets more progress because it's motivating to continue to sit down and practice because you can see yourself making progress. I didn't mention it in my background, but I was a pretty competitive track and field athlete. What I liked about sport was not the enjoyment of pushing myself to the physical limit. It was the sense of tangible progress that I was able to see as I got faster as I progressed in the sport. Tell us a little bit about the journey of the company. You started with one music school in Denver, Colorado and you built it up. Would love to hear more about that. Sure. I bought the first school and my honest to goodness intention was that that would be a one of one. It would be a side project to be something I did in the nights and weekends alongside my day job. Having gotten into the business, I learned two things. One, I really enjoyed being out in the field and in the operator seat. I enjoyed that interaction with the real world and getting out from behind the spreadsheet. Some of the improvements we deployed in terms of the technology and the digital marketing elements were actually really impactful in moving the business forward in a relatively short amount of time. My conclusion from that was that there were probably many other schools out there that had this exact pattern of challenges and that they were really great at serving students in the classroom and didn't do a very good job of building a business around that. Having created this tech stack and solved this challenge once, it seemed intuitive to me that we could do that on a programmatic basis that we could go out and acquire other studios and put in place many of the same systems and processes we built for the first one. I think about four months later, which is a timeline that still sounds incredibly aggressive in retrospect. I closed on a second acquisition and it was in Las Vegas. Was this still a part time gig for you? Yes, I kept my day job through five schools. I know that you don't advise that. I spent about a year owning an increasing number of schools with increasing levels of friction with my day job and at a certain point I had to fess up to what I was doing. Jeff's example is an interesting one for us. It's rare to see a part time search work and that's of course because searching is a time-consuming activity and to have a shot at success, you need to source a lot of deals, you need to filter them, you need to talk to a lot of people. Most successful searchers say it's been a full-time job and so we just think the odds are reduced by doing this nights and weekends. It also takes a very special kind of job to allow you to search on the side. The kind of job where you have private spaces and private times to take phone calls from sellers or to leave your office and visit a seller, you really can't do that if you're in a job where a bunch of people are going to want to know where you are at any particular moment. Seems like Jeff cracked the code here for himself. What do you think? I also think the nature of his first couple acquisitions were really important. He's a musician. He understands this business so the due diligence tasks were probably less daunting to him than it would be to your eye who do not have that background. In addition, he self-financed it. A lot of the work that normally goes into an acquisition probably was less for him. I can imagine if you're buying a business that you know a lot about that you're interested in that is small and straightforward, it's a pretty easy business to buy on the side. That's a good distinction. I agree with that. That made this practical to do. Right. Whereas a broader search where you're not sure if you're going to buy a landscaper or a physician's practice, it's much harder to do that part. Agreed. Let's go back and see what our guests think about this issue. The second acquisition was in Vegas and it was out of state on purpose because it was a test of whether I could run one of these remotely and show up a couple of days a month. If that didn't work, the proof of concept would fail. Basically, that would be a negative test for this idea of is it roll up possible in this vertical? If we can't do it remotely, then it won't work and we won't pursue it. So I bought a small school in Las Vegas four months after the first one. I funded it, both 100% with equity and 100% out of my own pocket. It was a test to see whether this had legs. When it worked, I started to think a lot bigger about what was possible. I went out and raised typical self-funded equity from friends and co-workers. I got a bank involved that was not using the SBA program because the velocity of transactions we were envisioning was going to be too high for the SBA. We got regular way, commercial debt in place and with the existing schools as collateral, they were willing to lend us about two thirds of our purchase price on a go-forward basis. Then it sounds aggressive, but we went out and we bought a school a month for the next 36 months and ended 2022 with 40 music schools under our ownership. Wow. Congratulations. Jeff, so I'm imagining that pretty quick after you bought that for school you were thinking about, this could be a roll up. You're moving so fast and you've referenced that you had a short stint in private equity. I found that I really liked it. I thought that the industry presented an attractive level of fragmentation and also returns to scale where I felt that a larger platform would win in this space. I was recently listening to an episode from your back catalog where you were talking about roll ups and whether there's value in merely aggregate. You're reading my mind, right? That's very minute. As you know, my next question is going to be like, I get the fragmentation. That's keeping the price low. But where's the gain from the roll up? It's really that you're replacing an entrepreneur who again is wonderfully talented and is exactly the type of person you would want in the studio with your child and you're replacing them with a national scale back office. It is actually good at the functions they're actually responsible for performing in the business in terms of marketing being the biggest lever. The lifetime value LTV to customer opposition cost CAQ, the LTV to CAQ ratio in the business is very attractive and so are the incremental margins in the business. A music or dance school might have a four wall EBITDA margin of high teens low 20s, but the gross margin in the business is over 50. The incremental margins really high and so adding to the student base is really a creative and our ability to out market a music teacher, dance teacher is a relatively low bar to step over in terms of improving performance on a go for basis and then finance and accounting and payroll and tax and compliance are just things that we're going to do dramatically better than a solo printer was going to be doing it. The contention I would make to you about why roll ups in the lower market create value is that businesses exist on a continuum from jobs to purely passive financial assets like shares of public companies and there's a dividing line between things that are institutionally investable and things that are not. Lower market rule ups a lot of the value is just about moving things far enough along that continuum to where they become institutionally investable such that they supply demand for the equity changes meaningfully. I believe that we do add a lot of value in integrating and bringing these things together and putting them in the background, but even if we did not, I think there would still be a lot of diversification benefit in terms of that one school, you know, one key teacher or one key administrator there departure would be a significant event for the business in the context of owning 40 schools, it's not. And so there is a diversification of risk and a reduction in I think what is a rational cost of capital for that small firm. I think it's rational that that does create value. I think that makes a lot of sense, but let's dig into that a little bit more. So the back office stuff makes perfect sense to me, the compliance stuff, the financing stuff. That is a mostly fixed cost task and you can just amateurize it over more and more students and schools. That makes clear sense, but I wouldn't think that would be a big percentage of the cost structure, but maybe I'm wrong. The marketing piece is really intriguing. So do you rebrand the schools when you buy them?
We do not, and it's a really important part of our strategy. It's one that came to us accidentally because the first five schools we bought were not co-located, so we didn't change the names because there was no reason to. What we learned from that was two things. One, our sellers view that as being tangible evidence of our preservation of their legacy, and that's one of the things small business sellers care most about is how the business and their contributions to it will be treated and preserved post-closing. We've really found that to be valuable, and it's also not a consumer product in which bigger is perceived as being better. I think parents value the idea that this is a boutique local service and aren't looking for a MacMu-Zic or MacDance experiences. The illusion that this is still their beloved 25 years in the community local business is really valuable to us from a marketing perspective, and we can control, find, control, replace the name of the school in our phone script, in our digital marketing tactics, in bringing data to the table to target consumers and basically help with discovery. That's really what we're doing is we believe that these are fantastic places to come and learn music or dance. We're just helping consumers find them over other options that they might have in those communities. Okay, so what we do is we have marketing technology, which is at scale because we're rolling out in different locations, but what we're not doing is rebranding. We're not trying to create a national brand name. Think of it sort of like we run a couple of different agencies inside of Ensemble that serve our school. We run a marketing agency that is much better than the type of marketing agency a school would be able to afford on their own. We run a PEO, a professional employer organization that's much better than the PEO they'd be able to afford on their own. We're sort of productizing those shared services and rolling them out to the school, but part of the innovation, if you're willing to let me call it, such is actually spending any money on customer acquisition at all. Most of these schools are built on really strong word of mouth and the most common marketing budget for a school pre-acquisition is zero. Just getting to a level of understanding where we can have the thought process of the lifetime value of the customer is multiples of our customer acquisition costs and therefore we should spend an unlimited amount of money on acquiring customers until that gap starts to get closer together. Thought press doesn't exist for many of the entrepreneurs that we're buying from and so we're just able to improve capacity utilization in the school through that change. And are you changing what the teachers do in their studios when they're with the students? No, we think that diversity among our teacher population and methods is really beneficial to our students. One of the roles that the front desk of a music or dance school plays is helping the student get to the right classroom environment for what their goals and what their personality traits are and finding a really great match between a student and teacher. The likelihood of that is enhanced if the teachers are different from one another. There's more options available to the student if there's diversity there. You don't roll out a common curriculum. We have curricular options that are available but we don't mandate them. I see. Okay. So pretty much what happens inside the studio is unchanged upon acquisition but what happens is the back office changes and the marketing changes. Is that am I oversimplifying or no, my goal is that the student is blissfully unaware that there's a change of ownership that's taking place. So they should walk in. They see the same sign on the door. They see the same person at the front desk. Their lessons with the same teacher and everything looks and feels the same to the consumer. But behind the scenes, we've done an extensive amount of consolidation and the staff feels like they work for ensemble. Do the teachers feel like they work for ensemble? Do they feel like they still work for the local company? They get what I view as being the best of both. They get the local studio feel but they get things like benefits that were not previously available to them as an employee of a small local business. We're offering things like a 401k to every employee whether you work one hour or 40 hours a week with us which is not something that's common in the gig work paradigm that many of our teachers find themselves in. Most of our teachers don't work full time. They do a couple of other things to make ends meet. Most of those things don't offer benefits. The fact that we offer health benefits starting at 30 hours and have the 401k and are able to use our marketing muscle to fill their schedule and ensure that they make the most productive use of the time that they allocate to the school in terms of serving students. Those are the benefits that we offer from the ensemble side. Then they get the wonderful local community that they have chosen to be part of for many years, pre-acquisition and hopefully many years post-acquisition as well. And they're getting to do what they love, which is play music, teach music, interact with young people and get them enthusiastic about the thing they're enthusiastic about. Whereas billing, not so much chasing down bad debt, processing credit card payments, not as much fun as playing the trombone really. Show up and do what you love. That's exactly our pitch. Royce, one of the things I find so interesting about roll-ups generally is sometimes they roll up and build a national brand and other times they roll up and hide the national brand. And we've seen really good examples of both. We've seen, for example, Craig McCaw rolling up cellular service into McCaw cellular, one of the greatest roll-ups of all time. He was very much trying to build a national footprint with a single brand because that was important to have no roaming charges and a lot. And then we've seen funeral home roll-ups that try very hard to keep that acquisition secret so that people imagine they're always dealing with their neighborhood funeral home even though it's owned by a multi-billion dollar international company. So it's interesting. What do you think some choose to brand and some choose not to brand? An essential dividing point is if the customer gets value from the fact that the company has locations all over the country. Craig McCaw, they're not only getting service in their home city but when they fly to Chicago, they're getting service again. Uniting that under one brand with one brand promise is really meaningful to the customer. In the funeral business, of course, that's not the case. Some only die once, as they say. I'll leave die once. You owe. Exactly. You owe. So one division is that. Is it obvious that the customer gets a benefit from the same brand promise everywhere or is it not? What's so interesting about your question is that when you go down the path of the customer doesn't derive benefit from that, you still see roll-up executors dividing off that issue. In other words, their businesses that are intensely local and summary branded and some are not. We're still left with this question. Yeah. It's like I get that I want to roam on my cell phone service. I get that when I go to a restaurant that's franchise, that there's a consistent quality in the restaurant. But I don't get that if I'm going to go to my local veterinary practice in Boston, that I care what the veterinary practice is like in Pittsburgh. Who owns that? Why would I care? I associate the delivery of service with a particular veterinarian than the national branding is neutral. But I think what the branding is trying to do is transfer the customer from the individual vet to the practice. That sounds right. That you're trying to fill the customer with a sense of confidence in the practice to protect against the retirement or the departure of the individual veterinarian. But that would again seem to be something very local. I scratch my head on it. I don't quite understand the rebranding of inherently local businesses. I get that a sort of nationwide business where customers buy nationwide, there's value in that. For example, you see it's a lot in B2B businesses. There's a company called Will Scott that is a roller up business of mobile storage units and they acquire mobile storage companies across the country and they have a bunch of regional and national customers. The single customer may be renting in multiple markets. But the decision on music schools versus veterinarians, I don't know why they go one way and that the other. It's a puzzler. It may be that it either doesn't matter or that we don't really know yet that there's no one right answer. There could be no one right answer for really two reasons. One is that it doesn't create a lot of value or destroy a lot of value. Or it could be that there's pluses and minuses and the dust just has to settle. I think it's fair to say that in our experience, it is more common that local businesses have their name kept than translated to an acquisition. Royce, let's get back to the conversation. So Jeff, you had said you started out with brokered searches. I'm imagining that evolved as you accumulated 5, 10, 15 schools. Talked us a little bit about sourcing. Sure. Today sourcing is one of the existential challenges and activities that the business undertakes. So our first five acquisitions were through a brokered channel. So there was an existing brokered involved. Someone was actively motivated to sell. Five was sort of enough where the flywheel started to turn where we started to get some inbound referrals. Someone that had sold to us would get on their Facebook and they would say, "You know, I'm so happy to announce that I've sold my studio and I'm retired and I'm moving to Florida." Many of their friends and peers are people that own music schools and they would say, "Oh, my goodness, who did you sell to?" "Can you put me in touch?" And so we started to get some inbounds for music and dance studio entrepreneurs. There are coaching groups. There are accounting and professional services firms that serve this industry primarily. And so we started to integrate ourselves.
with some of those service providers and congregation points such that we started to develop a decent amount of inbound funnel. We did outbound sourcing in two steps. We first retained a biceye broker who did some of this work for us and then we brought that in-house about a year later. And today there's three people at Ensemble who all they do is upbound sourcing to achieve the type of velocity that we have. We're up to 75 schools owned and operated now and our target rate of acquisition is one to two a month. So there's a big sourcing engine that's needed to power that. Our proprietary outreach was really driven around credibility. We're going out and saying, "Hey, we are a large operator in the space. We grew up in music and dance schools just like yours. We know what this business is about. What we offer is stewardship first and foremost. So we will preserve and protect your relationships with your students and with your teachers, you won't be seen as having sold out or put them in a negative position post sale. We'll pay you a fair price for the business and you'll be able to come back some years in the future and see the business that you build sort of largely intact." And one of the things that's a corollary of the attractive stickiness of the customer is that in a music school or dance school, every student is a regular. And so the student owner really cares about what's going to happen to them. I view credibility as being point number one and price as being point number two from a seller's perspective when we're pitching what we're doing. Today we run a full-fledged B2B sourcing operation ranging from outbound emails and cool calls to content marketing. We have a podcast. We speak at industry events. If there's a way of getting in front of a studio owner, we're out there trying it. Could you speak to us a little more personally about how your job has changed? What was it like when you were operating one or two schools? You're up to 75 schools now. What is the difference in the job of the CEO of your job then and now? It's a really interesting question and one that I think should guide more searchers thought process around what size of business they're looking to acquire because the CEO job for a $5 million revenue business versus a $50 million revenue business is vastly different. In the early days, other than customer service where we had great front desk people that were the primary point of contact for parents and scheduling and phone calls, I was really doing everything. I processed payments, I processed payroll, I set up the marketing campaigns, I set up the website. I was part of the selection process and implementation team for the CRM and scheduling software and all the improvements we talked about. I personally did all those things. I think it gave me a really good understanding of how the business works at a unit level that I think still serves me today as an indirectly responsible for managing 70 plus of these. You go from being a key individual contribute in the business to being a little bit of a player coach and at some point you end up being more of a coach than a player I've been through that process. The intermediate phase for me was I was really wearing three hats for a period of time. I was a regional manager in the business. We have seven regional managers in our business today. I was the head of M&A. Today we proudly employ one of your former HBS students in that capacity and then I sit in the CEO seat and thinking about right person, right seat, mediating and motivating a team towards an objective setting strategy and then also being responsible for capital allocation. Those are the things that I think of as being key parts of my job today, especially capital allocation being especially important given that we are putting a lot of it out the door for M&A. Today we employ something like 1600 people. Being CEO of that business is very different than the one I started with. I think this is also usually one of the most challenging parts of the journey for researchers whose background is finance, right? So I was a deal guy. I was interested in this because it looked great in Excel. Now I've spent the last six years having to manage people and continually sell and haven't had my original Excel model out in a long time. I guess it's sort of how I would frame that that it's really been about operating and not so much about the initial underwriting. And sort of aligning different people around the vision for Ensemble. Yeah, yeah. And having to recruit leadership is sales, right? It's about selling someone about why joining forces, whether they're a customer employee, senior leader or seller of a business, why joining forces is going to be in their interest in addition to in your interest. Jeff, what's next for the company? What do you see ahead for Ensemble? We're really passionate about expanding our footprint in 2023. We looked at what we had built in music and said, you know, I bet that that would be applicable to an ANT studio for many of the same reasons. They face many of the same challenges. We recruited some folks that were going to be credible in dance because I'm certainly not. We've built a really exciting practice around that. We're starting to vertically integrate a RANDR ecosystem a little bit. So we own some things that are not schools, but are useful to our students in the context of their lesson experience. We've made some investments in a software platform that we can use to manage our schools in a curricular product that we think is really attractive to some of our teachers in a coaching business in a performing opportunity competition business. And for me personally, I'm really enjoying running the business and I'm still spending the overwhelming majority of my time doing that, but I've also started to invest in other search deals and in particular in consolidation strategies because people look at my background and say, oh, if I was pursuing a consolidation, maybe that would be a value add background to have on my board or as an investor. And so I've sort of scratched that investor itch to look at new and exciting businesses through the search in the ETA investing world. That sounds like a great evolution in the last couple of years. A number of our former students have gone off to do rollups in youth enrichment programs of which music and dancer one of many categories in that. Have you started to see more rollup competition today than you did three, four, five years ago? Certainly a little bit more. And I view that as actually being a positive. My view is that mature consolidating industries end up with two levels of consolidators. Folks that buy onesies and twosies and package them into tens and twenties and then there are larger groups that buy tens and twenties. It would be delightful to do a larger transaction and buy 10 schools at a time. The first 75 we bought one at a time. And so I think that this actually represents a really positive development for ensemble and one that we hope will help us continue to grow at an accelerating rate. I could go buy ones at three times, but I would be glad to pay six times for 10 of them. And I do see value in someone having that network for me. So I'm actually putting my money where my mouth is on that. I would imagine as the velocity of acquisitions increases the complexity of financing increases. I'm guessing you're not funding them all out of cash flow. Correct. We have funded the parent company which I think is sort of standard for how how this works. I think the dividing line here is sort of three to five million of EBITDA. Above that level there are going to be really interesting private credit opportunities available that are incredibly flexible. We have a large delayed draw facility where we basically get pre-approved for an underwriting box and as long as what we're bringing forward fits within the box. We can draw on a line of credit with relatively little advanced notice or underwriting approval. That part of is actually gotten easier. We have access to significantly more and better financing than we did in the early days. And we've also attracted a lot of support on the equity front as well. But you have to reprice as you go through. How does that work? My question is somewhat specific. We have seen people who are launching their roll up strategy. And what they try to do is raise a pre-lodge pool of committed capital. And I will just say it's really hard to say I'm committing a big bucket of money to somebody who's run nothing and has acquired nothing. It's different than doing committed capital to an existing private equity organization. I get why they do that because they don't want to have to reprice. But I also get that there are a lot of investors who are going to take pause at this idea that we're going to pre-fund a roll up that hasn't even gotten off the ground yet. So you didn't do that because you funded it initially out of your own equity. And then you had some debt. And now as you pointed out, you become much more efficient and getting to lower cost of debt sources, which is just wonderful and one of the great benefits of size. But what about the equity size? First of all, I've seen the same thing you're describing. And I've had fits of jealousy at folks that have been able to raise tens of millions of dollars off of a shiny MBA. They're probably paying a pretty high cost of capital in terms of implicit upside that they're giving up to get that. Sure. And look, my ownership of the business today is much more because I scraped and clawed every time. I retained a lot more of it. But I have some gray hairs that are at least you have here, right? This is a real advantage. I have. So I raised equity in a couple of different tranches. I told you about the late 2019 sort of friends and family around it was priced and we sold about 15% of the business at that time. Did the same thing in 2021. We brought it in an institutional growth equity partner for the first time. We did a priced round that was at a premium to the first round. And then in 2023, we did a large round, 2024. We did a small round. We've done five priced rounds at incrementally higher valuations, reflecting the growth of the business. And I diluted myself much less through that process because I didn't sell 100% of the business upfront. I sold it in pieces. I got much better economics. But I spent a lot of the early days oscillating between frantically trying to find money and frantically trying to find deals and sort of oscillating back and forth between those things. The idea of permanently resolving one of them does sound really attractive. And so these committee capital vehicles, again, I've had a fit of envy when I've heard,
I've seen folks, but don't you think it's a correct analogy to think about an unfunded searcher getting the benefit of the deal versus a funded searcher in what you've done as your company got better, you got the benefit of that improvement. As opposed to if you had signed up a set of committed capital, the capital providers would have got that. So I think you've been true to your colors all the way through. I agree. There's no question that it worked. I mean, it went better than I had any right to hope or expect. There were some high stakes moments along the way where we really needed something to come through and in the end it did. Right. But if you're willing to put up as you were with this sort of anxiety, if can I raise an extra round of money on the time I need it and the extra work of going back and forth between deals and capital raising, you get a reward for it. You end up selling these trotches of equity at higher and higher prices. Absolutely. The caveat is that the first couple have got to go really well. Yeah. Nothing succeeds like success. If you're successful, it's so much easier to be successful after that. Right. And I think you've both hit this on the head, which is a lot of these roll up searchers in raising a large amount of equity at a base price are really trying to buy an insurance policy in case the first few deals don't go well that they live to fight another day. Well, that's interesting. I hadn't thought about it that way. And as we all know, that insurance it charges a premium. I think that's a very good way of characterizing it. As you've gotten bigger. Have you noticed that your S-GNA percentages are getting higher and higher and higher? I have seen in other businesses that S-GNA gets to be very hard to control as you grow. Has that been a challenge? It has been a challenge. We've been successful with it. One of the first rejections I got from an investor was from a college classied of mine who had a very successful veterinary roll up and has now done other roll up things. He looked at my deal and said, "Your units are too small. You won't be able to manage them efficiently at scale." And while I was disappointed, I took that feedback to heart and I felt like that was going to be a really important metric for us to manage against and be successful with was, what is the platform cost as a percentage of the four-wall EBITDA on the field? Basically, for every dollar our schools make how much overhead do we spend? Right. And we've managed that ratio to about 35%, which benchmarking against other roll-ups I think is quite good. When you think about the effective acquisition multiple, if you're buying a dollar of cash flow in the field and you're paying something like three times for it, and it's actually 65 cents to you at fully burden for corporate, the effective acquisition multiple is still under five times. And so you're creating the business for five times and we're fortunate that youth enrichment is really in vogue, as you mentioned, and we've been able to raise equity at double-digit multiples. I would say, though, one difference between you and particularly that veterinary roll-up is if you imagine this business consolidating. So in five years, this affirm that owns 300 or 500 dance and music schools, you imagine being that consolidator. And I think particularly in some of the very fashionable roll-ups and I'll put dental and veterinary in those buckets, I think they were very much trying to get to the 20 or 30 and then sell to the people who are going to be the surviving consolidators. And so I think your long-term vision affects your business model. Yeah, that makes sense. Dental roll-ups were the hot thing of the day when I was raising money for this the first time. I put aside by side comparison together where I said, "Our biggest disadvantageous size and our biggest advantage is provider concentration." So you buy dental practices to dentists and you're going to write them a check for $3 million and then hope they show up to work the next day to make money for you. And a small music or dance school has 20 part-time teachers and they all really need that work to survive. And so I view that as being our biggest advantage relative to folks that were excited about the DSO, MSO, VSO consolidation strategies. I think it is intriguing and so compelling to take people who are good at what they do, music teachers, dance teachers, physicians, veterinarians and separate the part of their job that they're not trained for. The entrepreneurial side, managing the business, finding the customers, collecting, making sure the facility is in compliance with regulatory requirements. I find that separation to be so sensible. I love it. And I wouldn't have thought about it in your industry, but I think it's the same story. People ask me often, "When industry should I go roll-up?" And my advice is always look for the service provider that's been forced into the entrepreneur or operator seat and would really prefer to be in the service provider role. Yeah. Jeff, we always end our podcast with asking you our guests whether they have any questions for Royce and I. I view the two of you as having this really wonderful working relationship. I think often that it would have been more fun to build this business with a partner. And I'm curious how you advise your students thinking about solo versus partnered search. This is a really interesting thing because that's why I asked you at the outset whether you had a dog because I always tell our students that if they want a partner for emotional support they should have a dog because dogs provide enormous amount of emotional support and they only want biscuits as treats they don't want half your carry. So first of all, I think you have to ask why you want a partner. You want a partner just for emotional support. I find that it's expensive. I also think that in your instance you are pursuing a passion of yours. So you have to find somebody with a similar passion and a level of financial sophistication and willingness to be hard-nosed about the economics. And I think that's an unusual combination. I think it might have been more fun but it might have been close to impossible to find. Interesting. I will tell you the advantage of a partner is your velocity could be higher. On that point, Rick, I would note most small firm rollups that we see have two partners. Usually a point of the spear, business development person and then someone integrating and operating. So Jeff is in the minority in that way too. Right. So the advantage is the velocity but you can hire somebody who can do your business development, who can help you grow, help you integrate and you don't have to pay them half your wealth, half your carry. So from an economic side, I think if you reflect on it, it's hard to imagine that you would have been better off financially or the business would somehow be sturdier with a partner. But I think the thing that you have done better than other people and I applaud it is you've hired people along the way that are high quality people willing to pay them and recognizing that since this one of you, you really do need to have high quality people on your management bench. And not everybody recognizes that. Interesting. We're very appreciative. I'm so impressed with what you've done in the business you've built. Me too. This is going to do a lot of good. It's so cool and we wish you all the luck for growth. Thank you. Rick, you and I see lots of examples of searchers buying fine businesses and making them larger, better, more profitable. And one of the catalysts always seems to be that a deeply expert provider of some service has gradually become a business administrator and that really isn't their training strength, maybe even not their preference and you bring in an energetic trained manager and they are better suited to the business at that stage of its development. And we see it doesn't just have to be in a passion driven business like music. What's your reaction to that? I think that's exactly right. I think we can imagine almost any business where the business has started because the entrepreneur is good at the business. So imagine you're really good at making bagels. And next thing you know, your bagels become very popular and now you have to hire employees to help you cook all the bagels and sell them and get them in the right bins and put them in bags. And so now suddenly you're not just voices bagels anymore. Your voices bagels with a half dozen employees. You know what? You're really good at making bagels. You might not be very good at managing a half dozen people. And then when you open your second bagel store and now you've got a manager of the state and perhaps some external financing and another workforce remotely and it's a whole different set of skills than making bagels. And so I think it's exactly right that whether it's a bagel maker or a plumber or an electrician, or a musician or a physician, these things all seem to be true that people go into their chosen field because they're good at it. And then eventually they end up doing something that they weren't trained for. They're not in the professions that they began. And so I think that's one of the virtues of search. You're taking a business where the entrepreneurs figured out the model for delivery of service and then you're bringing it to a higher stage of efficiency and hopefully profitability. And I think that this is something that's unique to small business because in big businesses where you typically have an investor controlled board and the business outcroses the C-L.A.
The board taps the CEO on the shoulder and replaces them with someone who can run a larger business. In a small, founder-owned business, that doesn't happen until the founder is ready to retire. And so the catalyst is released by the search and acquisition. Rick, what a great conversation we've had with Jeff Homer. I think you and I and our audience have learned a lot about creating value in a roll-up and also finding creative niches in the marketplace to roll-up, like Jeff's pursuit of music schools. Next week, you and I are hosting Will Smith, the host of the podcast, acquiring minds in a long-time observer and commentator on search funds and ETA. That's going to be a really interesting conversation that takes a full view of the marketplace. Next week, Will Smith on our podcast. I'm looking forward to it. We end each season with a very special episode where we ask our listeners to email us and offer questions they have after listening to our episodes or after their experiences in search. We pull out the questions and you and I discuss them. You know how much fun that can be. It's a favorite of ours and a favorite of a lot of our listeners. So listeners, shoot us an email at
[email protected] and we'll put them in the bunch we go through and answer them in our final episode of season three. We're looking forward to it. You've been listening to Think Big by Small. We're your hosts, Royce Yudkopf and Rick Rubach. Katie Zanberg in Produced Today's episode. Craig McDonald is our audio engineer. If you have any questions, comments, thoughts, feel free to just email us. Rickenroyce, all one word at hbs.edu. We'll be back next week with another episode of Think Big by Small. [BLANK_AUDIO]
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