On this week’s episode of the M&A Masters Podcast, we sit down with Todd Dauphinais, Founding Principal and Managing Partner of Clavis Capital Partners in Dallas. Clavis Capital Partners realized that there was a better model and approach to private equity, and set out to create an investment firm focused on operations, the longer term, and on deploying capital in the most flexible and effective manner possible – the independent sponsor model.
We chat with Todd about what inspired him to build Clavis, and where the name Clavis even came from, as well as:
- The successful effects of the independent sponsor model
- The importance of strategy for growing businesses
- Building a company culture that sets you apart
- How the rapid advancement of technology can be used for market benefit
- Rep and warranty policies
- And more
Listen now…
MENTIONED IN THIS EPISODE:
TRANSCRIPT:
Patrick Stroth: Hello there, I’m Patrick Stroth, President of Rubicon M&A Insurance Services. Welcome to M&A Masters where I speak with the leading experts in mergers and acquisitions. And we’re all about one thing here. That’s a clean exit for owners, founders and their investors. Today I’m joined by Todd Dauphinais, Founding Principal and Managing Partner of Clavis Capital Partners. Based in Dallas, Clavis Capital Partners recognized that there was a better model and approach to private equity, and set out to build a different kind of investment firm. One that was more focused on the operations, on the longer term, and on deploying capital in the most flexible and effective manner possible. And that model would be the independent sponsor model. So, Todd, it’s going to be great to talk to you about this. I’m very excited. Thanks for joining me today.
Todd Dauphinais: Yeah, thanks, Patrick. I really appreciate it. Thanks for having me on today.
Patrick: Yeah, before we get into Clavis Capital Partners, let’s give our audience a little bit of context for you. How did you get to this point in your career?
Todd: Oh, it’s a great question. Thanks for asking that, Patrick. So I started Clavis, eight years ago, I was 43 years old at the time. Up until that point, in my career, I’d spent most of my career in operations, I had been the CEO of a midsize manufacturing firm for a number of years, I had done the kind of the big corporate thing I’d worked for Schneider Electric, which is a European based industrial company. I ran a number of their business units in their M&A team for a while. And I started out my career at Deloitte Consulting, doing strategy and operations consulting. And you know, as I look back, all of that experience, that operations and strategy and even the consulting experience really, is beneficial to what I do today.
And when I started Clavis, eight years ago, I like most things, you know, I was looking for, I wanted to take my operational experience and apply it to more more of an investing type model I talked to, and frankly, when I was interviewing with a number of PE firms, and I was looking for that firm that had more than operational background, and then operational bent that that had that was similar to my background. And I really, I couldn’t find it, I mean, I kept running into the same type of person over and over again. And in groups that were really, the backgrounds were much more financial services, financial engineering, investment banking backgrounds. And so you know, I remember the time actually, I was I was at the office of a good friend of mine, and was bemoaning the fact that I couldn’t quite find the job that I was looking for.
And he’s the one that finally kind of said, well, then go create it yourself. And so I guess the short story is, I couldn’t find the job that I was looking for. So I had to, I had to invent it. Unfortunately, it didn’t pay well at the time. But, you know, I really had a vision at the time to start a group that was staffed by and lead by operational and strategic people, and really had a vision at that time to create this, and it takes a lot longer than you ever think it will. But, you know, fast forward now our team is all operating and strategic professionals. And you know, we’ve been successful thus far. So I guess it worked out. But in the early days, you never know if that’s if that’s gonna work or not.
Patrick: Yeah, I was. That is what happens when you get to be our age, and you blink, and all of a sudden five years goes by so you slog it through and blink, and you know, it all be behind you. So that’ll be great. Yeah, that brings it Yeah. And that brings us to Clavis Capital. And obviously, you didn’t name name, the organization Dauphinais Capital, because yeah, you’re more creativity than us insurance, folks and the lawyers out there. So give us a story. Because that’s nice insight into the culture of the firm. You know, how did you come up with the name Clavis Capital?
Todd: Yeah, no it is a it is a good. It’s a funny story. Um, so the story is that we had rented a house in Sun Valley, Idaho many years ago, my wife was seven and a half months pregnant, and I had a two and a half year old. And on a Sunday night, I took my family out to dinner and came back to the house and this was before Airbnb, and before any of that. I’d rented it from a friend of mine who had a rental service and, and as I get back on Sunday night, I realize I’ve locked myself out of the house. It is, it is locked up tight as a drum and I tried to find a way in the house, I can’t get in the house, and it’s later it’s getting late on Sunday.
And I was standing on the back porch, and I’m kind of looking down and just really ticked off at myself for doing this because I couldn’t blame anyone, I couldn’t blame my two and a half year old. And as I’m looking down, I happen to glance over in a flowerbed and in the flowerbed it, I picked up a glint of a metallic object in there. And so I reached down and lo and behold, there’s a key, it’s the, it’s the backup key, and it had been there for a long time. And so and it got us in the house. And and that key is always been significant to me. And there’s a lot you could, you know, there’s all kinds of different things, you could you could read into that, but I kept that key.
And so when I started my firm, I wanted to, I wanted to do something that that that involve that key. Well, clavis is Latin for key. Yeah. And, you know, everything key was not only generic, but all of the URLs were taken. And so I had to go to Latin to find, to find an available URL and something like that, that sort of sounded neat. And so that’s that really is the the story behind the name. And it, it really like you mentioned, it, it, it’s part of our culture, and it’s in culture is a big thing for us both in our firm, my firm and, and the companies we invest in, we pay a lot of attention to culture. And so that’s a, that’s a cool little story that we can tell to people, it has some meaning and it obviously, is very meaningful to us.
Patrick: Yeah, I think that’s fantastic. And there’s a key is iconic for a lot of different different areas, and so forth. And you talk about culture, and there are a lot of people that they pay lip service to culture, but it is a real strength is something you got to focus on, particularly for the type of organization you are, because let’s face it, in the investment world, right now, you’ve got over 4000 private equity firms out there, and more coming every time. Add to that family offices. And then, you know, there are 1000s, I don’t know, it’s very fragmented the sector, but you’ve got independent sponsorship sponsors out there, too.
And you have to distinguish yourself from all the others out there. And and culture is a great way because it comes from the heart, you can’t fake it. And so, you know, you and I talked earlier, you mentioned that you made, you know, your website is as you recognize as a better model out there, but you intentionally went the independent sponsor route, and you’ve not outgrown into a fund. So let’s talk about that as a model, what it does for you what it enables you to do for your investments, and how that’s been successful.
Todd: Yeah, in your right to bring up there, there’s a lot of there’s a lot of competition in this market. And it’s, it is really difficult to, certainly to differentiate yourself or to get that message out. And, and to get people to understand that the and there’s no barrier to entry to being an independent sponsor. That’s the thing that’s most frustrating to me in a lot of ways is there’s there’s no you know, anybody can hang their shingle up and, and just call themselves that, that term. And so I even struggle with a little bit of the what to call ourselves, we don’t call ourselves generally, PE, because we’re not a fund, nor do I have any interest whatsoever in raising a fund. And there’s some specific reasons for that. But what I do for a living, what really gets me jazzed in what gets me out of bed in the morning is not deploying capital, per se, it’s building businesses.
That’s where the operational background comes in. What me and the other members of my team are really good at and really, really like, is building businesses. And so the second you raise institutional fund, you are now in the asset deployment business. And your job now is to get that that those dollars out the door, the people who do that for a living, they’re great people, and they they have a lot of fun doing what they’re doing. But they spend their day differently than how I spend my day. I spend my day really working on with our leadership teams and our portfolio companies developing long term strategy, developing, you know, the the plans and the operational plans to really grow those businesses.
And so we spend a lot more of our time doing those operational and strategic things. If I have a fun, that’s not what I get to do on a day to day basis. I’m managing LPs. I’m raising money on deploying that capital and it causes you to do some things that you might not want to do. There are pros and cons to both models, no doubt but what gets me really excited is being able to spend dedicated time on our portfolio companies and working with the leadership teams, and sort of being that that right hand person to the CEO of our portfolio companies. So I get, I get the best job really, in my opinion, I have the best job in the world and get to be sort of Kwazii CEO and strategy guy. But without the day to day headaches that I used to have when I was running my own my own company.
Patrick: You summarize that really well, where you say, look, the day you open up a fund, you become, you know, you move away from what you love doing, which is being company builder, and you go from company builder, to financial engineer, nothing wrong, but there are some people that love the engineering, there are other people that really love rolling up their sleeves. And, and doing that, I would think that would appeal to owners and founders looking at, you know, they’re at an inflection point, they want to move to the next level. And, you know, they want somebody who’s going to actually be with them side by side, and, and work with them. And I think under this model, there’s no dilution of your attention.
Todd: Yeah, that’s right. And it does, it appeals to the person who is really looking for a partner, not just looking to sell their business to the highest bidder. And there are both types out there, and they’re there, they’re fine. But we are very selective in the types of things that we get involved in for a number of reasons. Number one, we can’t do a whole lot of deals, at the same time, we can only concentrate on so many deals. And that’s really how I want it. I mean, that allows me to get deeply involved in my team to get deeply involved in each individual deal. We also can’t afford to get any one of them wrong. In a fund structure, you know, you may invest in 10, 15 companies in a fund and you know that two or three or four of them are just not gonna go well, they’re gonna go bad, I can’t afford that I every single deal that we get involved in is its own deal.
And, and so I can’t afford to get it wrong. So we spend a lot of time really evaluating our opportunities. And that’s where you mentioned earlier culture, that’s where culture comes into this. And it’s not just lip service, because the you can tell a lot about how successful and investments going to be based on the company culture that the leadership of that company has built. And if you go into a place and they’ve got really great culture, you can feel it, it’s it’s not something that’s easy to see, necessarily, but you can feel it, those investments will do nine times out of 10 or 10 times out of 10, those those investments are going to do just fine because they’ve been built right from the ground up. Because the the leadership have focused on building that culture.
Patrick: I’m curious when you talk about culture now. I mean, it’s one of those you can see it or you can feel it immediately. It doesn’t have to be translated, I mean. Is it that easy? Did you are you able to tune to recognize that real quick?
Todd: Yeah, we’ve gotten better at it. But yeah, you you can tell, you can tell. And there’s a couple things that are that are a little bit telltale, when you when you go to even before you go visit, you can usually get some sense of the culture. It’s amazing, you know, just what you can tell by going out to the internet and seeing, you know, how does the website present and what’s you know, what, what is that? Does that talk about culture? You know, we’ve we’ve seen, we’ve, we’ve gotten really intrigued with some companies where there were YouTube videos that the CEO had put out there that talked about culture, you know, if you can, a lot of times even before going out there, you can tell a little bit.
Then definitely when you go out on site, and you meet with the leadership team, and you meet with the management, how they talk, how they talk about their company, you can always tell what’s the level of pride in the company, both how they talk, how does the how does the business present. If you walk around the plant, in our case, we do a lot of manufacturing stuff and the plants really clean and people are wearing the logo and stuff that tells you a lot about the pride of the people that the people have in the firm and the culture that they have. If you go there and nobody talks about the employees and it’s a dark and you know really, really
Patrick: Gritty.
Todd: Gritty place. Usually that kind of tells you a little bit as well. So it’s more art than science. But if you’ve got a little bit of a trained eye to it and you’re looking if you’re looking for it you can you can see.
Patrick: Yeah, why now and we know not to focus on numbers or anything but you’re usually going from majority interest and then you prefer having the the owner founder remain with you or are how many others deals happen where the owner just wants an exit?
Todd: You know, in in every case that we’ve actually done the deal, the owner has stayed with the business. But having said that, because of our operational background, it doesn’t scare us to have situations where an owner might be looking for an for an exit, not only a financial exit, but but you know, he’s looking to retire or to step back or whatever. I tell owners all the time, I’d rather know what your intentions are, I can work around those. And we’ve had a situation we’ve had two situations in our portfolio where the owner wanted to stick around for a transition period a year or two.
And they wanted to retire. And, and we were fine with that. And, and we, in both cases, honored that that wish and worked with the owner to find the right leader for that business after the owner stepped away. And we’re not scared of that at all. But in most cases, we’re looking for somebody who’s looking for a partner. And if if they’re looking for a partner, then they’re usually not looking to just sell 100% and go sit on the beach, because that’s, that’s, that that doesn’t work with our model very well.
Patrick: Gotcha. And, and your focus is on the industrial sector, which before I started this podcast, being quite admittedly, based in Silicon Valley, our view of manufacturing is pretty much limited to the tech sector sector, where you’ve got clean rooms and all these spotless, little germ free environments and everything. And, you know, you’re in that nice, gritty, you know, sector there where the where the real work happens. And I’m surprised to see how, you know, manufacturing and industrials are actually thriving right now. So, you know, you gotta share with me, why did you pick that sector? Is it just your background? Or, you know, other reasons?
Todd: Yeah, it’s it’s, a lot of it came from my background to start with, it’s something that I know a little bit about having having run manufacturing businesses before. So I, you know, I was trained in LEAN manufacturing, and six sigma, all of those fancy words that came out of the 80s, 90s and 2000s. But really, our focus is in industrial and manufacturing, not as much because we know something about it. But we really believe in that sector. And in particular, the Renaissance that we believe is, is kind of happening in this country in manufacturing, some people call it manufacturing 4.0, or whatever you want to call it. But we have a specific thesis about what is going on in manufacturing. And what we’re seeing in the reshoring of manufacturing back to the US the kind of undoing of what happened over the last 30 years, when manufacturing, when supply chains got very disaggregated and and placed globally.
And that worked for a long time. What we’re seeing now is the market has evolved such that speed to market, rapid prototyping, mass customization, all of these things that are now trends in the market. And it really starts with the consumer, the consumer has gotten really used to having something delivered custom made instantaneously to their door, you can’t do that if you’re manufacturing everything in China. So we and then throw on top of that the world has just gotten a lot more complex and complicated. And you throw in, you know, trade wars and things like that. China, Asia in particular has gotten a lot less interesting and a lot less advantageous. It’s a lot that China has gotten more costly over the last decade or two. And so we’re seeing a lot of people come back reshoring but the manufacturing that is coming back is looks a lot different than the manufacturing they left.
And this is where it looks a lot more like your Silicon Valley and your tech oriented businesses then it certainly did in the you know, industrial age when you were talking big plants and and a lot of people there’s a lot of technology now involved in producing goods and prototyping goods and speed the market. There’s a lot more high tech stuff that is is is being invested in and put into ground here in the United States. And so even though, you know, our orientation is manufacturing and industrial, that doesn’t mean that we don’t pay a lot of attention to the technology and the the very rapid advancement of technology that’s occurring in our space. And, and that’s really where we like to invest. We’re looking to invest in more tech enabled manufacturing, and you’re seeing that across the board, it’s it’s really an exciting place to be right now.
Patrick: Now with and with your, your targets, your investments, you’re usually the first institutional capital coming.
Todd: Yep.
Patrick: Okay. So a unique aspects to what you’re doing as an independent sponsor, you had mentioned, you can’t get these these deals wrong, you don’t have that margin for error as you’re going forward. And in mergers and acquisitions, there are a couple things that happen, you touched on with culture is, you know, you cannot remove the human element. This isn’t, you know, Company A and Company B, you know, coming together. This is one group of people agreeing to partner with another group of people. And so, you know, you’ve got that human element. And a lot of times what happens, and I imagine this happens every time in your case is that you have, you’re on one side of the table and you’re an experienced buyer, and your counterparty, the seller is inexperienced.
It’s not that they’re naive, they just don’t do this all the time. As they go through the process, you know, particularly when you’re going through diligence, which you’ve got to be thorough, because you can’t afford to miss. They’re not used to that. And then following that process, okay, they come through the diligence, then you sit down, you’re, you know, bringing out the purchase and sale agreement. And then there’s this indemnification clause, and what the seller hears who’s not experienced when when their lawyers reading the indemnification clause, they hear buyer saying to them, okay, I know we just went through this invasive diligence process, but just in case we the buyer missed anything. And that miss leaves us suffering financially, we’re gonna hold you to pay us for any losses we have. It’s just, you know, if we couldn’t find something, we don’t want to be out of pocket with a lemon. So, you know, that’s just part of the business is standard procedure will have an escrow and you’re all set, probably nothing’s there.
So don’t worry about it. And for seller that’s not used to hearing that they their response is. Wait a minute, I told you everything. You can’t hold me responsible for something I didn’t know about. Experienced buyers as well, yeah, but I’m making a bet of 10s of millions of dollars, that your memory is perfect. This, this happens in all the deals, it’s just part of the process. And right there, you’ve taken a collaborative situation, and all sudden, there’s this potential for distrust to come in stress, fear of the unknown. And, you know, it’s a real challenging thing, and sometimes derails deals. And the tragedy is that that whole process can can be avoided. And the way that happens is now the insurance industry in the last several years came through with an insurance policy, it’s called reps and warranties, it essentially takes the reps that the seller outlined, that the buyer vetted with due diligence, and the insurance industry simply says like, buyer, if if there’s a breach of at least a financial loss, come to us don’t go to the seller come to us.
Buyer has certainty of collection, they avoid the very, you know, tentious part of probably having to clawback money from the seller. And so they’re taking care of. Seller gets a clean exit. A policy attachment point is lower than most escrows. So they don’t have as much money held back in escrow. So they have more cash at closing. Better yet, they get peace of mind. Because if there is a loss, you know, they don’t have to pay it, they’re not going to lose any of their money. And so it just seems to smooth the process over. And the beautiful thing for us is in concept, this was great. But in practice, it wasn’t very useful because rep and warranty was reserved for deals at $100 million transaction value and up. They had very strict eligibility standards. You had to have audited financials, a battery of third party diligence reports and everything. And so it just wasn’t feasible for the smaller deals.
Competition has come into the insurance market since the pandemic. And now eligibility for rep and warranty has now fallen to deals as low as 10 to $12 million. And you don’t need audited financials now to qualify. And so that’s the purpose of our conversation with a lot of people out there is to make them aware that this thing that used to not be available is now available for the lower middle market where I really believe it makes a huge impact. Because if you can save somebody a million bucks or 2 million that’s that’s huge. You know, but don’t take my word for it, you know, Todd good, bad or indifferent. What experience have you had with rep and warranty?
Todd: Yeah, now you it’s a great point, Patrick. The biggest thing for me is it removes a potentially contentious item out of the process at a critical time in the in the process. And you described it well that you know, you get through a due diligence process and now you got this. This this additional thing and to a to a seller who doesn’t do this for living, you know, that feels very bad faith. Yeah, bad faith or whatever. And so the rep and warranty product, kind of smooths that over quite a bit. And, and so we have utilized rep and warranty insurance in pretty much every deal that we’ve done for the last two, maybe three years, I believe.
And it does, it does smooth that over. The statistics I’ve seen is it’s that that part of the insurance market has really exploded because it’s for exactly the reason it’s, it’s good for all, you know, both parties involved in the process. And as an M&A professional, I want as little friction in the processes as I can get. And that’s that’s, that’s great. It’s gonna be interesting to me to see, I’ve seen a lot of statistics about the the implementation of rep and warranty policies. I haven’t seen a lot of statistics around the claims against those policies, and how often those policies or those claims get, get paid out.
Luckily, we haven’t had any any issues with with with any of our policies and you know, knock on wood, hopefully that is that that remains, that remains the case, that’s not something I want to be an expert in. So it’s a great product, it’s something that just makes the deal process work a lot better on our part. And, you know, I think it’s, it’s something that has been a real boon, actually, to the to the to the insurance carriers who develop this, and it’s become a lot more competitive. In the early days, there were two carriers that were that were that were that had 90% of the market. Now, you got a lot of other options there, which is good for competition.
Patrick: Yeah, I think it helps because the more carriers are out there, there’s just more variety, where a couple carriers will will specifically target an industry or transaction size, and treat it more favorably, they’re just more familiar, they’re more comfortable with it. And then I would say on the claims side, so far, we haven’t heard anything industry wide reports are coming on, you know what the impact of COVID has been on rep and warranty policies. By and large, though, less than, you know, 10% of the policies out there, maybe 15 to 20% of the policies incur a breach reported, hasn’t been paid, but they just notify the carrier that actually paying this is very small as a very profitable line of coverage.
Even with consultation, we only they will see that because the demand is getting bigger, I would just say for 2021, we could probably see insurance carriers, maybe raising their retentions a little and maybe bringing the pricing up just by a little like a point or two, just because the demand is so high. Not because of losses. Which is a nice signal that is going to be sustainable. So we’re very, very happy with that. And now we’re able to do not only platform deals, but add ons. And so I think that’s just the more out there that we can be available, the better the better for everybody. Todd with, you know, where we are right now with, hopefully we’re at the beginning of the end of the pandemic. Now, as we move forward, and people are beginning to move out and get out and do site visits and everything like that. What trends do you see for the rest of the year into 2022? Either industrial, Clavis Capital? What do you see out there?
Todd: Yeah, the market is is extremely competitive, and I think will remain so. There’s so much capital that’s out there, chasing deals, you know, in a lot of ways, COVID took a lot of what would otherwise be transactable companies off the market for whatever, you know, people were busy dealing with, with COVID related things, certainly industries that were heavily impacted. But it didn’t change the amount of capital chasing those deals. And so we’re seeing all kinds of just perverse behavior in the market, we’re seeing people that have come that traditionally would be more upper middle to large cap buyers come in to come down into the middle market, and even in the lower middle market space, it’s gotten a lot more competitive.
And I don’t see that changing. I really don’t the I think that’s going to be with us for a long period of time. The debt markets still remain very, very liquid. And so I you know, I and I don’t see a big correction to that coming anytime soon. So it’s gonna, it’s going to remain very difficult. It’s going to remain a seller’s market. And, you know, I think that’s going to be with us for quite some time. I think the industrial space will continue to be a good space to be in, but I think, you know, a lot of spaces are going to be good spaces to be in.
Patrick: Yeah, don’t see any shrinkage in the industrial sector, particularly with logistics. So many people don’t realize how to get a good, you know, product from point A to point Point B. And as you said, that’s evolving as we speak now. And there’s plenty of room out there for that kind of stuff.
Todd: Yeah, absolutely.
Patrick: Do you think, one of the things I wanted to ask you. Do you think because of COVID, there are a number of companies that may have been out on the market and they they, you know, pull their pulled their chips off the table, they pulled their horns in, and then weathered the storm. And they may want to wait to get 12 months of performance post pandemic, on the books to kind of show where they are to improve their status before they go back out?
Todd: Yeah, absolutely. We’re, what we’re seeing, and also hearing anecdotally in the market is that the second and third quarter of this year, you know, we talked to a lot of financial advisors and investment bankers and people that represent sellers. And what they’re telling us is towards the end of q2, and into q3 this year, there’s going to be a lot that comes on the market, because you’re going to have gotten that q1 and q2, really q2 of 2020, off the off the trailing 12. And I think that that will continue into q3, and q4 and even into 2022. And so I think you’re gonna see a lot of that, as people have recovered, that you’re gonna just see.
And you know, if you think about it, if you have a, a business owner, that’s call it, that’s in their, in their late 50s, early 60s, they’ve now been through three major financial disruptions in their, in their career between, you know, this, and 2008. And even even going back to bite off. At some point people go, you know, what, I don’t want to go through another one of those major disruptions and so and you’ve got baby boomers that are retiring, and the transfer of wealth, the generational wealth transfer, a lot of those in family owned companies is going to happen. It’s just going to the next, I think through the remainder of my career, honestly, is going to remain a heightened amount of activity, both on the on the supply of deals and on the demand for deals out there.
Patrick: Man I hope you’re right. I really hope you’re right. Todd Dauhpinais with Clavis Capital, really appreciate having you here today. How can our audience members find you?
Todd: Yeah, um, so a couple different ways. Our website is, is claviscp.com. So www.claviscp c l a v i s. C as in Charlie P is in partners.com. And then on there is all of our contact information, my phone number, my cell number is on there and email address. So that’s probably the easiest way to get us. And we would love to hear from anybody out there that certainly that that is looking to transact. But even somebody that’s looking for, you know, some advice and counsel on what to do we take those phone calls as well.
Patrick: I think I think that’s a great value to people out there is, you know, there may not be a deal happening right tomorrow. But, you know, having those initial conversations goes a long way. So I really do appreciate you offering that out to the community. Todd Dauphinais, thank you very much. Really appreciate you. We’re going to talk again soon.
Todd: That sounds good. Thanks, Patrick. Appreciate it.