An excerpt from Your Multimillion-Dollar Exit: The Entrepreneur’s Business Success(ion) Planner.
Private equity (PE) buyers focus on investments that will yield significant financial returns to their investors over a specific time. They usually want to ensure your business will succeed on its own without continued involvement or additional investment beyond the initial purchase. At the same time, the best PE buyers have experience in investing in other similarly sized businesses in your industry. They know the risks inherent in your business, and they hopefully understand what a successful business looks like when they are evaluating you as a target.
PE buyers come in so many shapes and sizes that it’s hard to describe a “typical” PE firm. Trillions of dollars have been invested in private equity PE funds, and the trend continues to increase, even as stock market returns ebb and flow. As investment dollars come in, the PE firm must deploy these dollars to acquire portfolio companies or build platforms within an industry to achieve their investment strategies, which are myriad and diverse. Undoubtedly, if you are a Rocket Ship, there is an investment strategy and a PE investor out there for your business if it is growing and has the right components.
Even with increased volatility in the public markets, PE investments have expanded dramatically in the twenty-first century. Some PE buyers will be focused on your customer list, contracts, or technologies that may yield additional synergies with other portfolio companies they manage. In that case, the PE buyer may be less interested in retaining your workforce and more interested in capitalizing on expanding existing product and service offerings to the customer base of their portfolio companies.
In other cases, PE investors insert their own managers and board members to run the target’s business. Even if you have been successful in running and growing your business over time, the private equity PE firm may think they can do it better. There seems to be a bias among some private equity PE fund managers as to how to properly run a business they acquire. If they’ve been successful in taking portfolio companies to the next level, they may know what they’re talking about. However, if they’re getting into a new industry or purchasing your company as the cornerstone of a new platform into which they will combine other similar companies, their focus on your assets and lack of focus on your people may not yield the best results.
PE deals often involve a two-step process. In the first step, the PE firm acquires 20 to 90 percent of your company. You are expected to “roll over” some of your purchase price into equity of the acquiring company. The structures of these transactions can be quite complex, but the outcome generally the same.
If you’re going to accept a stake in the buyer’s business, you need to ask whether and when you will be able to sell that stake to reap the benefits of the rollover equity portion of the transaction. PE buyers want to hold on to your business and grow it until it achieves a certain return on investment they’ve promised their investors.
Not all deals end this way; try to negotiate protections in your rollover investment documents to allow you to realize the benefits of the rollover equity.
Ask your attorney to negotiate special rights that will enable you to require the PE firm to repurchase your stock after some minimum period has passed at a purchase price at least equal to the value of the rollover equity you received in the original transaction. This is known as a “put” right (i.e., the right to force the other party to buy your ownership interest), and it may provide some downside protection for you. PE firms will resist being forced to buy your interest, but there may be negotiating room depending on the value and importance of your company to the PE buyer. If you cannot get a “put” right, at least try to get a minimum price for your rollover equity. Remember, PE firms are most concerned about maximizing the return on investment for their investors, so anything that diminishes the return will meet strong resistance.
PE buyers will demand control of your board of directors or board of managers following the acquisition if they’ve acquired more than a majority stake in your business. You may not want this result. If things don’t go well after the investment, you don’t want the PE firm penalizing you for nonperformance by forcing you or your management team out or even worse.
There’s plenty of PE funding available to fuel acquisitions and investments. If the economy turns down dramatically, as it did in 2008 and 2009, then multiples will drop and the availability of businesses to be sold at high multiples will decline. Nonetheless, sellers may still be willing to sell their businesses, even at lower values. The question will be whether the PE buyer or investor is the right exit for you.
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