Management Buy Out
You are the managing director of a large division of your company and reckon you have been doing a pretty good job of running it. But you have a sneaking suspicion it may not figure highly in the board’s long-term vision for the business. And anyway, you have always had a secret hankering to run your own show.
The solution may be to stage your own management buyout (MBO). The good news is that if you do it well you could end up as the master of your own destiny. The bad news is that if you don’t handle it with tact and caution you could find yourself out of a job.
The first thing you need to establish is whether you have a willing seller. We warned that if it is not clear how the owner feels, you need to tread very carefully. “History is littered with occasions where the management has said it would like to buy out its division but the parent company has said no — and then shortly afterwards the management has left. It is a delicate play,” he said.
On the upside is the fact that as the incumbent management of the business you are in a strong position to put yourself forward as a potential buyer.
Richard Hall said: “From the parent company’s perspective, your advantages as the management team are confidentiality, continuity and speed. Confidentiality is important because if you open up a sale process, it is just like selling a house — people come and have a look to find out about it even if they don’t want to buy it. Continuity is important in some companies where the founders have built up things over time. And because you are in situ already, there is the advantage of speed because the parent company will not have to go through a prolonged auction process.”
Graeme Strommen, head of corporate structured banking at HSBC, added: “Quite often, vendors will favour an MBO team because they have nostalgic views of their business and might think that people who have put many years into the business deserve first bite of the cherry — even to the extent of discounting the price a little rather than selling it to the trade or to a competitor.”
Before you start making plans, however, you need to establish whether a management buyout is viable — because often it is not.
“There are plenty of divisions of large companies that are just not viable in terms of an MBO,” said Hall. “You need quality of management because you are asking people to back you as a team, and a private- equity house will be buying into your ability to add value. You need to make sure you have all the key positions covered by competent people who are either already in place or lined up to come in.
“Then the division has to show it has some quality earnings,” he said. “If the business has just one contract with one large customer, and it is up for renewal in eight months, that is probably not a very attractive play.
“You also need a business that is cash generative, because if you are going to attach debt to it as part of the MBO, it has to be throwing off some cash to service the debt.”
Mel Egglenton, head of middle markets at KPMG, said that when looking at the strength of your management team you need to think about the future. He said: “A venture-capital firm will look at the quality of the team but it will look at the second tier of management as well, so you need to think about the succession plan.”
Hall said you should also consider the exit options of any potential investor, because a key concern of theirs will be how they are going to realise their money. He advises drawing up a list of companies that might want to buy your company in three or four years.
Phil Adams, a director of Altium Capital, a European investment bank, said that once you have pulled together a competent management team that you think investors would back, the next step is to have an informal chat to a corporate-finance adviser to discuss whether your idea is feasible.
He said: “An adviser can give a pretty quick assessment on whether your division is in a sector that would be of interest to investors and whether they think your MBO would be fundable. If the adviser says it is do-able in theory, then that should give you the confidence to look at the next stage.
“One of the things you should do with an adviser is think about the tactics of how to make the approach to the parent company. It may want to sell your division to a trade player, or your proposition to buy it may not go down well from a personal perspective.”
Once you and your adviser have decided you have a sound proposition, you should approach the parent company and ask for permission to explore a management buyout.
This will pave the way for the parent company to share information on a confidential basis with your adviser, enabling you to create a business plan.
Finally, don’t worry if you don’t have much money of your own to put into the deal because the backers will be looking for your experience and expertise rather than your cash.
Adams said: “Your financial worth will not determine whether it can be done. That is not a prerequisite. What will determine whether the buyout is fundable is the business and its ability to carry the financing and provide the venture capitalist with a good return. The backers will look for you to put something into the deal, but they will look at your net worth and your circumstances to determine how much that should be. You may be expected to take on some personal borrowing, but not an onerous amount.”
Egglenton agreed: “What backers are looking for from a management team is a commitment that means something to you and is material to you. If you are willing to take a second mortgage on your house, for example, that level of commitment would impress a venture capitalist. In fact the venture capitalist won’t want you to have absolutely everything invested in the company because that could put pressure on you the wrong way.”
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