In the current middle market M&A space, most businesses are valued based on their top line revenues and the cash flows they generate over time. However, a company’s ability to sustainably maintain and grow revenues and generate normalized cash flows over a period of time is constantly subject to outside systematic risks beyond the control of the business owner. Owners who are interested in selling their business need to thoughtfully consider key risks that are company specific and, in the ordinary course of business, within the realm of their control to be successfully mitigated or minimized. Business owners and their advisors need to focus on their key company specific value triggers that can generate the most value for the business owner when planning an exit or a transition strategy.
Value Trigger #1: Management Quality
The management team can be a company’s greatest asset and can also be a company’s greatest liability. Buyers, both private equity (PEGs) and strategic companies always place an emphasis on existing management as a basis for determining and/or increasing a target seller’s investment value and return over time. Even though strategic buyers might place less importance on the management quality, since they are in a position to eliminate redundant positions, they still might require key managers to successfully integrate operations post-acquisition. PEGs are financial buyers and thus, aren’t usually ready to deploy key management people at the acquired company. PEGs will need to critically assess the current management’s abilities to determine the risks associated with keeping the current management as well as the risks related to the significant time and expense taken to find, hire and train new qualified management. Selling owners of companies should not take management transition planning lightly. Employing or maintaining a qualified management team ahead of a major ownership transition is of paramount importance to a buyer’s perception of risk and value, and ultimately, the price and structure received by the Seller.
Selling owners should review and evaluate the strength and weaknesses of their management team as soon as they can, well before a potential sale, to ensure the management team will ultimately be desirable and valuable post-sale. Buyers will review various queries in assessing and getting comfortable with a management team:
- Is there a particular expertise in management required that is critical to operate the business?
- Is the current team well integrated and do they have a long history together?
- Is there a key person that is irreplaceable?
- How has this team performed versus other comparable management teams in the subject market segment?
- Are there any weak links in the management team and have the risks involved been addressed by key management?
- Are there management team members capable of handling various management functions?
- Is the owner active on a day-to-day basis?
- Who do customers call when there is an issue?
- Are key managers performing to expectations?
- Do management executives think and act like owners?
- “Hit by the Bus Rule”: who leads operations if owner is gone?
Business owners who intend to eventually sell their business should constantly assess the strengths and weaknesses of their management teams. This diligence should include consulting with a trusted investment banking advisor, who can advise owners on the critical issues involved in growing and maintaining a solid management team that will attract a premium value and optimal exit structure from an acquirer.
Posted by JP Balestrieri.