InSight

Exit and Growth Strategies for Middle Market Businesses

Management Led Buyout

By George Walden | Oct 23, 2017

Today we will continue our discussion on the different types of buyers for your business. If you have a management team capable of making business decisions and running your company, you might want to consider some form of management buyout. This was first popularized in the 1980’s. Since the existing managers are buying the company, they know the corporate culture and processes. They have the inside scoop on the business and in a transaction there should be, in theory, no learning curve.

Management teams rarely have the ability to fund the buyout through traditional bank financing alone without some outside capital infusion or owner financing. Said another way, the company can only support a fixed amount of debt. That difference between the debt limits of the company and the valuation of the company must be made up with an equity capital infusion. Enter the financial buyer, such as private equity groups and hedge funds. The MBO, like was done in the 1980’s, with a management team receiving a controlling interest in the company, has transitioned.

Today’s most common structures, more of a hybrid, with minority equity interests going to the management team in exchange for continuing to run the company or a buy in at a percentage of the capital structure. Private equity groups and hedge funds often support this type of structure in exchange for the financing and capital needed to underwrite the transaction. The financial group gets a strong operational management team with solid industry knowledge. The management team gets ownership, committed capital and usually, thoughtful oversight with a strategy for future growth.

There can be drawbacks to management led buyout. Not every executive can make the transition from employee to owner, from the managerial mindset to the entrepreneurial. Not every team can handle the risk profile. It is one thing to receive a salary. It is another to take on the debt responsibilities and obligations of ownership. Another conceivable problem is the management team could become a competitor in the deal. This potential conflict of interest could work against the seller and lower the value of the company, even sabotage the deal.

There should always be an M&A adviser investment banker in this type of transaction to litigate the pitfalls. As a rule, having a management team capable of running a company makes a business more valuable to most prospective buyers. This best business practice is a goal owners should strive for.


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