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The art of acquisition: Management buyouts

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It is often the case that MBOs arise naturally; it is usually starts with an informal conversation between senior management and the owners or founders of the company.

It is a mutual process, not a hostile-takeover. If the company is owned by private individuals, it is likely that they may be looking for an exit strategy; culminating in the outright sale of the company. In these instances it is often the case that they will look to sell to a competitor, or approach staff to offer them majority shares in the business. If the business is owned by a corporate group, it is sometimes more difficult to engineer the conversation, but if the reaction is positive, sometimes easier to negotiate.

I have been involved in two MBOs in my career, one just over ten years ago when I was at P&MM and another which is still in the process of being finalised. Both have been markedly different experiences but equally fascinating and huge learning experiences. These can be summarised as two distinct approaches.

Approach 1: Full buy out of a stand-alone company

This is relatively straight-forward, where the management team purchase the company where they work, invariably with the financial help of a 3rd party organisation. Often it’s a case of business as usual because you are buying the entity where you are employed and the only changes are perhaps some original owner relationships.

Approach 2: Full buy out of a company within a group

This is where a company exists within a parent group. This is more complicated and more often than not involves untangling the purchased company from multiple existing shared platforms, for example: staff, IT, finance and CRM right through to policy and strategy.

In this scenario the major challenge is about integration. For example, most large groups have intercompany HR, payroll, finance, CRM, IT, ISO, audit and banking facilities which need to be split. A necessary procedure but an administrative headache!

As you can see, approach two requires a large amount of infrastructural knowledge and investment, as opposed to approach one, where a case of carrying on under new management is sometimes easier. Approach two involves creating multiple, brand-new, sophisticated back-end platforms, from supplier payment processes, to human resource procedures.

Furthermore, for anyone looking to conduct an MBO, a good understanding of financials is crucial. From my experience with most MBO’s, leveraged finance usually plays a major part, again there are two scenarios:

1. If the company makes sufficient profit and the purchase is at the right ratio then the deal can be done with financed debt usually provided by a bank and the new majority shareholders. The company encumbers most of the debt with the shares owned proportionate to the management team investment. The company profits going forward primarily pay off the leveraged debt after which the management start to reap significant rewards, or sell the business on.

2. The second scenario is altogether riskier. If the company’s the new investors don’t have sufficient capital, or bank debt borrowings it would be necessary to borrow private equity funds. This results in incurring multiple levels of debts to banks, shareholders and venture capital. The reason I write that this is a risky avenue to take is that often debt can start to spiral, much like having personal loans, mortgages, credit cards, HP on a car etc if you don’t secure profit growth you can fall foul of multi level debt and lose control of the company , or worse still be put in administration. Many companies with VC debt go bust even though they make a profit, because they cannot service the debt.

In a departure from the above scenarios, the MBO I’m currently conducting is being paid for personally in total and upfront, so there is no borrowing and subsequently no debt incurred. Admittedly, this is rare but it means that the share capital in the company will be stronger with no risky commitment to VC’s, no bank debt and no interest or capital repayments to prevent ongoing continued re-investment into the business.

Ultimately, if you’ve got years of service invested in the business, and are passionate about securing its future, an MBO is the best option available to own a business without having the risk of starting from scratch, but there is no such thing as a free lunch. If you want to change your business life, MBOs offer an exciting and attractive opportunity but they are not risk free so work out how much you need to make to service your debt and be sure you can achieve that today without relying on 20 per cent compound growth!

Nigel Cooper is chairman of Zibrant.

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