This situation may result in a management buyout, or commonly known as an MBO. Defined as the acquisition of an existing company by the management team, the MBO is financed by a combination of debt and equity. The equity may come from private and institutional investors.
1. A strong team of buyers
Any company must, of course, rely on qualified and talented managers to be successful. However, the team of buyers in an MBO must be particularly characterized by the following:
- Presence of leader capable of assuming the role of CEO;
- Entrepreneurial and managerial skills;
- The ability to manage and operate the business as an owner and not as an employee, and to assume its responsibilities;
- The ability to work as a team and to properly fulfill the post-transaction role.
2. A target company with distinctive features
Features that will serve the MBO include:
- A profitable and viable company;
- The non-essential involvement of the former business owner, in the medium to long term;
- A seller determined to sell to his associates and to go through the whole process;
- A realistic price given the context;
- Logical and clear reasons behind the sale.
3. A high quality business plan
In most cases, buyers will need to provide and present a visionary and strategic business plan for investors and financial institutions. Besides the elements usually present in a business plan, the document should outline the following:
- An in-depth presentation of the new members from the management and ownership team;
- A description of the impact of the transaction on the organizational structure, including changes in the decision-making process (executive or management committees, board of directors, special advisors), new roles and responsibilities;
- The changes in the company’s mission and/or strategy, and the upheavals that these changes will cause. To this end, it would be risky to suggest that, as a result of the transaction, everything will go on as before. A change of ownership will necessarily involve changes within the company. Identifying them beforehand and explaining how they will be dealt with will help the new team gain much credibility from its equity partners;
- Realistic financial projections that will incorporate the changes previously defined in the business plan and the resources (human, material and financial) that will be necessary to achieve them.
4. The financing
As part of the MBO, obtaining the necessary financing for the transaction is a major challenge. The overall financing structure must respect certain financial ratios, be well balanced between debt and equity and be sustainable over time.
The potential shareholders should be prepared to personally invest and to raise sufficient funding to show their good faith in the project. Although the amount is small compared to the size of the transaction, most financial institutions will be more comfortable with getting involved in a project knowing that the proponents have invested a substantial portion of their personal assets.
Cash flows from the target company should support a new debt that could be significant.
The seller will also need to be convinced to participate in the financing of the transaction by a balance of the purchase price under reasonable terms.
Finally, the new owners should be able to quickly overcome their limited understanding of the decision-making criteria of financial institutions and financing alternatives available to complete the transaction.
Overall, the key factors for a successful MBO rely greatly on the level of commitment from both the buyers and the sellers.
On one hand, the sellers must commit themselves in good faith and for the right reasons in the process, knowing that the transaction may take a long time to complete, and that they may sacrifice a portion of the value of their business by selling to their managers instead of making a deal with a strategic buyer.
On the other hand, buyers must be prepared to commit themselves financially and morally. The post-transaction role of each team member must be clear and accepted by everyone. The managing shareholder’s responsibilities are quite different from those of an employee; the buyers who are well prepared will be best suited to meet the challenges of their new standing.
Patrick Whalen, MBA, Vice President – Financial Advisory Services
Note: The masculine form is used throughout this article solely in order to simplify the text.