INTERVIEW – Tim Mills, Corporate Finance Partner, Answers Your Questions On MBOs

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1. How is the transformation from senior manager to a seat on board best achieved in operational and preparation terms?

If a position on the board is on the table then it is essential that the individual does not feel overwhelmed by the opportunity. They should be invited to observe board meetings and given an overview of the current directors, before being made a director.

Any gap left within the management team by a person moving to the board should be anticipated and the necessary plans put in place ensure the promotion does not have a negative impact on day to day operations.

2. Raising the subject of a MBO can be difficult. Where does the conversation start? How is it best approached?

To enable the topic of a MBO to be raised by management there needs to be a willingness between all members of the MBO team and the business owners. If management are instigating an MBO then they should confirm with the owners their interest and agree who will form the MBO team.

Discussions can begin on an informal basis but should become more formal as matters progress and external advisers are engaged. It is also important to agree who will be responsible for settling the potential fees involved in a MBO. This is particularly important if the deal fails to reach completion.

Business owners that are well advised should have an outline of an exit plan. This may well include the option of a MBO which may lead them to commence discussions with management. In this situation the early decision for management is whether they actually want to become business owners.

3. How do you go about valuing a business for an MBO? What are the main issues?

The approach to valuing a business for a MBO is the same as when valuing a business for a trade sale. It will usually be on a maintainable earnings basis with a relevant multiple applied. However, the value that vendors may agree for a deal with a MBO team will often below what they would require from a trade sale. This is due to a number of factors that only apply to a MBO. These include the vendors passing the business to a team that have helped develop it; the vendors would expect to be agreeing to substantially reduced warranties and indemnities within the legal documentation and a MBO could provide more security for retaining employees than a trade sale.

These factors carry a value for the vendors which they must try to quantify as the overall consideration they will receive from a MBO will invariably be below a sale to an external party.

The key issue for a MBO team is to agree a value that is acceptable by the vendors but does not require the MBO team to agree to terms they feel are unfair.

4. Sourcing funds isn’t so much of a problem in 2016, but choosing an effective funding structure can be challenging. What are the options for structuring a buyout?

The funding structure will be dependent upon a number of variables. These include how much the MBO team have available, how much the bank or other funders are willing to lend to the MBO team, what security is available and how much the vendors are willing to leave in the business as deferred consideration. The choice of funding will also be based upon the size of transaction which may require private equity funding in addition to debt.

The key to structuring the deal is to ensure the funding required fits within the current business, together with the future plans the MBO team may have. The more a deal can be de-risked from an external funding perspective the more attractive it becomes to them. Therefore, including a reasonable level of deferred consideration into a structure is advisable, particularly where the vendors may remain with the business for a period of time after completion.

Structuring a deal that fulfils the requirements of the vendors, the MBO team and potential funders is rarely straight forward and advice should be obtained at an early stage by the MBO team.

5. What are some of the pitfalls along the way to completing a buyout?

Completing a MBO is often quite stressful and can change the personal relationships that the MBO team had with the vendors. This is often the case when the vendors remain in the business for a period after completion and effectively become employees with former management now becoming their bosses.

The transaction can be time consuming and can lead to those involved losing focus on the current business operations. This in turn can impact on trading performance and give rise to concerns for funders even before the MBO takes place.

Ensuring all of the MBO team agree on decisions as matters progress can cause issues and may result in some of team deciding to no longer be part of the MBO before completion.

If any of the above topics resonate, please feel free to contact a member of the PM+M Corporate Finance team on 01254 679131. Whether you are considering a MBO or thinking about selling your business, the team will be more than happy to sit down with you for an initial fact-finding discussion and explain how they can help you make the process as simple and stress-free as possible.