10.5 minutes read
For many business owners, selling their company to exit is the ultimate reward for years of hard work. Most of the wealth in the world is capital wealth, not income, and realising this wealth can be an important part of a business owner’s journey and the peak of their ambitions. In a world of abundant capital, a Private Equity (PE) sale may be the optimal route for you to sell your business. Investors, who are desperate for returns and low debt costs, have boosted the level of Private Equity funding to new heights, enabling them to look for buy-outs in all sectors. The question is, should you consider selling to a Private Equity firm in favour of a trade deal?
What is the difference?
A trade sale with the four corners of mergers and acquisitions – economies of scale, synergy, shareholder value, and positive disruption will present a higher initial value, provided that your advisor manages the auction process (marketing at offers) and creates a choice of buyers. However, the challenge is finding a strategic trade buyer with all four corners – some sectors or businesses just do not have that level of attractiveness. It may be more cost-efficient, for example, for the trade buyer to simply compete organically rather than acquire a business. If your deal is not a perfect trade sale whilst trade buyers are distracted by inflation post-Covid-19, a Private Equity deal is a very good alternative. Sitting with available funds burning a hole in their pockets, valuations are highly comparable with the deal structure probably representing the biggest difference between a trade sale and a Private Equity investment.
Typically, a trade sale will have earn-outs, whereas Private Equity firms will expect sellers to retain a stake in the business. This retained stake will potentially provide a significant upside and yield for sellers further down the line. Trade buyers will often seek synergies and merge the acquired business into their existing operations whilst Private Equity will bring capital to the table to drive growth, increasingly through further acquisitions or by expanding into new territories or products. Capital is the fuel that fires the growth, and without it, reaching the next level can be a real challenge, or it takes too long, thereby missing the opportunity. Private Equity firms bring real expertise in scale-ups.
Private Equity deals
The downside of Private Equity deals is that high leverage increases pressure on cash flow and the team, which can result in team casualties. If you are a founder entrepreneur this can be very challenging to see but the upside is the chance of securing typically 3-4 times the initial value on any retained stake. This means that seller entrepreneurs can de-risk from the initial sale and achieve a second material return on a later sale. With low yields in other asset classes, why would you not back your business for growth?
The catalyst for growth is partially driven by expertise and this is facilitated by Private Equity’s access to the best talent, but also, and as importantly, by the change in risk profile which drives the scale-up of the business after a Private Equity deal. With Private Equity firms having access to capital, they can take higher risks than the entrepreneurs to create double-digit growth. Having sold the majority stake, if the entrepreneur or selling team stays involved, having cashed out on the initial stake, they too can now afford to take the same risks to go for scale-up.
When Private Equity deals are well structured, they are great for the economy as the scale-up drives growth, more jobs, and taxes – as per the old saying – “money makes money”. Building a successful small enterprise takes vision and determination, however taking an emerging mid-market business to become a large company requires a different skillset and money, particularly in volatile markets. With Capital Gains Tax under the Chancellor’s eye, with their deal expertise and ability to be agile, Private Equity may provide a better sale opportunity than a trade deal.
Trade deals
Trade deals ideally need strategic trade buyers. The word ‘strategic’ is used beyond gaining the financial value of your business, as the buyer should also secure some other ‘strategic’ play that adds a premium value to the transaction. It is this aspiration of a premium that many sellers seek. Strategic buyers should feel that there is a natural ‘fit’ and the combination of the two creates new opportunities. There may be downsides such as redundancies and perhaps loss of the brand, but usually, the sum of the two creates better businesses, therefore there should be far greater upsides than downsides to this type of transaction for both buying and selling parties.
To secure a strategic buyer, a full auction process is required – with the potential market being confidentially researched in full through targeted and multi-channel approaches to key decision makers alongside Private Equity investors, thus creating a real choice for sellers representing a real return for their years of blood, sweat and toil.
Our research will carefully identify the best strategic acquirers using a combination of global intelligence tools and the tacit knowledge of buyers. Through the synergies and economies of scale available, the business will be worth differing amounts to different buyers, and often it is not the obvious buyers who will gain the most from a purchase. The optimal trade has a “we want, we need” motivation, often leading to an all ‘cash deal’ at high multiples.
Which wins?
A successful exit may be seen in terms of creating a winner. It is often ‘sold’ in this light as who would say “no” to financial freedom, time, wealth, and the removal of leadership pressure? Well, those who get their self-esteem and relationships largely from business life and who have not taken or had the time to nurture other interests may need to think about what their future aspirations are and will probably be better suited to a Private Equity sale with the potential upside on retained stakes and staying involved in some way.
The leap of faith
An exit is a leap of faith into the unknown; a large part of this is psychological. This is not intended to put people off having a successful exit as a goal – the objective is to create better businesses, and acquisitions have a material role in taking some companies from good to great. Not doing a transaction or accepting an exit can be market disruptive and leave too many sub-scale businesses in the market, and perhaps leave owners who have passed their ‘prime’ in control. The timing for the company may be right and great leaders know when the time is right but we do need to acknowledge that creating capital and time wealth in the exit can be a material jolt, and hard as it may be to hear – money is not everything. A sale can create mental chaos and its own set of problems. To quote one vendor, “I have realised that once you are no longer in business, how quickly life goes, and the extent to which having challenges in your life keeps you sharp.”
There are lots of questions to be answered before you even enter the exit and/or business sales process – is it the best time to sell? Is your company worth what you want it to be? Do you need to wait until it is? As all exits are different, so are the journeys after a sale. With every exit strategy, there is a leap of faith – a move from the known to the unknown and that is always exciting. Therefore, on balance, there is no clear answer as both trade and Private Equity sales have their benefits, and both, when managed correctly can result in very rewarding deals. It is probably best to keep an open mind and decide when you have met both types of bidders.
If you think this sounds interesting, please either contact Avondale on +44 (0)1737 240888, our Contact Us page, or email av@avondale.co.uk and together we can examine your opportunities. Alternatively, you are invited to join our next webinar “Should I sell to Private Equity?” on the 22nd of September 2022 by registering here.
