When owners reach a decision to sell their business often the first assumption is to market their business for sale to a third party buyer. But more often there is an alternative option lying nearer to home. A Management Buyout (or MBO) is a common way to sell the ownership of a business to an incumbent management team. For owners, this can provide peace of mind in ensuring a smooth transition for both staff and customers which is usually a high priority when entrepreneurs seek to retire.
For the management team the MBO route will also provide a platform to take ownership of a company they know inside out, without assuming the risks which would not be readily apparent from acquiring another more remote business and undertaking a higher level of due diligence.
However, to be successful an MBO requires both careful planning and execution, sometimes many months and years in advance.
There are a number of key considerations when planning a Management Buyout:
An early Independent Valuation is advisable
Clearly the owner will want to achieve the best possible price when selling his or her business. This may not be as easily achieved via a sale to an existing management team, who may expect a discounted price or may even seek to influence the price by massaging the performance over a period of time, to make the company appear less attractive to a third party purchaser. Agreeing a price early in the process is vital, possibly by reference to an independent valuation.
Skills, training or recruitment requirements?
Does the management team possess all the necessary skills to run the company post-completion? The team should be analysed objectively at an early stage and any skills shortage addressed via recruitment or mentoring.
How can the management team raise capital?
Funding is likely to be an issue. The management team are unlikely to have sufficient personal financial resources to fund the purchase price in full and so will need to raise capital from either debt or equity, or more likely a blend of both. A solid business plan and robust corporate finance advice are a necessity.
Funders are likely to require a demonstration of commitment from the management team – sometimes referred to having some “skin in the game”. This demonstration of confidence in the proposition usually involves either an introduction of personal funds into the deal or guarantees and indemnities typically secured on personal assets such as the matrimonial home.
Deferred payments or an earn-out post MBO
One option is for the deal to be part financed through deferred payments or an earn-out. This is where the seller receives payment in a number of instalments post-completion often linked to the future trading performance of the business. However, the seller will likely require some protections in the form of controls as to how the business will be run which, if not properly structured in the sale documentation, could unduly fetter the day to day management and running of the business by the new owners.
Don’t overlook the shareholders agreement
One document that is often overlooked in the eagerness to conclude the deal is the shareholders’ agreement between the various members of the management team. A carefully constructed shareholders agreement is crucial to the ongoing relationship between the new managers as the journey post-completion is likely to have a few twists and turns. A well-crafted shareholders’ agreement will deal with a number of key issues including what happens if one member of the team leaves (or is required to leave) the company and what decisions will require majority or unanimous consent.
How long will an MBO deal take?
The deal process is likely to take some time – typically around six months or more to complete. Both the seller and the management team can be distracted from the day to day running of the business by the deal process which can become all-consuming. Choosing the right advisers to ensure that the parties are not overwhelmed by the process is crucial.
Embarking on an MBO can be a daunting proposition even for seasoned business owners; but through careful planning, structuring a sale in this way can motivate the existing management team to share in the success of a business, whilst maintaining business certainty for both staff and customers alike. For the seller it provides an opportunity to achieve a successful exit and ensure that the business continues for another generation under their choice of leadership.