Top 10 reasons why your management team might be able to afford your business
1. Personal wealth
Ok, let’s get the obvious one out of the way first. It might just be that members of your MBO team have personal wealth. And you might not necessarily know about it. Just because they are working for you doesn’t mean they’ve revealed their true financial circumstances. Perhaps they have inherited money, have significant equity in their homes, or have simply saved and invested wisely over the years.
2. Family wealth
Likewise, you don’t necessarily know the financial status of their partners, or their close and extended family and friends. It could be that they have wealthy contacts keen to support the MBO team and invest in a sound business opportunity like yours.
3. Bank support
Banks are keen to lend money. Yes, I know some people might not believe me, but they genuinely are. Lending is how banks make most of their profits but the proposition has got to be strong. They like security, of course they do, particularly large tangible assets like freehold property or secure debtor books. There are also loans being offered against the future cash flow of a business (a ‘cash flow lend’). The MBO team need to be credible in the eyes of a bank (we can prepare them for this through a bespoke course of leadership and management training if needed) and there typically needs to be some sort of business plan and forecasts to demonstrate affordability. If it stacks up, then why wouldn’t they want to support a MBO deal and secure the banking business going forwards?
4. Private equity
If a business is profitable enough, and really we’re talking a minimum profit level of 500k here, then a private equity firm may be willing to partner with a MBO team and buy the business. They’re usually looking for an ambitious and capable management team working in a business with high growth potential. If that’s the case for your business then private equity is an attractive solution, particularly as many private equity firms are sitting on quite a lot of investment funds at the moment and need to find homes for this cash.
5. Cash in the company
If you have cash in the company then that can be used to help fund a deal. Clearly, the more cash there is in a company, assuming it is surplus and not needed for day to day working capital, the higher the price. But it does at least mean there can be a large cash amount available on completion of the transaction which can be extracted at a tax rate of just 10% (assuming something called Entrepreneurs’ Relief applies).
6. Sell a proportion of the shares only
There’s no rule that says you must sell 100% of the business on day one. If it makes it more affordable, you might like to sell only a proportion of the shares, and then perhaps a second tranche further down the line. We would always recommend that a shareholders agreement is in place to agree how the business is run and how future share transactions will be conducted. The downside, for a seller, of a staggered sale of shares, is that there is no guarantee the existing 10% tax rate (available from Entrepreneurs’ Relief) will still be in existence in the future.
7. Accept deferred consideration
Virtually every deal we are involved with includes some form of delayed payment (or deferred consideration). There are a number of options to structure this, but probably the most prominent is something called loan notes. This is effectively the seller loaning the money to the MBO team to buy the business. A commercial rate of interest can be applied and in some instances security will be available. I appreciate that every seller would prefer to receive all their money on day one, but it’s worth bearing in mind that even rich trade buyers will expect some form of deferment.
8. Split the business
Are there two or more parts to your business? Perhaps they are different trading subsidiaries, or divisions split by product type, or geographical region. If so, you could consider splitting a sale to make them more attractive and affordable to the MBO teams. Indeed, there’s a chance you might even receive more in terms of the overall sale price by splitting it this way. But be careful, to minimize the tax payable it is important to plan the structure of these types of deals in advance.
9. Retain the freehold property and charge a rent
Does the business own and use a high value freehold property? If so this is going to push the price of the business up and although a commercial mortgage should be available, the MBO team won’t be able to get close to a 100% loan to value on the property. However, if you wanted to extract the property from the MBO deal and rent it to the MBO team going forwards then this would solve the funding problem and could prove to be a lucrative ongoing and passive income stream for you.
10. Include an anti-embarrassment clause
Finally, we see some instances where the seller is willing to discount the price as a reward for the MBO team’s contribution and loyalty over the years. Clearly this helps with affordability, but the seller must trust the MBO team won’t sell the business immediately and make a quick profit. This potential embarrassment for a seller can be prevented by including protection in the sale agreement, meaning all or a proportion of any such profits go back to the seller. These provisions only tend to last a couple of years, but they can still be very helpful, particularly if the MBO team receive an unsolicited offer to sell the business for a fantastic price!
If you’d like to explore the potential sale of your business, please get in touch.
Call 0330 024 0888 or email firstname.lastname@example.org
Next month: Top 10 ways to protect confidentiality