The news that Paperchase just completed a £30 million MBO from the Borders Group in the US may be an indicator that the flagging buyout market is at last picking up. According to data from the Centre for Management Buyout Research (CMBOR), the first half of 2010 has seen more buyouts than all of last year with figures already reaching £8.1 billion compared to £5.6 billion for 2009.
The reasons for undertaking a management buyout can vary from trying to escape a divestiture by the parent company, to save jobs or to maximise the financial benefits management receive. However, they are a risky proposition not only for the financial backers of the management team but also for the sellers. An MBO is different from other sales as the management team not only works for the seller’s organisation they are also privy to information that outside acquirers would not typically have access to (especially if the company is private). There is also a real concern that management may (subtly) try to manipulate stock prices downward to obtain a cheaper buying price. The perceived conflict of interest of a team that, as management, wants the highest stock price possible for the shareholder but, as a buyer, wants the lowest suggests that there should be controls in place if management stands to make a large profit from the sale.
Owing to these stressed conditions for buyouts, we asked Members of Criticaleye who have completed MBOs for their advice on completing the purchase.
The current economic environment is making it more challenging for management teams to obtain financing and to complete purchases. According to Robin Johnson, Partner at Eversheds, whilst MBOs have picked up in 2010 and are more on the agenda, trade sales are still more likely to happen. “It will be at least two years before MBOs become a more viable option,” he says. “Sellers are more comfortable with trade buyers as they have more certainty than management buyers.”
Carl Wormald, Director at Lloyds Development Capital (LDC) says, “The current environment for MBOs remains quite difficult, however momentum is starting to build in the mid-market MBO arena, partly driven by pent up investor demand. The general economic uncertainty continues to make it difficult to easily assess companies’ prospects and the accuracy of their financial data, such as key profits projections. Due diligence is also harder to undertake under these circumstances as it’s difficult to spot potential risks when the business background is so fluid.
“The lack of debt is obviously a continuing constraint. However, more recently, the debt markets have started to improve. Also, vendors now have a more realistic view on the worth of their businesses. All of this means that, though it will be some time before volumes return to pre-2007 levels, we do expect more MBO activity going forward. Certainly our own experience reflects this as we have already completed seven MBOs and we are working on a number of others, which we expect to complete in the second half of this year.”
Martin Balaam, MD of BT Engage IT, gives the following advice, “If the current owners are putting the business up for sale and you will be in competition with others, think very hard as to whether you want to do this, as a trade buyer with cash usually wins over an MBO team trying to raise debt. In this situation, ensure that you get an exit package sorted out and a bonus for helping to sell the company at the highest price - you may end up with lots of late nights, no company and no job.”
Preparing for purchase
When looking to do a buyout it is important to understand the business you are attempting to buy. “Totally understand the business, every part of it,” says Geoff Quinn, Chief Executive Officer at TM Lewin & Sons Ltd. “Be completely honest about the business because everything will come out in the long run.”
Picking the right team to work with is vital. Not only will they help run the business but you will be spending months with them preparing for purchase and, under this type of stress, there is no doubt that personalities will clash and people will crack. It is therefore critical that you get on!
“Prepare your strategy, then pick a team that can deliver that strategy,” says Geoff. “You need solid people at the top and those that complement the methods of the CEO.”
“From a chairman’s perspective, it is important that the legacy of the company remains intact, throughout any changes in financing or ownership. To do this an organisation needs a skilled executive team and strong strategy. As chairman it is my duty to help the CEO and his management team realise ambitious growth plans as well as challenge decisions,” says Paul Mason, Chairman of Radley and Co Ltd.
Management teams need to get proper advice up front. Appointing the right advisors is paramount – make sure you hire someone that is not involved with the business and that can work exclusively with, and for, the management team.
Mark Hunter, Chief Executive Officer of Airclaims Ltd says, “Take time to find the best and most appropriate advisor and lawyer to help you through the process. Early in the negotiations you will quickly develop a picture of their level of understanding of your business and how available they will be to add their support when negotiations start to hot up. Airclaims's management were extremely fortunate to have Baker Tilly and Olswang advising.”
There are those that tend to shy away from private equity or venture capital, as there is a misnomer that private equity funds will come in and start running the business. However, the right PE or VC financers can help the management team enormously. Look at many financers and understand their intentions, this will help with choosing the right partners. Getting a blend of financing is important, not least so that you don’t end up with all of your eggs in one basket.
Mike Norfield, Chief Executive of Team Telecom Group, says: “The key to the success of an MBO is ensuring you have the right partners – private equity and banks – who you will be able to work with not just on the current deal, but also in the longer term. It’s easy to get caught up in the here and now of a contract but, for the growth of your company, it is vital that all partners share your strategy and goals for the future.
“In the case of Team Telecom Group we operate with a ‘buy and build’ approach, so it was all about securing the investment for growth and ensuring our partners were in full agreement with the direction our operations are taking. I would also advise ensuring all of your terms are in line with the agreed strategy and that your future terms are not adversely affected for management when you do use any facility agreed.”
Mark says, “Make sure that you give yourself a choice of several PE providers at the outset and think through very early on what you are looking to achieve out of a deal for your MBO team. Work closely with PE bidders to understand their aims and culture. You may have to work with them for five years or longer, so form a judgement as to fit best with your own targets before proceeding. Then make sure that the right PE Investor Director with the most appropriate sector knowledge and skill base joins your board.”
Robin asserts that MBOs usually go wrong because management did not understand the cash flow needed to pay the debt. Bob Emmins, Finance Director at ABF Ingredients, who completed an MBO out of Campbell’s, says, “Focus on cash, not on profits. You have to be realistic about how much cash is needed to run the company.”
According to Robin, every MBO team he has worked with has underestimated the time it takes to complete the deal. “Write off at least three months of your life,” he says. “Not only are you doing your day job, you are working on the deal on top of that.”
Although completing an MBO is difficult and time-consuming for the management team, “it can be very satisfying when it is done,” says Bob.
Please get in touch if you have any comments about the issues in today's update.
I hope to see you soon,