I was inspired to write a short article by a recent event I attended at Katahdin’s CEO club, where we discussed the issues surrounding exiting to a PE firm compared with selling out to a strategic.
These thoughts are based on my own experience and I make some key assumptions but I hope owners find this useful if presented with this choice. For me, each solution is very dependant on the owner’s objectives and of course it becomes more complicated if the owner owns less than 100%.
I’ve listed 20 categories to consider to help shape your strategy.
Notes
- I’m assuming deal values are equivalent. The reality if I was selling a Portfolio Partnership client I would aspire to a higher value with a keen overseas strategic buyer compared with a local PE firm but that’s just me.
- To simplify things I’m assuming one owner at 100%. Of course it’s get complicated with institutional shareholders, family members who are non-management etc.
- I’m assuming the owner would be asked to rollover at least 40% of their holding into Newco. In reality it might be higher.
- It is not certain that the owner’s equity would suffer dilution as the PE invests in the platform by acquiring more businesses to scale, but it is highly likely (no free lunches).
- Straight math. 60% of $50m in the PE case.
- I’m taking a view that because of scaling both organically and through M&A the business will be worth 3 times the value in 5 years when the PE firm sells out.
- Straight math. 20% (diluted from 30%) times $150m.
- Total proceeds from the original sale plus the exit 5 years later.
- PE firms are investing in you and the culture you’ve created. Strategic buyers have their own distinct culture and will want to migrate you across as soon as possible, whether it’s good or bad.
- Being owned by a PE firm will feel like you are still running the ship as long as things are going well! However in a strategic buyer scenario there is no doubt that you will have a new boss who may also have a boss etc. Depending on the size of the buyer you are likely to miss the independance you once had.
- PE firms are incentivised to scale. they want great talent to join the portco. Their contacts will unearth attractive candidates from the marketplace. In my experience large strategic buyers are not great at talent management but of course there are exceptions.
- In 2022 approx 80% of PE money went to follow on acquisitions for their portfolio companies. Scaling purely organically is slow! Most strategic buyers are not set up for serial acquisitions to scale.
- The only way is up for the PE firms. They need you to get to the next level and this is key – you and your management team need to have fire in your belly for this next stage. Strategic buyers should have a post-acquisition strategy to get you to the next level but most don’t.
- There are many sad stories of deal failing post-acquisition with a strategic buyer. Remember overall 90% of acquisitions are a failure in the eyes of the buyer (but much lower with PE firms). The legacy and the brand you’ve built probably has a much better long term future under PE ownership.
- I think on balance a larger strategic will offer more opportunities in the long term. PE form are very focused on scaling and creating a quality business and then exiting. Now that’s not to say that senior roles won’t change and become broader. And having a successful PE exit under your belt is career enhancing.
- Performance is everything. Each PE firm will have different levels of tolerance for under performance. In my experience it is easier to hide inside a larger group with mediocre results.
- Over the last 10 years the PE firms have recognized the need to introduce operational excellence and playbooks to capture the essence of good management. Many large groups (not all) pay lip service to building great processes into their groups.
- Clearly if you want out completely then the PE route is not for you. However if a shareholder is non-executive or a passive shareholder then an exit is expected.
- Earn-out are certainly more fashionable these days especially f there is some doubt on future performance or to close a pricing gap. It is very unlikely with a PE route.
- Telling you story through building a great brand will be part of your success, your super-power. But investing in many brands is expensive and over time the strategic buyer will gradually migrate and consume your brand into their group.
Conclusion
If you are operating at the $5m EBITDA level or above, as the owner of a private company, you have various exit options. Each case needs to be examined on a case by case basis but don’t assume the two options above are similar. They are potentially completely different futures for you and your team.
The Portfolio Partnership is a fractional senior management team of operators. We help owners “build businesses buyers love to buy” by deploying our successful playbooks. We seamlessly join your team to work on the right stuff.
Ian@TPPBoston.com
