Dr McDeal title Selling your business to management

How and when should I raise the subject of a buy-out?

This is a delicate topic. Once you’ve opened “Pandora’s box” with your managers, the topic of an MBO can be a difficult one to control. Best therefore to make absolutely sure that a buy-out can deliver you an acceptable result before you talk to your team. Seek out an experienced firm of advisers and invite them to tell you whether or not a buy-out is deliverable and, if so, at what price. If their advice is that you will not be able to achieve the value that you want, do not create a problem for yourself by discussing a buy-out with management. Instead, focus on the trade sale route.

How can I make sure that management offer the best price for my business? Should I invite competitive bids from trade buyers?

I always warn vendors that a “savvy” management team will easily and quickly turn those tables on you. Most trade buyers will simply not bid against a management team, because they are not prepared to buy a business and inherit disaffected managers who may leave to seek a buy-in opportunity elsewhere. Even if some buyers are prepared to bid against the management, they are likely to insist on meeting them before making a written offer. The management, in turn, may be tempted to give a downbeat view of future business prospects.

I’m no walk-over. But how do I keep on top of negotiations?

Tell the management team that you will give them only six to eight weeks to make a detailed written offer on the letterhead of a venture capitalist at an absolute minimum price of £Xm. If they cannot find a backer at that price, then you should expect their total support to sell the business to a trade buyer.

Don’t leave your management to devote endless hours to an openended and distracting search for funding. A short, simple process means that they will spend more time on managing your business.

My mates tell me that venture capitalists are paying good prices.How do I get to them if not via my management?

Venture capitalists are prepared to buy businesses worth £10m or more themselves, as principals. You may think that is no different from backing an MBO - but it is.

By acting as principals, venture capitalists are able to compete on price with trade buyers. Once they have agreed a deal with the vendors, only then will they decide on the management’s equity stake. Inevitably, it will be a smaller stake than if the management had initiated a buy-out. If appropriate, the venture capitalist will inject external managers into the business, because they are calling the shots.

VCs accept they may be required to bid not only against trade buyers but also against other venture capitalists. More important, trade buyers are happy to compete directly with venture capitalists.

A management buy-in team has just made an unsolicited and unexpected offer. Is it time to book my Caribbean cruise?

A management buy-in team could well show you a letter from a venture capitalist offering to back them to buy a business, possibly up to much more than your business is worth. But beware: it is not a blank cheque, waiting to have your name filled in. It’s more like a letter of comfort, sometimes distributed by investors quite indiscriminately, to persuade the buy-in team to come back to the venture capitalist when they find a business to buy.

Don’t rule out buy-in teams, but be aware that venture capitalists have to be hard-nosed and dispassionate buyers. They invest purely on the merits of the management team, the business opportunity, and only if the price is attractive to them, as they won’t know if any of these are true of your business when they write their letter.

I’ve heard some worrying stories. Can I really trust my management team or will they stab me in the back?

Only you know the answer to that but it’s good to act cautiously. The vendors of a private company telephoned me to say that their trade press had published an article claiming that their business was about to be sold to the management team. The truth was, they had received an unacceptable offer from management and a decent offer from a trade buyer. The owners were convinced that the management team had deliberately leaked the story to kill off the sale. In these cases, you should appoint experienced corporate finance advisers to keep tight control of the process. If a buy-out fails, the business will never be the same again.

How does management decide who will make up the team and own shares?

In some cases, this will be obvious but in others there maybe a raft of people that the “core” management team wants to include to incentivise them. There is only ever a finite level of equity to distribute to the management team, so the
more people involved, the less is available for each individual. The team participating in equity should be those people who are principally responsible for delivering the business performance. There are other ways of incentivising the next tier of management which does not necessarily involve equity but which achieves the same (or in some cases a better) result.

One myth that should be dispelled is that if management put in a little bit more money they will get a larger proportion of the shares. The impact of any increase from management will only be minimal in the overall scale of the deal and consequently any increase in shares would also be minimal.