How To Conduct A Management Buy-Out
Newable CEO Chris Manson discusses his key learnings on managed buy outs with Growth Business.

A struggling business, or a business where the owner is looking to move on, could really benefit from a management buy-out. If your business isn’t in the best shape, senior staff can step up and perform a management buy-out.

However, it will demanding on the part of the management team wishing to buy into the business. But what does a management buy-out involve?

How do you know that an MBO is right for your business?

It’s best if your business needs improvements or if you want to move on to the next stage in your career or life and hand the business over to your management team.

“Compared to a trade sale, an MBO provides the big advantage of knowing that the existing management team will be the ones to take the business forward,” says Manson. “This provides reassurance to many vendors, particularly those of longstanding family-owned companies, that the staff and values of the business will be preserved.”

What does the management buy-out process entail?

Manson says that management buy-outs may not even be pre-meditated:

“MBOs are mutual and often arise naturally; it might be an informal conversation between the management team and the owners or founders of the company. The catalyst for this could be the existing owner wanting to retire or move onto other projects, a group wanting to sell a subsidiary or the management team having a new vision for the company’s future.”

Before you pack up, your team must put together a business plan.

“The management team will need to have developed a robust and credible business plan that shows immediate, mid and longer-term actions and forecasts, before approaching the owner with an offer. Working closely with appointed legal and finance advisors, negotiation of terms can then commence before the management team raises the required finance, although it is always useful to have an understanding of what is possible.”

The next step is your classic due diligence to pinpoint stipulations such as an earn-out agreement for the vendor if the business surpasses certain performance metrics after the buy-out.

“This can help to maximise the value of the business for the vendor and reduce risk for the MBO team and their backers,” says Manson.

An MBO typically takes three to six months to complete. On top of your business plan, you’ll have a 100-day plan, stating exactly what will be done during that first period. The company must be able to produce timely and accurate monthly management accounts and short-term cash projections, in order to underpin funders’ confidence in the MBO team and their forecasts.

What are the advantages and disadvantages of a management buy-out against a trade sale?

“An MBO will result in less disruption than a trade sale, which can often lead to job losses or significant changes as the new owner implements the changes they want,” says Manson. “However, depending on the specific industry and market conditions, a trade sale might net the owner a larger lump sum, if there are significant synergies available to a trade buyer.”

He also says that selling to a trade buyer can be a lengthy ordeal with increased fees, more disturbance, unwanted wider market attention and negotiation involved.

What should your buy-out plan look like? Are there any templates that you’d recommend?

“Every business is different, and every buy-out plan will be different, so I would try and avoid any pre-set template,” says Manson. “The plan has to be specific to the business and the opportunity to help the financial backers really get to grips with the business and how it is expected to grow under new ownership.”

“Every buy-out plan however does require a detailed and flexible financial model, for a minimum of three years, which includes a profit and loss, balance sheet and cash flow statement. The model needs to be sufficiently flexible to help the investor and any debt provider to understand what drives the growth and how any debt finance can be funded.”

What sort of funding is available for MBOs?

Manson says that the management team will usually need to contribute financially to the transaction, in order to demonstrate commitment, but notes that the vast majority of funding tends to come from third-party sources. Other equity funding sources could be in the form of private individuals, suitable private equity funds and the vendors themselves.

MBOs are usually funded by a combination of equity and debt, according to former Vantis Corporate Finance boss, Philip Marsden. He goes on to say that debt takes many forms and is tiered according to the security available to the lender and interest cost: the better-secured the funding, the cheaper the debt. Total debt funding available to a business can be up to 2.5 times current or expected EBIT or EBITDA.

Finding equity and debt funders, plus completing their due diligence investigations, can take around three months in and of itself. But if a business is in distress, there may not be time for this, so funding will either have to come from incumbent lenders and backers, or a specialist turnaround investor, he adds.

Equity finance includes the management’s own contribution, which individually could be a year’s salary. But the total contributed by the team is more important. Vendors may also make personal loans to the individual team members.

“It used to be that a management team could seek borrowing from their high street bank and equity from smaller private equity houses, including venture capital trusts (VCT),” Manson points out.

“However, VCT legislation has changed in recent years and many of the traditional banks are not really interested in small to medium-sized businesses because the deal costs are uneconomic for them and they have focused on larger transactions.”

 

What are the marks of a successful management buy-out?

A smooth management buy-out is pretty self-explanatory, according to Manson.

“A successful MBO should provide a smooth transition period with minimal disruption to the company’s operations, be they customers, its supply chain or its own staff. Ultimately, the business continuing to prosper and grow is the acid test for success.”

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