Steve Sink is managing partner of Phoenix Affiliates Ltd.
If you are looking to sell your company, you may want to consider a private equity (PE) firm as a potential buyer. Most company owners are not familiar with PE firms and how they can help business owners realize their exit goals. This piece provides a general overview of PE firms, their investment philosophy, and how PE firms are compensated to determine if they are a good fit for you.
A PE firm is a financial buyer that invests in private companies of all sizes, but usually with an EBITDA in excess of $2 million. Some firms invest across many industries, while others are focused on specific industries such as technology or energy services.
They are a good alternative if you want to sell your company without inflicting severe and immediate change.
The typical structure involves a limited partnership where the PE firm acts as the general partner and the investors are the limited partners. The partnership has a finite term, usually 10 years, at which time the PE firm will sell all of the investments in order to return the original capital plus gains to the limited partners.
In addition to capital, PE firms provide other resources to their investees such as access to customers, industry expertise, and strategic direction, which can be invaluable for company owners looking for support in a capital partner.
PE firms look for companies with:
1. Solid management teams. PE do not have the management team to run the business on a daily basis and one of their worst nightmares would be having to run the business!)
2. Recurring revenue streams.
3. Pricing power.
4. Strong balance sheets.
5. Free cash flow.
7. High entry barriers.
PE firms may bolster the business by providing capital and expertise in specific areas.
PE firms will normally take a controlling position to ensure that the PE firm has control. PE firms may also use different equity instruments to invest, including non-voting preferred shares or subordinated debt with an equity kicker.
PE firms make money by several methods:
1. Charging their portfolio companies financing fees or an annual management fee.
2. A success fee if returns exceed a certain number.
3. An exit fee when the fund is closed and the funds are distributed.
The main advantage for a Seller to use a PE is that “Second Bite of the Apple.” Owners who retain an equity position will often receive a higher payout than their compensation in the initial transaction. So, if you decide to use a PE, choose wisely.