Acquisition Funding For Management Buyout & Financing Buyouts | 7 Park Avenue Financial

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Buyouts And Your Formula  For Management  Buyout  And Successful Acquisition Funding In Canada
Management Team Funding For A Buyout In Canada



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management buyout and  company buyouts





Management buyout financing and acquisition funding are all about successfully engineering and executing the finance solution for the business they manage  - and we can pretty well guarantee our clients that ' one size doesn't fit all in a ' mbo transaction'!


Existing management teams rarely do not have all the funds to acquire the business and usually need to raise debt to finance a buyout along with their equity investment given its quite impossible to secure external debt for the total amount needed.



ownership stake


Also, this type of succession plan is often ideal because it requires a knowledgeable and sophisticated buyer that ensures the safety, relocation, or disposal of confidential information. Often, the MBO allows an older generation to cash out of a business and gives control to the younger generation of management.




Let's dig in on resources to require success to acquire all or part of the target company and assist the owner in an exit strategy that works for all parties based on a reasonable purchase price and a solid business plan.






These opportunities also aren't always coming up, so the ability to buy a firm you're associated with or to capitalize on a business purchase opportunity is often associated with the right timing. Funding for a management buyout for management teams is one of the more common methods of owners exiting a business. Never have the words ' skilled management team ' meant more for the management buyout and purchase of the core business. These transactions are rarely in the hostile takeover category.




Both the company's resources and capitalizing on leverage positively allow you to use company assets as a portion of the collateral. Seller financing and external funding will often complete the transaction and in many cases, the seller may wish to participate in some manner and will often have more confidence in a known management team.


Most of the time, the management team takes full control and ownership, using their expertise to grow the business. An MBO/LMBO acquisition for management teams, which can be sizable, is usually funded by a mix of personal investors, external financiers, and the seller, thereby completing this financing for management control.


Lenders are often very comfortable with management buyouts " MBO's " given current management teams are experienced and understand the company's true operations as well as have the expertise to grow the business. An ' MBI ' (management buy-in )is not dissimilar; it's simply the purchase of a company, often by external managers in the same industry. Buyouts done well should be focused on a smooth transition to the new owner/owners. Numerous advantages come out of management buy-outs, even when they are leveraged, as clearly new owners have already managed the company - that clearly reduces risk, and the risk of employee departure would seem significantly reduced.


In most cases, the buyout can be a low-key manner with less risk of being a concern to suppliers, unsecured lenders, and, most importantly, customers! There should be careful planning around a logical process to move forward with the sale. First and foremost, a proper business valuation must be considered and agreed upon in the context of a new shareholder agreement if there is more than one buyer. Now is the time to think about and assess who a logical ' senior lender ' might be on your transaction.




It is essential to know your business financing and new capital structure will not impede growth plans in the newly acquired entity. Knowing you will have financial support on the transaction is obviously key. A proper timeline should also be established, as in some cases, there is an earn-out agreement between the owner and the new buyers.


Whether non-financial business folks like it or not, there has to be consideration given to taxes and related succession issues. Having been managed or closely aligned to the firm, new buyers should determine future profit generation and what type of financing will be needed for working capital and cash flow needs in the company buyout.


This may well be the time to consider some form of downsizing of employees, assets, etc., as regrettable as those latter two issues might be. It is easy for your deal to get ' stuck ' on a myriad of non-financial matters relating to staff, clients, go-forward strategies, and of course, the ever-important ' valuation. '




Purchasers need expert help if they are not qualified to develop a problem valuation on the management buyout as they go through the due diligence process. Suffice to say that business owners always have a figure on what they think their private businesses are worth! They tend to have some ideas on the value of your company target in the business valuation process.


Valuing the business can be explained as a combination of art and science, as many experts say, let alone the human nature aspect of current owners' optimism. There are several ways to tackle the job of addressing the value and the financing of that value - here also is the time to consider the help of an experienced Canadian business financing advisor. Formal business valuations can also be purchased - they are costly but might make sense on larger transactions. Business valuations will always consider some basic issues - they might include profit generation, future growth potential, and the overall asset mix on the balance sheet.


Different outcomes arise based on the method of value you are looking at. If the business is currently generating good profits and a solid return on equity, those value measures are on top of the level of actual fixed assets. Your cash flow forecast, as it relates to past results, should be fundamental in your analysis. Having access to historical financial statements is key, allowing for a ' smoothing ' of sales and earnings. In business, the past is not always predictive of the future. The concept of using ' multiples ' is another reliable way of determining value. Key financial areas such as ' EBITDA, 'sales, and cash flow can be analyzed to determine a range in which a final cost can be substantiated.





Some industries are valued based on a multiple of sales - that number might be 2. A company doing 3 Million in revenue might include a value of 6 Million in its final valuation assessment. The key is to ensure you are comparing business multiples in the same industry! Here publicly available dates may be very beneficial. Hard assets play a key value in the final valuation summary. Many industries, as opposed to service industries, are very capital intensive. The EBITDA model is also frequently used.





Businesses with high asset values sometimes generate lower returns on equity due to the nature of the company. In some cases, appraisals might well be undertaken to determine actual market and liquidation value, and there will sometimes be major differences in these two numbers. Every business based on its financing structure can handle only so much debt - a typical rule of thumb in many industries is that debt to equity ratio of 2:1 is optimal. 


Purchasers of a business should always be aware of debt covenants that might hinder successful financing - Covenant lite should be the goal when it comes to leverage ratios and debt ratios. Senior debt typically comes with those covenants.


Still, every industry is different as some might be very capital intensive. The amount of debt your firm carries and how it finances cash flow will ultimately affect sales volume growth and the firm's potential to grow substantially. As initial planning of the management business acquisition proceeds, a business plan should be developed, which has uses for both the owners from a planning perspective and lenders.


Cash flow growth should be realistic and conservative - this is not a marketing document of the time for a ' hockey stick growth curve for sales projections. At 7 Park Avenue Financial, our business plans for clients include management overviews, industry overviews, cash flow projections, and many other vital aspects of what lenders are looking for in a plan.


Those details ensure acquisition funding success. In some cases, in a shareholder buyout, the owner might agree to a seller financing aspect to the transaction - this is usually well received by lenders who now know the seller has confidence in the management team to take the company forward successfully. In some cases, you might be looking at purchasing a franchise directly from the franchisor or perhaps a current owner who wishes to sell. The Canadian franchise industry can only be called explosive, and it plays a vital role in Canada's economy.


The ability to 'partner' with a franchisor successfully helps guarantee a good acquisition. Some very specialized financing can help complete such a purchase. Let's examine some practical tips and strategies for getting ' unstuck ' on a transaction such as this.


Obtaining seller financials is key to any management buy-out or leveraged buyout. Key point: Many alternative finance solutions are available to buy a business, but they rely on a decent level of financial transparency on how the company is doing, what the actual value of assets is, etc. The ability to distinguish between internal and external financials and obtain current interim financials is critical.


At 7 Park Avenue Financial, we have seen examples whereby senior lenders insisted on seller financing as a part of the owner exit strategy to show all parties commit to the deal.


Purchasers and your financiers will want a proper representation of specific assets and liabilities on the balance sheet. Great care should be taken in qualifying key assets such as accounts receivable... from a simple point... are they collectible?!


Naturally, there is no guarantee that any existing or future A/R item will, in fact, be collectible, and no one is going to guarantee that for you. Some reliable credit checks on the quality of the A/R base are high in the order and look at historical payment trends of the client base.


You also want to ensure there is no right of set-off against the receivables, and it is certainly not uncommon for us to see the A/R as often the most significant asset on the balance sheet. An excellent strategy for Purchasers contemplating a leveraged management buyout funding is to agree on the ability to ' rejig ' the final price subject to A/R collectability.


Naturally, the owners of the company might be reluctant to do that. Is there anything trickier than ' inventory ' concerning classifying quality and the actual value of inventory, which might, of course, be raw materials, work in process, or finished goods? Make a solid effort to quantify the quality of the inventory you are purchasing for obsolescence issues. Plant and equipment should always be appraised in some manner on funding a management buy-in.


This quite frankly protects all parties, and we urge clients to complete an appraisal that includes some component of fair market value, orderly liquidation value, and forced liquidation. Those numbers will vary significantly in any appraisal and play a key role in how assets are financed in a real management buyout.


Of course, it goes without saying that the purchaser should ultimately be comfortable with the quality and condition of the fixed assets on the balance sheet they are contemplating financing. Don't also forget to look at any leases or contracts in place via the current business owner. You will want to make sure these are assignable to yourself in the event of a completed sale.






Purchasers have a variety of options to consider for successful management buyouts. They should also be expected to ensure a personal equity component in the transaction, which typically might be in the 20% range. However, that percentage varies greatly, especially when the deal presumes high leverage.


That personal investment is viewed positively by your lenders, hence the popular saying ' skin in the game '. Some owners might well consider refinancing or selling some personal assets to augment the owner equity. Very large transactions might be assisted by the involvement of private equity funds.




Management buyouts are often the preferred exit strategy for sellers of private companies.


Naturally, bank loans are very commonly the first ' go-to ' by many purchasers. Still, alternative financing solutions are becoming extremely popular, given the rise of non-bank asset-based lending solutions in Canada. Banks, of course, have the lowest cost financing re-interest rates, which are at historic lows. In smaller transactions, one key lender might be involved, while on larger deals, financing might need to be 'cobbled together ' with more than 1 funding source. We have previously referenced vendor takebacks, ' VTB's.' This ' seller finance ' strategy is highly flexible and can often be structured creatively regarding payback terms, rates, etc.


The essence of seller financing is its ability to reduce the cost purchasers must pay for the business. Depending on how the deal is structured, it also gives the seller some input until the VTB is terminated via final payout. ESOP'S, namely employee ownership plans, might also be a financing consideration for more sophisticated sales in larger firms. Mezzanine financing is a natural complement to any senior lending facility and can bridge the financing gap.


If a business can demonstrate good cash flow, mezzanine debt finance should always be considered. In certain cases, it may be beneficial to structure an earn-out payment.


The key benefit of mezzanine funding is that it will allow your other external lenders to consider more financing participation in your deal, especially in LBO financing, where leverage is higher. Some companies may wish to look at public market financing, or as an alternative, private equity but purchasers should recognize that these methods are time-consuming and dilute ownership.


If there is a bottom line in management buyouts, it's merely to ensure you consider all aspects of commercial business financing that might be available. Management must assess how operations will be funded on an ongoing daily basis.




Govt guaranteed loans - The Candian Government Small Business Loan program is an excellent way for smaller firms to be acquired, including franchise finance opportunities. Small businesses are excellent candidates for this program and a loan is an attractive option for franchises as well.




Asset-Based Lenders - (' ABL ' ) These commercial finance firms offer day-to-day funding for operations and are non-bank in nature. Solutions include a/r financing to address the working capital financing component of the collection of your receivables. Solutions could consist of traditional          ' factoring, 'but at 7 Park Avenue Financial, our recommended solutions include Confidential Receivable Financing, allowing you to bill and collect your accounts without a third party intrusion.  'ABL' is excellent when it comes to a  leveraged management buyout for the right people.


Equipment financing can be utilized for the leasing of assets required in the business with respect to equipment and technology.


Business worth is not always the same as asset worth, and ABL expertise has a high value. Inventories can also be financed as a part of an asset-based line of credit solution that allows your firm to combine the financing power of a/r, inventory, and equipment into one borrowing facility.


In almost all cases, this delivers more cash flow than a bank facility but is more expensive. Purchase Order Financing has risen in popularity as more firms experiencing large new orders and contracts that otherwise might not be financeable are now possible. Direct payment to your suppliers is facilitated through this process.




Private Equity funds typically raise money from large investors and acquire stakes in firms focusing on improving operations through cost-cutting and effective management. In Canada, a buyout fund such as private equity deals tend to be for substantial transactions outside the normal MBO process.


Canadian Commercial Chartered Banks - Banks are the 'go-to ' for many businesses due to their attractive rates and tremendous financial offerings capability. Many firms cannot access bank financing because the banks have precise requirements around collateral and overall business qualifications required to get funding, including personal guarantees,  the company's cash flow, outside collateral, and solid personal credit history.


Business Development Corporation Term Loans - The Government Of Canada's Crown Corporation non - bricks and mortar bank provides term loan financing for business acquisitions. Their subordinate financing solutions are very complementary to a deal.






At the end of the day, funding for the business purchase by management will depend on the size of your deal, the reputation of the company in its industry, as well as the assets and cash flow that will propel the company forward. Buyouts are becoming more popular these days due to generational succession. The management of many firms is a logical way to ensure a company's history and reputation will continue. Even a leveraged buyout where a large portion of the company assets can be collateral when financed properly can guarantee the business moving forward.


Well executed management buyouts have a focus on future profitability and ensuring the right amount of financial leverage is being used relative to the company's earnings and cash flows.


If financing costs eat up all the cash flow, productivity and sales growth might be impaired. Otherwise, major cost-cutting will have to be initiated, never a good sign. Doing the right amount of financial analysis and utilizing outside help on cash and debt financing needs is vital. Companies that are distressed or financially challenged can still be financed, but they are often only able to achieve financing via alternative finance means.


Whether the company is doing well or does not require the new owners to ensure that too much debt is not taken on and operating financing daily is fully available. An excellent transaction occurs when you have a profitable company and has key assets that are financeable, i.e. the receivables, inventory, and equipment we highlighted earlier. That isn't always the case, and as we noted, every business and industry is different.



A  successful buyout requires a solid strategic assessment with the right combination of financing in place to ensure the company's sustainability. The best way to transfer business ownership successfully is by minimizing the odds of failure!


Speak to 7 Park Avenue Financial,  a trusted, credible, and experienced Canadian business financing advisor, for assistance in financing the purchase of an existing business and completing your buy-in via leveraged funding for private and family businesses while avoiding common mistakes. Let's get started on your successful management buyout checklist!




What is a management buyout? 

A management buyout of a private company is when a dedicated team of a company's existing managers acquires a business when the management team pools resources and external financing to acquire an ownership stake in all or part of the company business operations they manage for a good transaction value and fair and attractive price.

A company's management team typically takes control of the business if it is for sale, using their expertise to grow the business. Financing usually comes from a mix of personal resources, lenders and financial partners, or in some cases a private equity firm, and oftentimes money that was leftover in the initial purchase agreement. The first step in the transfer of ownership is usually gradual, over several years. The final transaction will be transparent; stakeholders are gradually involved before it happens.

Management teams / existing managers will invest a certain amount of required capital depending on the source, and then banks and commercial finance companies, and asset-based lenders fund what is needed for the buyout remaining portion. Management buyouts are conducted by managers to get a financial reward for company development.


What is mezzanine financing?

In its simplest form Mezzanine financing is an intermediate form of capital that sits between debt and equity with features from both. Mezzanine finance is debt that is higher risk than other loans but provides more features in exchange.

How is the MBO structured?

In an MBO, a company's management team combines resources to acquire all or part of the company they manage. Team expertise allows for successful control and ownership and moving the business forward.



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Stan Prokop is the founder of 7 Park Avenue Financial and a recognized expert on Canadian Business Financing. Since 2004 Stan has helped hundreds of small, medium and large organizations achieve the financing they need to survive and grow. He has decades of credit and lending experience working for firms such as Hewlett Packard / Cable & Wireless / Ashland Oil