Management buy-outs (MBOs) are a fundamental form of business acquisition, enabling the existing management team to take ownership control of a company and its assets. In many cases, this can be a winning situation for all, with the new owners incentivised to grow and develop the business while generating a return on their investment for the departing owners.
Although there can be great value and benefits associated with an MBO, there are also factors to consider and challenges to overcome. One of the most prominent is coming up with funding and making sure the MBO will lead to the company’s long-term success.
It’s vital to be aware of the challenges before committing. We have explored further the factors you must consider for an MBO.
What is an MBO?
In an MBO, an existing management team will buy out the current owners, whether it is part of a group of companies or stand-alone.
An MBO is often seen as an alternative to the sale of a business, which enables the seller from having to find external prospective buyers. It also means the company is left in the hands of a team who already understands it, which removes the need to disclose sensitive information to strangers who may have other motives. For these reasons, it can be an attractive proposition.
Many sellers may prefer to leave their business to an internal team, confident in the belief that they can continue to run it effectively rather than facing the disruption of an external buyer.
The challenges of an MBO
If you are considering undertaking a management buy-out, there are many challenges you need to contemplate. We’ve listed the most prominent below.
Negotiations
The first issue is approaching the topic of the MBO. As an MBO typically involves an internal team, they will likely have an existing relationship with the current owners. This can lead to awkward conversations to broach the subject of a buy-out, especially if the owner or parent company is not looking to sell currently.
This theme will likely continue into the negotiations of the MBO, with the internal management team needing to work with the owners to find conditions that suit all parties. This includes agreeing on a price – and the company’s perceived value may vary between each side.
In some cases, the new team can choose to downplay the value of assets (or the existing owners overstate it) in a bid to warp the final price, to the detriment of the other side. This is where independent valuations will prove crucial.
Both sides will likely have a strong opinion about how the company should be run, formed from their experience. If mishandled, this can lead to disputes. That’s why you will need to seek appropriate guidance for the process that enables things to progress while minimising relationship damage and disruption. Anyone you bring in to work on the MBO should also be aware of the context and able to tread carefully accordingly.
Raising finance
The next obstacle – and often the most significant – is acquiring the funding to cover the buy-out. However, funders tend to look more favourably on MBOs due to the inherent knowledge attached to the management team. Depending on the route you chose, it may require the management team putting in substantial capital themselves.
There are many forms of funding that can help, including:
- Private equity and other investment
- Buyer investment – including use of personal assets
- Bank loans and other debt finance
- Earn-outs or deferred consideration
The good news is that MBOs are typically viewed as good investment opportunities, with financiers encouraging the management team to take the risk of ownership to grow and improve profitability.
However, you will need to spend time approaching investors and funders until you find one that works for your requirements and is willing to supply the money you need. This requires time and patience, and you may face a great deal of rejection before you find an agreement that works. The acquisition may involve a number of funders and involved blended finance of equity and debt.
It is worth speaking to an independent advisor to identify the best financial routes for the new team and the existing company.
The long game
Once funding has been secured and the buy-out completed, patience is required as the company adapts to the change. While this should theoretically be less disruptive than a new team taking over, it will still need staff to recognise the new ownership team, which may be challenging if they are familiar with the managers in their previous roles.
The new ownership team will also need to adapt their mindset to become leaders instead of their previous positions. Even if you already have a vision for the company and beliefs about its operation, this can be easier said than done.
That’s why you must be confident from the off that you have the skills and expertise you need to progress the business, including a careful strategy that ensures its future success.
Conclusion
When an owner is seeking to exit their business, an MBO is a valuable option to place the business in capable hands and, ideally, prolong its legacy.
An MBO is a great way to keep a business ‘in the family’, allowing those who have spent time working there to move to a leadership position and drive change. Due to this, sellers may favour this option, especially if they want to give their existing management team a chance to step up and minimise disruption.
If you choose to pursue a buy-out opportunity, it is essential to understand the specific challenges. This will help you know what you may experience from the start and structure a deal that works for both parties and ensures the long-term resilience of the company.
The most significant barrier to overcome in any scenario is securing the appropriate finance. Fortunately, many options are available to those looking to take over a business, but it is crucial to find one that suits your requirements.
If you are looking to fund a management buy-out, we can help you identify appropriate external solutions.