april 8, 2015 thomas chandler - idaho state bar · negotiating with the private equity buyer april...
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Negotiating with the Private Equity Buyer April 8, 2015
Thomas Chandler
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What Is Private Equity (“PE”)?
Broadly considered as a group of investors who like the business’s prospects and want to profit from the growth – sometimes called “financial buyers”
Contrast with “strategic buyers” – generally existing businesses wanting to expand geographically or by business lines
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Negotiation Structure
Three party negotiations: PE, sellers, managers Two deals:
– Sale of business – exit by sellers – Engage managers – continuation of management
Negotiation paths – Should be simultaneous – Simultaneous negotiations difficult to manage – Sequential negotiations are usually detrimental to
management
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Suggestions for Seller
1. PE perspective – financial buyer 2. Due diligence on PE firm 3. PE adds capital, needs management 4. PE investment criteria 5. PE’s ability to fund 6. Negotiating with PE 7. Deal structure
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1. Financial Buyers
Consequences of negotiating with financial buyers: – Nonfinancial benefits are irrelevant – e.g., will
not pay for synergy – Purchase price is driven by the numbers,
especially ratios – Will seek best deal across multiple industries – Will use uncommon deal structures to enhance
financial ratios
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2. Due Diligence on PE Firm
Seller needs to perform due diligence on PE firm Examine PE’s portfolio of companies Examine investors in PE’s fund Learn from negotiating experiences of other
sellers
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3. PE Adds Capital, Needs Management
Business needs: – Idea – Capital – Management
PE has capital and buys the idea and management
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4. PE’s Investment Criteria
PE usually a fund Fund composed of multiple other investors Fund makes promises to investors:
– Types and size of companies – Return – Duration
Promises to investors drive the PE’s decisions
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5. PE’s Ability to Fund
Bank approval – PE needs bank debt to achieve returns
Cash on hand or PE “calls” for funding Mandatory or discretionary “calls” – investor
approval
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6. Negotiating with PE
Fund cycle PE’s next fund and fund-raising Reputation Mix of investors in fund
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7. Deal Structure
Financial warranties Business warranties Escrows Holdbacks Earn-outs Noncompetition covenants
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Suggestions for Management
1. Management’s negotiations with PE 2. PE’s role in business strategy and operations 3. PE approaches to management compensation
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1. Negotiating with PE
Need for continuity of management Management’s shifting bargaining power Skin-in-the-game and future incentives Need for follow-on equity Due diligence of PE’s portfolio companies and
PE’s attitude as owner
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2. Business Strategy and Operations
PE focus on revenue growth Use financial and not business targets Management’s relations with PE
– New bond
– New financial demands
Management team changes, especially finance Effect of PE fund cycle on management choices
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3. Management Compensation
Performance-based compensation Financially driven compensation Management’s equity rights restricted Compensation affected by:
– PE investment structure – PE fees – Repayment of PE equity
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Summary: Differing Perspectives
Three party negotiations: PE, sellers, managers Different time horizons of sellers, PE and
management Two parallel and diverging negotiations: exiting
sellers and continuing managers Financially driven, not business driven
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Negotiating with the Private Equity Buyer
April 8, 2015
Thomas Chandler 7691991
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