One often-overlooked possibility that many business owners miss when they decide that now is the right time to put their company on the market is the option of a management buyout.

The traditional route to market for owners selling up is to use a business broker who then uses his or her “considerable” database of contacts and marketing reach to find sellers chomping at the bit to buy your company. At least, that’s what most of them say in their sales pitch before they walk away with £5,000 of your money for putting together a recycled information memorandum and spending £300 on a year’s advertising on businessesforsale.com. Forgive our cynicism but we’ve heard too many horror stories about this non-regulated sector of the economy.

Even if an owner does find a good broker, they often get very nervous about their staff finding out that they’re ready to walk away. They’re even more nervous about letting competitors know, even with a non-disclosure agreement in place, that they’re up for sale because how many of them will feign interest to nutmeg the business broker so that they can look in relatively deep details into their financials and other market-sensitive information?

Management buyout – What is a management buyout?

Your existing management team buy some or all of your business from you. The people who are running your company now will be running it after you’ve gone. They’ll control it, they’ll own it, and they’re perfectly placed to profit from the company’s existing strengths and to put right the company’s weaknesses – in theory, at least.

Management buyout – Why would I sell to my management team? Couldn’t I fetch a better price on the open market?

Although there will be tension between you and your management team as the deal goes forward, it will be a lot smoother than the process most companies on the market go through selling up to someone they didn’t know of either at all or that well before the company went to market.

When most businesses are sold, there is normally an “initial consideration” – that’s the money that’s paid to you on the day of completion – and “deferred consideration” – that’s the remaining money that’s paid to you in agreed chunks and on agreed dates after transfer of ownership has taken place.

As most deals are done that way, selling to your existing management team can assuage any fears experienced by staff, customers, and suppliers by the change of ownership. The current management team are familiar with nearly aspect of the company so, although they will make changes over the time, it will feel and seem like “business as usual”. This veneer of normality keeps the whole ship steadier and it should mean that you’re more likely to be paid your deferred consideration in full and on time.

Deals can be done a lot quicker too. Most business owners who have sold their company have had to go through “due diligence”. This is, not to put too fine a point on it, a horrific experience lasting months where the current owners often lose the will to live.

Absolutely everything about your business is questioned during due diligence with the underlying implication that you’re lying about everything. Every gap in the information means the deal may get worse for you – their solicitors will keep chipping away at the originally agreed sale price. It costs a fortune and, for many owners, there comes a point where they are forced to sell because the size of the solicitor and accountant bills have gone up into the tens of thousands and they need the money from the proceeds of the sale to meet these eye-watering costs.

Of course, it’s not always like that. However, whether it is or it isn’t, it takes a long time if the person or company buying from you is a stranger. If it’s your current management team, their solicitors won’t ask for as much information because your current management team will already know most of it.

Where does the money come from?

Each member of the management buyout team will be expected to introduce their own funds to the takeover because this offers funders comfort in the confidence of the management team in the current viability and future potential of the business. Most funders will want each management team member to add one year’s salary to the funding pot.

The rest of the money may come from private equity, bank financing, and refinancing of a company’s debt, stock, equipment, machinery, and property.

Originating in America but increasingly seen over here, vendor loan notes (where you “lend” the management team the money using deferred consideration) are also a popular funding option. However, if the management team can’t make the transition from being managers to being entrepreneurs and they crash your company (that’s not unheard of), then the “vendor loan notes” you offered will never be paid back.

Management buyout – What do the funders want to see?

They’ll want a consistent record of profitability in your business even during times of growth and significant capital investment. They’ll want to see excellent cash flow management skills so that loan repayments can be met and a focus on year-on-year net and gross margin improvements so that future growth can be paid for.

They will scrutinise the skillsets and current responsibilities of each of the management team. They will certainly want a realistic price (i.e. as low as possible). What may be uncertain is your role – some funders will want continued involvement from you on a consultative level (perhaps even as a paid consultant-cum-non-executive director) and others may want you out as soon as possible.

Funder due diligence

Assuming that the funders are happy with the financial performance of the business to date and the ability of the company under new ownership to service the debt taken out to assume ownership, they’ll be worried if your influence over the company prior to the sale was so great that they can’t see the current management running the business without you. They’ll also want reassurance and comfort over the commitments your current management team give on how long they’ll stay post-takeover.

They will almost certainly carry out a lot of research into your market sector to see if it’s at risk from emerging competitors or new technology (i.e. Amazon). They’ll also have cause for concern if only a handful of customers make up a high proportion of your turnover so that the disappearance of those customers would turn a profitable company into a loss-making one.

How does it work?

You and your management team first need to come to an agreement on how much you will sell the business to them for and the structure of the payments before and after completion day.

Your management team will need to commit to a certain amount each that they can invest as well as preparing detailed financial analysis of the company as it is today and as it will be post-transfer, particularly on the serviceability of the financial package used to fund the deal.

Management buyout – Getting a business and its management team ready for the process

MBOs take between 3-9 months and they can involve one funder or a board of funders. The level of complexity behind the financing of the takeover of your business will have a direct correlation on how long it will take.

If this is something you’d like to consider, talk to Burton Beavan about it. Please call us on 01606 333900 or email hello@burtonbeavan.co.uk.