MBO Guide - Turning Executives into Owners

DVR Capital
Corporate finance for progressive businesses.

The key to buying your business
An insightful guide to MBOs

DVR Capital Limited
5th Floor, Portland House
4 Great Portland Street
London, W1W 8QJ
United Kingdom

Tel: +44 (0) 20 3371 7248
www.dvrcapital.com

DVR Capital An insightful guide to MBOs

Table of Contents

1 MBO Fundamentals ....................................................................................................................................................... 3
1.1 What are MBOs, MBIs and BIMBOs? ............................................................................................................. 3
1.2 Why do management teams undertake MBOs? ....................................................................................... 3
1.3 Where do MBO transactions go wrong? ...................................................................................................... 5
1.4 What transaction costs are incurred undertaking an MBO?............................................................... 6
2 MBO Market Context ..................................................................................................................................................... 7
2.1 How common are management buyouts? .................................................................................................. 7
2.2 Where do MBO opportunities come from? ................................................................................................ 8
2.3 What makes an attractive MBO opportunity? .......................................................................................... 9
2.4 What does a MBO team look like?.................................................................................................................. 9
3 Raising Money for the Management Buyout .................................................................................................... 10
3.1 How much funding is required? .................................................................................................................. 10
3.2 How is the purchase price established? ................................................................................................... 10
3.3 How are MBOs structured financially? ..................................................................................................... 11
3.4 How much money does the management team have to invest? .................................................... 12
3.5 What are equity investors looking for? .................................................................................................... 12
3.6 How do performance ratchets incentivise management? ................................................................ 13
3.7 How should MBO teams choose an equity provider? ......................................................................... 13
3.8 What are debt providers looking for? ....................................................................................................... 14
3.9 How should MBO teams choose a debt provider? ............................................................................... 15
4 Dealing with the Vendor........................................................................................................................................... 16
4.1 Do we need to approach the vendor before pursuing a buyout?................................................... 16
4.2 How should the management team approach the vendor? ............................................................. 16
4.3 How is management’s conflict of interest addressed? ....................................................................... 17
4.4 What advantages does a MBO offer to vendors? .................................................................................. 18
5 MBO Process and Timeline...................................................................................................................................... 19
5.1 What is a typical buyout timescale? ........................................................................................................... 19
5.2 Which professional advisers should the MBO team appoint?......................................................... 20
5.3 What should be included in the business plan? .................................................................................... 20
5.4 How are MBOs legally structured? ............................................................................................................. 22
5.5 What due diligence is undertaken? ............................................................................................................ 22
6 DVR Capital: Your MBO Partner ............................................................................................................................ 22

© DVR Capital Limited 2009 Page 2


This guide is designed for managers who are considering a management buy-out (MBO). It
provides background on management buy-outs, how to spot an MBO opportunity, outlines the
typical buy-out process, funding and legal structures, highlights many of the key issues that
management will face and explains how DVR Capital can assist in negotiating value for the
management team.

1 MBO Fundamentals
This section covers definitions of a management buyout and its variants, the motivations of
management teams, the economics of a buyout for the MBO team, the typical legal structure of a
buyout, industry data on buyout transactions and how to spot a buyout opportunity.

1.1 What are MBOs, MBIs and BIMBOs?
For most management teams, MBOs are a once-in-a-lifetime opportunity to obtain significant
rewards for a small investment:

• A management buyout (MBO) is the purchase of a business by its management, usually
in co-operation with a venture capital firm and supported with bank debt. The
management team gains a substantial equity stake in the business usually for a
relatively modest personal investment. The management team creates value by paying
down the debt and growing the business. Upon sale of the business, typically in 5 years
time, the management team realizes significant gains.

• A management buy-in (MBI) is the purchase of a business by a new management team,
usually in co-operation with a venture capital firm and supported with bank debt.

• A BIMBO is a combination of management buy-out and buy-in where the team buying
the business includes both existing management and new managers.

MBOs, MBIs and BIMBOs are all very similar in nature in that a management team is purchasing
a business with the assistance of financial backers. The key difference between these lies in the
familiarity that the management team has with the business and the ability to demonstrate that
the management has a track record operating together. MBOs are considered the least risky,
followed by BIMBOs then MBIs.

For sake of simplicity, throughout this document, MBOs, MBIs and BIMBOs will be referred to as
MBOs.

1.2 Why do management teams undertake MBOs?
There are many reasons why management teams undertake MBOs including an ability to shape
strategy, gaining more control over the business, obtaining freedom from group constraints and
reducing the fear of redundancy or a new owner. The most important reason why management
teams undertake MBOs is to obtain a significant equity shareholding in a business that can be
grown to yield a significant capital gain within a three to five year timeframe.



Illustrative Deal: Acme Limited

This example shows how a modest investment by the management team in an MBO can reap large
returns.

The management team running Acme Limited agreed to purchase the business from its owners
for £20 million. In addition, the business needed an additional £1 million for working capital
and the transaction fees for the investment banking, legal, tax and accounting advisers totalled
£1 million.

The £22 million total funding requirement was raised from a variety of sources:

• £13 million of bank debt [£12m senior debt + £1m overdraft]
• £8.7 million of venture capital funding [£8m preference shares + £0.7m ordinary shares]
• £0.3 million commitment from the management team (‘skin in the game’)

The management team and the venture capital firm agreed to split the shareholding 30% / 70%
in favour of the venture capital firm. A summary of the funding requirements and sources of
finance is shown here:

Following the MBO, the management team spend the next few years building Acme Limited,
growing revenues, improving operating margins and revitalising the company’s competitive
position. Four years after the buyout, the management team sells Acme Limited to a trade
buyer for £60 million. At the date of trade sale, Acme Limited had paid down half of the bank
debt. Assuming transaction fees of £1.5 million for the sale of Acme Limited, the sale proceeds
would break down as follows:

As can be seen, management’s investment of £0.3 million generated a capital gain of £12.3
million (£12.6 million less £0.3 million).

Note: The above example ignores the effects and use of vendor financing, share options, equity
ratchets and tax.


1.3 Where do MBO transactions go wrong?
Unfortunately, MBOs can and do go wrong for lots of different reasons – most of which are
avoidable with proper transaction management. Common reasons why MBOs never materialise
or do not achieve the desired result for the management team include:

1. The MBO opportunity is never initiated

• Management is not aware that an MBO opportunity exists
• Management is too afraid to initiate discussions with the vendor due to unknown
vendor reaction, heated political circumstances or fear of loss of employment

2. The MBO opportunity is blown

• Management fails to convince the vendor to allow the management team to bid for the
business or cannot agree a first shot before the business is put up for auction
• Management discloses confidential information to third parties without first obtaining
approval of the vendor
• Management cannot secure funding from equity investors and debt providers (team not
credible, unclear business plan, timelines too tight, not right investors, etc.)
• The vendor becomes suspicious that management is deliberately underperforming so
that they can purchase the business at a knock-down price
• The window of opportunity is lost and/or management does not meet deadlines agreed
with the vendor
• Management loses its cool in negotiations with the vendor and destroys the trust built
up between management and the vendor
• Management cannot get the vendor to agree to pricing on realistic terms
• Management cannot agree on who should be in the management team, commitment to
the process, level of personal investment and equity structure

3. The MBO is agreed on suboptimal terms

• Management overpays for the company and/or assumes onerous terms
• Management leaves significant value on the table with equity and debt providers
• Equity investors become very controlling and unsupportive of management
• The business environment or opportunities change and equity investors refuse to invest
further in the business and prevent management from seeking other sources of finance

Your financial adviser can help you avoid many of these pitfalls.



1.4 What transaction costs are incurred undertaking an MBO?
The costs incurred in a management buyout typically include:

• The MBO team’s financial, legal and tax advisers
• The institutional investor’s legal and due diligence advisers
• Bank arrangement fees

While transaction costs vary from deal to deal, the total cost ranges anywhere from 4% - 10% of
the value of the company and varies based on the size and complexity of the transaction.

The good news is that most financial advisers and some legal and tax advisers will structure
their fees to be only payable upon legal completion of the buyout. This reduces the risk to the
management team that if the buyout fails, they are not out-of-pocket.

Nevertheless, the deal-abort costs should be agreed in writing as early as possible to ensure that
the management team is not personally liable for fees in the event that the deal is aborted.

Equity investors often agree to pick-up the deal-abort costs related to the management team’s
legal advisers and tax advisers as well as their own costs of due diligence and legal advisers.

In some circumstances, vendors may also be prepared to assume the deal-abort costs where the
vendor may withdraw from the sale of the business.



2 MBO Market Context
This section covers market data on volume, value and sources of management buyout
transactions and the factors that make an attractive MBO opportunity.

2.1 How common are management buyouts?
You may be surprised to learn that in the UK there are over 600 MBO transactions a year and
that MBOs represent about half of all M&A transactions – a ratio that has held constant for many
years as shown below.

Overview of UK MBOs and MBIs (2006)

General M&A Activity MBO/MBI Totals MBO/MBI %
No. Deals Value (£m) No. Deals Val (£m) No. Deals Val (£m)
2000 587 106,916 623 23,963 51.5% 18.3%
2001 492 28,994 644 19,548 56.7% 40.3%
2002 430 24,236 639 15,500 59.8% 39.0%
2003 558 18,679 715 16,308 56.2% 46.6%
2004 741 31,408 709 20,490 48.9% 39.5%
2005 769 25,134 694 24,169 47.4% 49.0%
2006 777 28,501 683 26,542 46.8% 48.2%
Source: CMBOR/Barclays Private Equity/Deloitte

MBOs take place in all sectors, regions and size ranges. In 2006, the breakdown of MBOs by
sector was as follows:

Sector Distribution of UK buy-outs / buy-ins (2006)

Total Avg
No. Of Value Value
Sector Group Deals (£m) (£m)
Business & Support Services 87 2,438 28.0
Financial Services 32 1,511 47.2
Food and Drink 28 3,279 117.1
Healthcare 21 1,130 53.8
Leisure 39 5,494 140.9
Manufacturing 163 2,522 15.5
Paper, Print, Publishing 17 91 5.4
Property & Construction 31 2,436 78.6
Retail 52 3,228 62.1
Technology, Media & Telecoms 83 2,135 25.7
Transport & Communications 19 1,049 55.2
Others 86 1,007 11.7
Total 658 26,320 40.0



2.2 Where do MBO opportunities come from?
MBO opportunities originate from many sources. According to research from CMBOR/Barclays
Private Equity/Deloitte, between 2001 and 2005, family and private companies topped the
source of deals in the UK.

Sources of UK MBOs and MBIs by volume (2001-05)

MBO Deal Source %
Family & Private 29%
Local Parent 28%
Receivership 10%
Secondary Buyout 10%
Unknown / Other 10%
Foreign Parent 9%
Public to Private 4%
Total 100%

Behind the numbers, there are usually situation-specific factors that indicate the potential for a
management buyout.

• Retirement Sale: The owner of a family business may wish to retire and has no
successors

• Sale of a Subsidiary: A corporation or group may decide that a particular business or
geography is non-core and wishes to sell off the business

• Unwanted Acquisition: A major corporate acquisition results in unwanted subsidiaries
or businesses that must be sold to comply with regulation

• Conflicting Shareholder Interest: Divergent shareholder aspirations create the need
for some of shareholders to be bought out

• Public to Private: A public company is better suited to be run as a private company

• Need to Realise Investment: Institutional owners (e.g. VCs / PEs) need to exit its
investment

• Company in Receivership / Administration: A receiver or administrator may wish to
sell a business as a going concern



2.3 What makes an attractive MBO opportunity?
To evaluate whether a particular company is suitable for a management buyout, the existing
business must be analysed and several factors must be considered and evaluated holistically.
These include the following:

More Attractive Less Attractive
• Vendor with reasonable pricing • Vendor with unrealistic pricing
expectations expectations
• Track record and visibility of generating • Development stage companies or
free cash flow companies with erratic cash flows
• Proven management team • Newly formed management team
• Defensible market position • Cyclical industry
• Stable industry sector • Significant capital investment or R&D
• Secure contracts requirements
• Spread of customers and suppliers • Highly concentrated supplier or
• Commercially-viable on standalone basis
viable customer base
• Integrated group business

It is often the case that the business is partly-integrated into a group with a moderate amount of
he integrated
inter-company trade and capabilities such as information technology, operations and marketing
company
shared across several group companies. These interdependencies create both risks and costs cost
when pursuing a management buyout and thus need to be carefully assessed.

2.4 What does a MBO team look like?
A typical MBO team will comprise the 3 or 4 senior executives from inside or outside the
pical
business:

• Chief Executive / Managing Director
• Finance Director
• Sales Director
• Production / Operations Director

It is quite common that the management team is incomplete and external executives need to be
recruited. What is important to financial backers is that there is a core team with a balanced
range of skills and a track record of success that can be built upon.

Equally, the management team will need to provide prospective financial backers a compelling
strategic plan for the business and convince them that the management team has the skills and
track record to deliver against the plan.
o


3 Raising Money for the Management Buyout
Most management teams will not have sufficient funds to purchase their business outright and
will need to look to a variety of outside sources for funding. This section covers the amount and
composition of funding, how much the MBO team needs to contribute, what debt and equity
investors are seeking and how MBO teams should evaluate different debt and equity investors.

3.1 How much funding is required?
The funding requirements for a management buyout will typically include:

• the purchase price of the company
• working capital requirements
• transaction costs and;
• any existing debt transferred with the business.

Depending on the type of company and situation, additional funding may also be needed for
organizational restructuring, capital investment programmes and/or bolt-on acquisitions. The
amount of funding required, risks and rewards will all need to be estimated.

For capital investment programmes and bolt-on acquisitions in particular, it may make more
sense to phase capital raising into two stages: the first to secure the business for the
management team and the second to raise expansion capital. Your financial adviser can assist
you with determining whether funds should be raised in one or two stages.

3.2 How is the purchase price established?
The purchase price of the business is established through negotiation between the vendor and
the management team and its advisers. Occasionally, the management team will be invited to an
auction for the business alongside other prospective buyers.

The vendor will typically be aiming for the highest price for the business and will consider an
offer from the management team in light of what the vendor believes the business is worth
and/or any other competing offers for the business.

The management team will need to determine how much the business is worth, what the
maximum price they should offer to pay for the business and what the bid strategy should be.
The management team may be guided by the vendor’s pricing expectations but should also
undertake a valuation of the business to ensure that they do not overpay for the business.

Company valuation is not an exact science. Typically, several methods of valuation are used for
arriving at the worth of a business including:

• Public-Company Comparables. The market capitalisation, price-earnings multiples,
revenue multiples and cash-flow multiples of similar, publicly-listed companies can
often be used to establish the valuation drivers for the business. Typically, these
valuation comparables are backward looking as they will rely on



• Transaction Comparables. Where similar businesses within the same sector and size
have been bought, sold or invested in recently, a comparable can be established.
Utilising similar valuation multiples and drivers, perhaps adjusted for the business, can
then be used to arrive at a valuation for the business.

• Discounted Cash Flow (DCF). Under DCF, future cash flows for the business are
projected out several years and then discounted back to their present value based on the
weighted-average cost of capital. Arriving at a valuation of the business using DCF is
more involved than using comparables, however, DCF analysis typically yields
significant insights into the valuation drivers for the business and thus assists
significantly in assessing strategy.

• Net Asset Value. The net asset value of the business is simply the value of the assets
less any liabilities on the balance sheet. For most management buyouts, net asset value
has very limited application as balance sheets are both historic in nature and only
capture goodwill of the business that has been acquired but not created.

The management team and the advisers are likely to have different views regarding the worth
of the business and the walk-away price. Equally, investors will also have a view as to the worth
of a business and this is typically more conservative than the management team’s valuation.

3.3 How are MBOs structured financially?
MBO’s are funded from a variety of sources including the management team, venture capital
investors, mezzanine providers, hedge funds, banks and vendors themselves who provide
vendor financing or deferred compensation. Typically, acquisitions are funded as follows:

• 40% - 60% Debt providers
• 5% - 15% Mezzanine providers
• 25% - 45% Equity investors
• 5% - 10% MBO team
• 0% - 30% Vendor finance / deferred compensation

The funding composition of each transaction varies dramatically based on the size of the
transaction, the profitability and risk of the target company and thus the amount of debt that the
company is able to support, the amount that the management team can contribute and the
willingness of the vendor to part-fund the acquisition.

As debt has historically been cheaper than equity, management teams and venture capital
providers would seek to obtain as much leverage as possible for the acquisition to maximise the
returns to the equity holders. In 2008, the availability of acquisition finance from debt
providers has tightened considerably forcing management teams and venture capital providers
to rethink the highly-leveraged approach to value creation.

In turn, for MBO transactions to proceed, more conservative levels of debt and more creative
funding solutions, such as increased vendor finance, are needed in order to meet funding
requirements.



3.4 How much money does the management team have to
invest?
Equity investors and debt providers want to ensure that management is absolutely committed
to delivering on the business plan and will require that management personally invest. Some
management teams ask if salary sacrifice is enough and generally the answer is no, it is not
enough. When a manager invests, they think more like an owner than an employee and as a
result are typically more successful in building the business and making difficult decisions.

While the amount of investment varies by deal and personal circumstance, as a rule of thumb,
each member of the management team is typically expected to put up one year’s salary as their
‘skin-in-the-game’.

The funds for this investment may come from cash, remortgaging the home or quite commonly
a loan from a bank.

3.5 What are equity investors looking for?
Equity investors that back management buyouts include venture capital and private equity
firms, family offices and occasionally hedge funds. Financially, equity investors target a 25% -
35% return on capital invested with a 3-5 year exit horizon.

To achieve their financial objectives, equity investors are typically looking for:

• A proven core management team
• A stable, cash-generative business with defensible market positions
• Products and services that generate higher predictable margins
• Realistic opportunities to exit the investment within 3-5 years
• A wide customer and supplier base
• Few major risks to the business (e.g. regulatory hurdles, technological obsolescence,
etc.)
• Control of the board of directors (but operational control rests with the management
team)

To ensure that the MBO team delivers against its objectives, equity investors will typically seek
several controls including:

• Monthly financial reporting
• Board representation and/or board control
• Equity performance ratchets
• Restrictions on acquisitions
• Purchases of other services
• Change of auditors

Your financial adviser can assist you with introductions to suitable investors and negotiating the
term sheet between the MBO team and the equity investors.



3.6 How do performance ratchets incentivise management?
Performance ratchets are common arrangements in MBO transactions designed to incentivise
the management team to achieve certain targets. Equity investors use ratchets to reduce
downside investment risks and share upside potential. If agreed targets are met, the
management team receives a larger stake in the business. Reverse ratchets are structured
inversely to normal ratchets in that if targets are not met, then management’s stake in the
business is clawed back.

Putting this all together, an illustrative deal structure between investors and the management
team incorporating ratchets could be:

1. At management buyout, the management team owns 25% of the common shares of the
business.

2. Performance Ratchet: If the capitalised value of the business upon sale or flotation is
£40m or better, then the management team shall receive 30% of the common shares of
the business.

3. Reverse Ratchet: If the capitalised value of the business upon sale or flotation is £20m
or less, then the management team shall receive 20% of the common shares of the
business.

The targets underpinning ratchets are usually based on profits or capitalised value upon sale or
flotation. Where ratchets are to be used, it is very important to precisely define the terms of
agreement regarding the targets and trigger mechanisms to reduce any legal issues later on that
can result from different meanings, eventualities and accounting methods.

3.7 How should MBO teams choose an equity provider?
The relationship between the equity investors and the MBO team can significantly enhance or
limit the business’ success. The MBO team should consider a number of criteria when selecting
equity investors including:

• Shared vision – product, service, geographic focus, approach to growth
• Demonstrated ability to partner with management team during early discussions
• Deal structure, incentives and rewards for the management team
• Personal chemistry – support of vs. control over management
• Bolt-ons - funding availability, terms and timeframes
• Exit timeframes
• Track record with other management buyouts



3.8 What are debt providers looking for?
Debt providers include banks and other asset-backed lenders. In providing acquisition finance,
debt providers are looking for companies that have a track record of generating positive free
cash flow for at least 3 years. Asset-backed lenders will take first charge against specific assets
while banks provide senior debt, subordinated debt and overdraft facilities and may take first
charge against all other assets.

Banks are typically looking for:

• Loan size no more than 3X EBITDA and comprising no more than 60% of the total
acquisition value
• 2X – 3X times interest cover
• 5 - 7 year loan repayment period
• Tighter covenants to restrict management’s ability to make decisions that pose material
risk to cash flows

Banks may also seek to charge arrangement fees and apply other fees when financing needs
change. As part of the acquisition financing arrangement, banks will also strongly encourage
the MBO team to move all of its day-to-day banking to the bank.

Financial covenants that banks may include as part of their agreements include:

• Cash flow to total debt service
• Cash flow based interest coverage
• Dividend restriction
• Minimum net worth
• Level of gearing
• Net current assets / borrowings
• % of good debtors below certain days outstanding

Non-financial covenants that banks may include as part of their agreements include:

• First charge over specific assets
• Audited annual accounts
• Monthly management accounts
• Restrictions on ownership change
• Restrictions on additional borrowings
• Restrictions on acquisitions
• Restrictions on asset disposals
• No capital expenditure beyond certain limits without approval
• No redemption on preference shares while loans outstanding
• No undisclosed tax liabilities
• Requirements for certain accounting policies
• Restrictions on directors remuneration

Your financial adviser can assist you with introductions to banks and negotiating financial and
non-financial covenants.



3.9 How should MBO teams choose a debt provider?
The management team should consider a number of criteria when choosing a debt provider
including:

• Loan size and price
• Flexibility for additional finance (e.g. for bolt-on acquisitions)
• Tightness of covenants
• Experience and personal chemistry of bankers



4 Dealing with the Vendor
This section covers various aspects of how the management team should approach the vendor
and proceed through the buyout process.

4.1 Do we need to approach the vendor before pursuing a
buyout?
In pursuing a management buyout, the management team needs to ensure that they are not in
breach of:

1. Any fiduciary responsibilities as a director or officer of a company and/or
2. Any non-disclosure or employment agreements that restrict management’s ability to
disclose confidential information to third parties.

Thus, before sharing company confidential information with third parties, the management
team needs to first obtain approval from the vendor to pursue a buyout. If the management
team is approached by an investor who wants to buy the business, management will have a
fiduciary duty to inform the vendor.

At the same time, the management team may take general advice before pursue a buyout as long
as it does not breach any of its fiduciary or employment obligations.

4.2 How should the management team approach the vendor?
Obtaining approval for a management buyout may just be a formality if the management team
has already discussed a management buyout with the vendor or if the vendor has put the
business of for sale and invited the management team to bid for the company.

In other situations, the prospect of a management buyout has never been discussed and the
management team may feel that the vendor may be unreceptive to an approach. Vendors may
perceive that management have been covertly working against them which could cause
irreparable damage to relationships. Thus, the initial approach is often the most difficult issue
that management teams face.

Before making an unsolicited approach, several matters should be carefully considered:

• Who should be approached? Who are the decision-makers and influencers? What is
their rationale for selling – money, strategic fit, management overhead? Are the owners
looking to sell the company at all? Are they in need of cash or retiring? If part of a
group, is this business non-core? What are their key issues – price, confidentiality,
speed?

• Who should make the approach? Should this be the business head, the team, the
financial adviser or a particular investor? If the management team and the vendors are
close, vendors tend to be more receptive to management making an approach than to
outsiders. If the business is already for sale, vendors will typically feel obliged to allow
management to bid for the business.

• What type of approach would work best? Formal or informal? Written, verbal or
both? Enquiring or direct? One-stage or many? If the business is for sale, the
management team may ask the vendor for a first shot at making acceptable offer for the
business before other bids are invited.


• When should the approach be made? Is there a specific event or window that works
best?

Your financial adviser can assist you with determining how to approach the vendor.

4.3 How is management’s conflict of interest addressed?
When a vendor agrees that a management team can pursue a buyout, a conflict of interest is
created between the fiduciary duties of the management team to the shareholders and
management’s personal interests. At the outset, the management team and the vendor should
openly discuss the conflict of interest and the best way of handling it.

The management team and the vendor should agree how the management team may pursue its
buyout bid. If the sale process is not competitive, then the vendor and management should
agree on certain rules of engagement: timelines and deadlines for an offer or pre-emptive offer,
what an acceptable offer is, amount of time management may spend on the buyout, information
that can and cannot be disclosed to third parties and at which stage, continuing management
responsibilities, etc. If management is bidding for the company alongside others in an auction,
then the vendor or its advisers will stipulate the rules that management must follow to ensure a
level playing field among all bidders.

During the buyout process, negotiations can pit the vendor against the management team and
strain historic relationships. The vendor pays a lot closer attention to management
performance, behaviour, policies and practices and the management team may become critical
of the vendor. Otherwise promising buyouts can fail at this stage because of breakdowns in
communication, personality clashes and misunderstandings. During negotiations, it is
important that the management team rise above their personal interests and make an extra
effort is paid to the relationship with e vendor and that management continue to perform to the
best of their abilities.

The most sensitive item during negotiations is almost always pricing terms. During pricing
negotiations, it may be helpful for the management team to take a back seat and leave
negotiations between investors and the vendor and communicating to the vendor that it is the
investor who is in fact purchasing the company. The management team can emphasise the
advantages of a management buyout over other forms of sale.



4.4 What advantages does a MBO offer to vendors?
It is often assumed that trade buyers can and will offer a significant premium over financial
buyers for the business. This however is not always the case. A competing MBO bid for the
business often deters trade buyers from bidding for fear that a failed MBO bid will result in an
unmotivated management team.

MBOs can offer many of advantages over other forms of sale:

• Speed. Management can often act much quicker than other buyers because of its
understanding of the business.

• Confidentiality. There is reduced risk that sensitive commercial information will be
passed on to competitors.

• Management Continuity. Management is less likely to leave if they own a stake in the
business. Moreover, the workforce is often more accepting of a MBO than a trade sale.

• Vendor Continuity. Vendors can often retain a stake in the business

• Loyalty. Vendors often prefer the business be sold to management.

• Risk Mitigation. Vendors often prefer the business be sold to management.



5 MBO Process and Timeline
This section covers various aspects of the process and timeline of a typical management buyout
not covered elsewhere.

5.1 What is a typical buyout timescale?
Management buyouts typically take between 3 and 6 months to complete but vary significantly
based on the willingness of the parties, the extent of negotiations, the readiness of information
and the complexity of the transaction.

A well-planned transaction increases the likelihood of the MBO team securing control of the
company as early as possible and mitigates the controllable risks associated with the
transaction such as not deadlines agreed between management and the vendor.

An outline timetable of a typical management buyout is illustrated below.


5.2 Which professional advisers should the MBO team appoint?
The MBO team should appoint a financial adviser early on, then subsequently tax and legal
advisers.

Financial Adviser

The financial adviser coordinates the transaction and ensures that it stays on course, provides
advice to the management team, offers a network of financing and advisory contacts and
negotiates with other stakeholders on behalf of the management team, in particular:

• Vendor: The price of the business is fair and on the right terms
• Banks: Lending is cost-effective and with appropriate covenants
• Equity investors: The risks and rewards are favourable to the management team

While the financial adviser will take lead responsibility for co-ordinating the acquisition,
specific activities typically undertaken by the financial adviser include:

• Assessing the feasibility of the MBO before entering into discussions with the vendor
• Valuing the business and determining the maximum purchase price
• Outlining the returns available to the MBO team
• Identifying financial backers with an appetite for the deal
• Arranging and attending meetings with financial backers
• Negotiating and structuring the financing with financial backers
• Advising on the format and content of the business plan and presentations
• Advising on how to approach and negotiate with the vendor
• Project managing the activities, resources and timelines
• Monitoring and minimising deal costs
• Identifying external executives for the management team
• Introducing the management team to other advisers

Tax Adviser

The tax adviser provides expert guidance and planning advice to the management team to
ensure that at both a corporate and a personal level the initial purchase and subsequent
proceeds from sale attract as little tax as possible.

Typical tax issues include:

• Minimising capital gains tax and inheritance tax (IHT) liabilities
• Income tax relief on the interest paid on borrowing for personal investment
• The structure of the transaction and the requirements for any tax clearances
• Payment of stamp duty
• VAT registration for the new company and advice on the recoverability of VAT in
relation to deal costs
• Tax indemnities from the vendor

Legal Adviser

The legal adviser is primarily responsible for preparing and negotiating the myriad of legal
agreements.

5.3 What should be included in the business plan?



The business plan is primarily a sales document used to secure financial backing from equity
investors and banks and comprises planning documents, presentations, financial projections
and overviews.

Typically, the management team will write the core of the business plan and the financial
adviser will constructively critique the plan and assist in further drafting.

The business plan must convey how the business will be managed after the buyout with
financial projections that are credible and specific.

A typical business plan would include:

• Overview of the business and rationale for the transaction
• History of the business
• Profiles of the management team
• Overview of business lines, products and services
• Market assessment and competitor analysis
• Company operations – locations, employees, systems, processes
• Marketing and sales plan
• Operations and technology plan
• Financial projections and assumptions
• Key risks and mitigating actions
• Management accounts and key performance indicators (last 3 years)

While both equity investors and banks require a business plan, occasionally slightly differing
business plans are written for each which emphasise what each are looking for.

Equity investors make money through appreciation of the value of their shareholdings and thus
are interested in understanding the market, the growth of the business, changes to the
competitive position, investments in operations and technology, etc. By contrast, banks make
money by acquisition loans being repaid without interruption and thus are primarily interested
in the stability and security of and risks to future cash flows. Banks will be more interested in
worst-case scenarios, while equity investors will be interested in a more balanced view of the
business.



5.4 How are MBOs legally structured?
While each MBO transaction is unique, most MBO transactions share a common common set of
basic legal relationships between stakeholders. As shown below, a Newco is created that is
subscribed to by the shareholders: equity investors, the MBO team and occasionally the vendor
where a vendor wishes to retain a stake in the company post-acquisition. Newco purchases the
target company for consideration as is stipulated in the Sale and Purchase Agreement.

Shareholders typically enter into a shareholders’ agreement to ensure that the interests
between investors and managers are aligned and cover key commercial matters such as voting
rights, equity ratchets, management authorities, information sharing, dividend policies and
confidentiality. Debt providers provide acquisition finance to Newco whose terms and
conditions are covered in the loan agreement.

Typical MBO Legal Structure

5.5 What due diligence is undertaken?
After the heads of agreement is signed, equity investors and lenders will start their due
diligence enquiries to ensure that the current state and the potential of the business is as
agreed. Due diligence may include:

• Commercial due diligence. The equity investor or a consultant engaged by the equity
investor researches the products and services, competitors, markets and economics to
better understand market demand.

• Financial due diligence. The equity investor and lender typically engage an accountant
to review the company’s historic accounts, balance sheet, asset and tax positions and the
management team’s financial projections.

• Legal due diligence. The equity investor typically engage legal counsel review title to
property and other assets, intellectual property issues and the implications of any
litigation.

6 DVR Capital: Your MBO Partner


We hope that our insightful guide to MBOs has provided you with some practical advice and
insights into management buyouts.

Management teams will undoubtedly find themselves under immense pressure and severe time
constraints during the management buyout process. As your financial adviser, DVR Capital can
help you and your management team avoid the many pitfalls of MBO transactions and increase
your chances of success.

Why should you consider DVR Capital?

• Best deal terms. We will achieve the best possible deal for you and your
management team.

• Well-networked. We are in regular contact with a variety of MBO investors,
lenders, legal advisers and tax advisers as well as senior executives from a wide
variety of industries.

• Reduce pressure and time constraints. We will ease the burden of severe time
constraints and immense pressure on management.

• Pragmatic, operationally experienced, responsive, and understated. In a world
of big egos, we are very easy to work with and take a client-specific approach to each
MBO transaction. We keep MBO transactions on track by planning and executing
iteratively emphasising quick turnaround in all we do.

• Research-driven. Our MBO advice draws heavily on facts gathered from a wide
variety of research sources, internal reports and insights from industry luminaries.

• Success-based fees. The majority of our fees are paid upon legal completion of the
management buyout.

I invite you to contact us for an exploratory meeting in absolute confidence, without any cost or
obligation.

Marco Del Carlo DVR Capital Limited
Managing Director 5th Floor, Portland House
4 Great Portland Street
Tel: +44 (0) 20 3371 7248 London, W1W 8QJ
Mob: +44 (0) 7866 361 157 United Kingdom
marco@dvrcapital.com www.dvrcapital.com

MBO Guide - Turning Executives into Owners

Empfohlen

Empfohlen

Weitere ähnliche Inhalte

Was ist angesagt?

Was ist angesagt? (20)

Andere mochten auch

Andere mochten auch (20)

Ähnlich wie MBO Guide - Turning Executives into Owners

Ähnlich wie MBO Guide - Turning Executives into Owners (20)

MBO Guide - Turning Executives into Owners