Morgan Jones, Principal in the Corporate Finance team at Bravura, an independent investment banking firm specialising in corporate finance and structured solutions, highlights key considerations for owner-operator businesses when embarking on private equity partnerships.

Even in a low growth investment environment, there remains strong competition amongst the larger private equity (PE) funds for sizeable assets that attract significant market attention. Invariably, the risk for the private equity investors is that this interest is often underpinned by competitive auction processes that drive selling prices higher, which in turn have an impact on economic return assessment and availability.

As such, private equity is more and more looking for proprietary situations with smaller and mid-sized corporates where there is less attention and they can run their own process. According to a report on private equity activity and trends published last year by the Southern African Venture Capital and Private Equity Association (SAVCA), private equity is increasingly looking more favourably on investment in small and medium-sized enterprises.

The focus for private equity dealmakers is in finding proprietary situations and approaching companies to develop dialogues around a potential investment. The medium-sized private equity investor will typically consider deals ranging from R100 million up to R500 million, across diverse sectors.  The key for them typically is in finding healthy, fit-for-purpose companies that display strong growth potential.

Should private equity come knocking, it is important for the business owner to understand the unique characteristics inherent in private equity partnerships. Businesses and owners that are prepared for the eventuality of such an approach and have considered the appropriate basis for an engagement, can enjoy significant opportunities for value enhancement and realisation.

Walking in the door, private equity will likely come equipped with a formulated investment view of the company.  The business owner in many cases has not actively been looking to sell. It will therefore be important to fully comprehend private equity’s investment case.  Why is private equity interested in the business? Would the potential acquisition be part of a consolidation plan with another company, and if so, what would be the strategic benefit for the business?  If private equity has a growth strategy, what new investment capital can they bring?  What role are they looking to management and the current owners to play going forward?

Subject to the type of deal envisaged, it can also be essential to understand the proposed capital structure and associated risks. Private equity tends to use leveraged debt to enhance returns and provide additional capital for growth. A business accustomed to running without debt would need to acknowledge the impact this could have on the business.   Understanding who the PE suitor is, what their objectives are and how they have partnered other businesses will be important as well, especially if the current owners and managers will retain a significant stake in the business going forward.

Expert advice can assist with formulating the right questions and engagement with the PE party. Critically, should the offer be to buy-out the business, it will be vital to develop an objective view of whether the offer presents proper value for the business and what are the ways to potentially enhance private equity’s assessment of value. At this point it is also key to recognise that private equity knocking on the door signals the potential of the business for sale.  Private equity is one opportunity, but not necessarily the only option for a company.  And if one private equity firm has displayed an interest in the business, so might others.

Catergories: Corporate Finance, News
Published in Dealmakers August 2017 & Boardroom July 2017