Differences in selling your business to a corporate acquirer or to a private equity buyer
Sri Malladi
Advised on $8B+ in M&A | CEOs and CFOs hire us to acquire 2-3 right fit-businesses / year without burning out their team | Business owners hire us to prepare and sell their business at the best value
Companies looking to sell commonly run into two types of buyers:
These two types of acquirers offer markedly different valuations, deal structures, and post-close growth options.
So its essential to understand the differences to make an informed decision.
Here's a quick primer based on my experiences working on both the 'buyer-side' and 'seller-side' of these transactions.
Strategic Buyers:
Strategic buyers are typically direct competitors looking to enter an adjacent market, expand their market share or gain an edge over their other competitors.
They generally tend to offer a higher valuation for the target company, since they anticipate (i) driving increases in revenue using their existing products or channels or (ii) driving cost savings from consolidating operations, reducing head count, or overlapping business functions.
For sellers, it's important to be aware that strategics generally expect to purchase 100% of the company, and expect to (over varying timeframes), relocate operations or eliminate employees.
Earn-outs are not uncommon but generally not more than ~10% - 20% of the overall deal value.
Strategic buyers generally prefer larger deals - largely driven by the effort involved - so they have to do fewer deals to acquire the same revenue.
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Private Equity (PE) Buyers:
PE buyers invest on behalf of their limited partners (LPs) with the goal of generating ~25% - 40% returns over a 4-6 year time horizon.
PEs' expertise is primarily investing and monitoring these investments, rather than overseeing the daily operations of each business.
Since PE buyers are evaluating dozens (and sometimes hundreds) of transactions every year, they tend to offer more flexible deal structures that are customized to the owner's preferences. And can often move and close deals quickly and more predictably.
PEs also often use leverage and financial recapitalization as their primary investment tool - and are therefore focused on demonstrating to the lenders (banks) that the investment’s credit risk is not excessive. So while demonstrating strategic long-term growth is important, downside protection and risk mitigation are often top of mind for PE.
Since PE buyers generally don’t bring in-depth industry experience or hands-on management expertise to the table, they structure the deals to incentivize management to stay on for 1-3 years after close - to transition the business properly to the new leadership team.
PE deal structures are typically ~60% cash, ~20% equity (rolled over into the new entity), and ~20% earnout (based on management meeting targets). The equity portion could be worth a sizeable amount if the PE manages to exit the business in 4-6 years at a bigger valuation.
PE owners generally have a strong network that is useful to hire talent into the company, sourcing administrative functions, and acting as strategic partners to drive the growth of the business through M&A.
Bottomline:
Understanding the differences between strategic buyers and PEGs can help you make an informed decision about whom to sell to, and maximize the value of your business.