Private Equity as an Ownership Transition Solution

There are essentially two paths you can take when it comes to transitioning the ownership of your business – an internal transfer or an external transfer.  Each path offers several options. 
One thing is clearyou will eventually exit your business, either on your terms or someone else’s. 
Getting out of a family business is a lot harder than it was getting in. There are a myriad of challenges – family, financial, personal (as in what is next for you), taxes – let alone leaving the business in good hands to continue its legacy AND buy you out.
Selling the business is an option. How you choose to sell it is another.
Private Equity is one of the external transition alternatives that exist for selling a family business. Yet many owners don’t fully understand the financial and operating principles around this option, so let me demystify a few misnomers.
What it is.  Private Equity is simply a group of investors who raise capital from high net worth individuals and institutional funds, then invest that capital in closely held, private businesses.  They only invest in good companies that they think they can help make great.  Private Equity typically holds onto a company for four to seven years. They provide both liquidity (for you as the owner) and expertise (for you and your team) to help the business continue to grow. During this time they are also lining up possible buyers and assessing what is trending within your particular industry and the market to position the company for sale when the time is right.
The delta between the initial purchase and sale is how they make money and create returns to their investors – and the owner. 
What it is not.  Private Equity is not looking to come in and run your company for you.  If there is a hole in the leadership team, they will most definitely fill it.  But they are not there to gut your company. Their primary role is to provide advice and guidance, along with capital to fund growth and expansion.  You are still steering the ship.
They do not buy 100% of the company. Private Equity firms typically buy 75% to 80% of ownership, while you own the remaining 25% to 20%. So when the Private Equity firm sells the company, your second check for the remaining portion of your ownership has the potential to be more than your initial check.
Would your company attract a Private Equity offer?
A Private Equity firm has an extensive due diligence list it uses to evaluate and ultimately decide on opportunities. The following are some of the primary factors that make companies attractive to a Private Equity investment:

  1.  A strong management team that can run the company without the owner
  2.  A company that is growing in a market that they believe will be expanding.  Most companies are generating at least $10MM in revenue, and $1MM to $2MM in EBITDA (earnings before interest, taxes, depreciation, and amortization – essentially the cash the business is producing).  
  3.  Shows a strong and stable cash flow
  4.  Clean financial statements that are timely and accurate
  5.  Limited need for capital investment in physical plants and equipment’
  6.  Leading market positions
  7.  High barriers to entry; niche markets
  8.  Potential for margin improvement or cost reduction
  9.  Acquisition opportunities
  10.  Good exit potential

Ask yourself this question, “Is my company prepared?” Business attractiveness and readiness are often obstacles, which often preclude a successful transaction.
Even if you don’t sell to Private Equity, these criteria will make your company strong, generating good returns for you today, and preparing the company for a successful transition of ownership tomorrow.