Private Equity, Search Funds, and Strategic Buyers: who is the right fit for your business?
If you’re thinking about selling your business, whether it be next month or within the next decade, you’ve probably given some thought to who would be best to run it (other than yourself, of course). There are several types of business buyers, and knowing which ones to target can save you lots of trouble.
During the pre-planning phase, think hard about which type of buyer would be the best fit for your business. Deciding this early on can help you understand who the buyer is, what their needs are, and the business attributes they find most appealing.
One of these four types of buyers will most likely be the best fit for your business.
#1: Private Equity Firms
Sometimes, a group of buyers gets together and forms a private equity firm to purchase businesses they think are good investments. Their strategy is to purchase the business and then find ways to make it more valuable. They may do this by upgrading or streamlining existing processes or combining the purchased business with other companies. These firms typically sell the businesses they purchase for a return, either on their own or grouped with other businesses.
Private equity firms typically pay with a combination of cash and company stock.
Pros of Working with a Private Equity Firm
- The deal moves fast. Private equity firms move quickly when a company meets its criteria. Owners wanting to move fast won’t be forced to wait around.
- Owners are paid in cash and stock. In addition to cash down, the owner may benefit from having stock in a much larger, more profitable company.
Cons of Working with a Private Equity Firm
- Their offers may be lower than other buyers. This type of buyer usually has specific boundaries governing their offerings.
- Sellers may struggle with a lack of control. The big changes these firms make can be difficult for the seller owner to handle.
- It’s a higher risk. If the business is poorly run, the stock may dive, creating a lower payout for the owner.
#2: Search Fund Buyers
These entrepreneurs purchase companies to run and grow them, unlike private equity firms. Companies valued at $5-30 million appeal to these buyers.
Pros of Working with a Search Fund Buyer
- A good option for sellers whose company isn’t rapidly changing. Search fund buyers lean more toward straightforward businesses.
- Sellers still have a say. These buyers like to work closely with the previous owner.
- Experience. The search fund usually includes highly-experienced individuals who will share their expertise in growing the business.
Cons of Working with a Search Fund Buyer
- Complex operations can cause this buyer to fail.
- If the search fund has limited experience, it can cause issues for the business.
#3: Strategic Buyers
When other seasoned business owners decide to purchase another company and fold it into their company’s framework, they are strategic buyers. These buyers usually look for companies that function in the same or similar industries that their current companies do.
Pros of Working with a Strategic Buyer
- The financial picture is secondary. The buyer is most interested in companies that fit well with their current business, not the profitability.
- Customizability is attractive. If the seller has built a business that will be easy to customize, they can hope to get a strong payout for their efforts (even if their business is in the early growth stages).
Cons of Working with a Strategic Buyer
- Letting the work get swallowed up. Buyers with a personal stake in their business may find it hard to let it be completely absorbed into a different entity and brand.
- Considerable layoffs are common. When dealing with duplicate roles, the purchasing company will typically stick with their employees and let the freshly-bought companies go.
#4: Employee Stock Ownership Plan (ESOP) Buyers
An ESOP can be used as an exit strategy by business owners. It’s normally set up for employees to acquire shares through a share option plan.
Pros of an ESOP
- Owners are paid a fair market value determined by an independent valuation. There won’t be any lowballing in this scenario.
- Trade secrets are safe. With other buyers, due diligence can risk private company information getting into the wrong hands. That confidential intel will be less likely to leak during an ESOP purchase.
- Leaves a legacy. Instead of risking the company getting broken up or folded into a larger conglomerate, an ESOP protects the brand and the current employees.
Cons of an ESOP
- Owners cannot be paid over fair market value. Other buyers may want a company badly enough to pay top dollar for it, which can be advantageous for the seller. This won’t be possible with an ESOP.
- Lacks flexibility. An ESOP is highly structured and regulated by the U.S. Department of Labor. It can end up being a more drawn-out, complex process than making a deal with other types of buyers.
Choosing the Right Type of Buyer
Business owners must consider several things to decide which type of buyer is the best fit.
- When do you want to sell?
- What are the best features of your company?
- What type of industry are you in?
- Do you want to preserve the company?
- Can you handle the loss of control?
- How important is it for your employees to keep their jobs?
- Do you need to sell now, or can you wait (which would possibly give you a bigger payout)?
Understanding the options is critical for business owners looking for an exit strategy. Being familiar with each type of buyer and their benefits and drawbacks can help you decide which path to take.