Newport Board Group Managing Director and Board Member Michael Evans took part in a webinar on March 12 sponsored by Del Morgan & Co., a Los Angeles-based investment bank. Michael shared the presentation with other prominent professionals who are regularly involved in M&A transactions with family businesses. They included an accountant, lawyer, investment banker and an HR consultant from a leading HR outsourcing firm.
Key Takeaways from "The Art of Aquiring A Family Business" Featuring Michael Evans
In the course of the webinar, Michael and his co-presenters made a number of points that should be of interest to family companies that are considering the possibility of an exit and to investors who seek value in acquiring family-owned companies.
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When the right circumstances are present, family companies can be very attractive acquisitions for private equity and strategic investors. Savvy acquirers have an opportunity to upgrade management and employees, strip away expenses and grow the company aggressively, unhindered by factors that may have held it back in the past: family-first thinking; claims of family members for jobs; slow decision making because of necessity to get a consensus of family stakeholders; many family business’ aversion to even minimal levels of debt and their inability to tap into the capital markets.
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This is especially true for smaller companies. While prices for larger, attractive family companies have come all the way back from the great recession, smaller family company values are still relatively depressed.
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On the other hand, caveat emptor. Only one in 10 family companies is sufficiently attractive and really ready to be considered for potential sale to private equity. If you think that you have identified that special one in 10 company, realize that you are committing to what can be a difficult process that can include engaging with the sometimes conflicted emotions of family sellers.
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Sellers who have already done tax/estate planning are better. Sellers who have a well-established relationship with advisors and have already done tax/estate planning for the transaction and cleaned up the company’s accounting ahead of getting an investment banker involved will be able to focus their time on getting a deal done with you.
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Prospective acquirers must foresee due diligence challenges. Balance sheets may not balance. The company’s informal management style may mean that organization charts, roles and responsibilities documents, definitions of business processes and other corporate records you would typically expect to see do not exist.
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Starting with: who actually owns the company. Some even highly successful family businesses have never issued stock certificates.
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First rule in valuation of a family company: Understand how much of the value you would be buying is realizable in the business under your ownership--versus how much is embedded in the family and its relationships.
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Key issue to evaluate before committing to an LOI to seriously pursue a deal for a family business. Ask yourself: are the objectives of family members consistent or divergent? If they are divergent, will you be able to close? Investors who think they can exploit a divergence between family stakeholders should realize that this can lead to a complex, expensive buying process.
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Due diligence on a family business is different. You will need to win the trust of the selling company’s stakeholders. HR issues require a hard look (often the company has never had an HR manual).
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Earn outs can adjust the distribution of risk. Earn outs provide many ways to adjust and manage the distribution of risk between buyer and seller. Current owners and management can get paid more if the company reaches milestones. Family members can be kept in place to work with the new owners to keep the business going and keep customers and employees happy. There are also well proven techniques to retain key executives and employees. A PE firm that wants to keep the current CEO in some capacity and give him/her skin in the game has many ways to do so.
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Focus on what you would do going forward. Avoid using a lot of due diligence resources to go through transaction activity to figure out, for example, how much questionable travel and entertainment the company has had. Focus instead on how much T&E your growth plan would require going forward.
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Risk of seller fatigue: The burden of sell side due diligence, in addition to their daily responsibilities of running the business, can be severe for some sellers. Be sure that anyone you plan to buy from has the stamina to get through the deal. Expect to have to do some hand holding to get them to a close.
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A lot of regular deal best practices apply to transactions involving family companies. As in any deal, sellers of company businesses tend to want to sell stock and buyers tend to want to buy assets. These and other aspects of buying a private company you will find largely familiar from your experience in private company M&A.
The consensus of Michael Evans and other participants at the end of the webinar was that acquisitions of family businesses can represent excellent value to a buyer who recognizes and is prepared to grapple with what makes these companies distinctive in their objectives, governance and decision making.
About Michael Evans
Michael Evans, a Newport Board Group Managing Director in Northern California and Board Member, has a great deal of experience helping family companies improve their performance and valuation and execute M&A transactions.
