The pros and cons of a business sale via a management buyout

If you are thinking of selling your businesses then one of the most common ways of doing so is by a management buyout.  Virtually every professional service business deals with succession planning in that way so we are all used to the idea having bought into our businesses under such arrangements.
However these deals are not second nature outside professional life, so here are some of the arguments for and against a disposal by way of an MBO.

Seeking an external buyer.

The advantages

  1. Negotiation without hard feelings.
    If you are talking to an external buyer and the deal isn’t right then pulling out should have no perceptible effect on your business.  You have a free hand to drive the best deal.
  2. A buyer in the same trade will have synergies – these will drive the sale and add to potential liquidity of the buyer. Whilst most buyers argue that the synergies should not be reflected in the sale price they give room for manoeuvre.
  3. The likely availability of capital
    Most external purchasers (certainly those derived from proper market research) will have available capital and one of the very early questions of your professional team will seek assurances in that regard.
  4. The best price for a business is usually achieved when there is competition amongst buyers. When selecting potential buyers in a structured process more than one potential buyer is likely to be located.
  5. The potential sale may not remain confidential

The disadvantages

  1. The costs of marketing
    To generate interest in your business with a view to obtaining the best selling price requires skill experience and time and it doesn’t come cheap. In fact the costs of finding a buyer is usually more than the legal costs of executing a sale.
  2. Divulging sensitive information before the sale even with an NDA
    An external buyer will know little of your business. It follows that most external sales precede an extensive due diligence process. Any buyer will have to sign an NDA but it’s never comfortable giving detailed information to a potential competitor.
  3. The potential reaction of customers to a change of control
    Many commercial contracts now contain change of control clauses allowing termination in case of a change of control. Customer reaction is a factor to take into account on an external sale.
  4. The contractual burden giving warranties and disclosure.
    An external buyer will seek extensive legal assurances as to the state of your business. Great care must be taken when giving these assurances as any claims are likely to be capped at the total sale price. Essentially everything will be on the line.

The advantages of an MBO

The advantages

  1. MBO’s don’t require the same significant external marketing as would be required with an external buyer. Therefore selling to a management team tends to be quicker and cheaper
  2. The contracts are much simpler and because the management should be taken to know the businesses there should be minimal due diligence required. In addition the warranties given in an MBO are far less onerous. This means that on completion the seller is left in a position where he is less likely to be burdened with the legacy of the promises they have made about the business pre-sale.
  3. In a management buyout situation it should be easy to maintain confidentiality and customers and employees are unlikely to be concerned.
  4. Companies purchased through an MBO tend to have a high success rate. Generally the management team have the requisite experience and skills within the specific industry, as well as having key relationships with employees, customers and suppliers. This is likely to advantage a Seller since it is almost always the case that the sale price will include an element of deferred consideration or earn out. The higher the chances that the company will continue to thrive post acquisition, the higher the chances that a Seller will be able to realise the full consideration agreed for the sale.

The disadvantages

  1. The management are likely to be much less experienced in buying a business and much less well capitalised. There will be no synergy savings. This could have a downward pressure on price.
  2. Once negotiations commence with a buy out team, if the deal does not proceed to completion it can be difficult to go back to “business as usual”.
  3. Buyers and sellers will need to think carefully about how a Seller will exit the business after sale. It is often tricky to negotiate the terms relating to any hand over period as the parties will need to strike a balance between possibly retaining the expertise of an outgoing seller with ultimately being able to have full control over the business. If a seller retains an equity stake whilst deferred consideration is outstanding, a shareholders agreement will be required to govern the relationship between the parties during any interim period.

MBO’s are most common when it is hard to find an external buyer and/or where a number of managers are key to the company’s success. But there is no one deal structure that suits every business. ORJ prides itself in helping business owners put together the deal that works best for them, identifying what is important to a Seller. Often this is realising the best price, but often it involves weighing up several key factors that are behind a decision to sell.

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