Buyo

ut
Abuyoutis an investment transaction by
which an entire company or a controlling part of
the stock of a company is sold. A firm "buys
out" a company to take control of it. A buyout
can take the form of a leveraged buyout, a
venture capital buyout or a management
buyout. Where the company being bought out is
a public company, a buyout is often called a
"going private" transaction.

LEVERAGED BUYOUT
LBO is a financing technique of purchasing a
private company with the help of borrowed or
debt capital. The leveraged buy outs are cash
transactions in nature where cash is borrowed by
the acquiring firm and the debt financing
represents 50% or more of the purchase price.
Generally the tangible assets of the target
company are used as the collateral security for
the loans borrowed by acquiring firm in order to
finance the acquisition.

MANAGEMENT BUYOUT

THE ESSENTIAL COMPONENTS OF AN MBO

Organic growth potential. Financial investors

generally are more interested in companies
having a sustainable differential advantage in the
marketplace and that operate in a growing
industry, as opposed to me too types of
businesses and those in declining industries.
Ability to leverage. By using debt to finance a
portion of the purchase price, the return on equity
is higher (as is the risk). The debt capacity of a
company is a function of the nature and quantum
of its underlying tangible assets and its ability to
generate cash flows to service debt

 Exit
strategy
opportunities.
Financial
investors generally have a 3 to 7 year time
horizon. They seek companies that can either be
sold to a strategic buyer or are believed to be
good candidates for an initial public offering.
These avenues offer exit multiple expansion,
which means that the effective price multiple
paid on exit is expected to be richer than that
paid on acquisition

REASONS FOR MBO

Non-Core
Divestments
and
Efficiency
Improvements:
An organization focusing on efficiency improvements or
consolidation of its core activities will often look to divest
business units that are a financial burden or represent a
divergence from a new strategy. In these situations, a
MBO can provide a smooth and efficient transaction that
avoids the inconvenience of finding external buyers or
the need to release sensitive organizational data.

Management Incentivisation:
Management faces constant pressure to maximise
profits and implement new growth strategies.
However, it is often recognised that linking
managerial compensation to substantial direct
equity ownership can provide a powerful incentive.
A MBO can be an effective way to implement such
an incentive structure.

Insolvency :In the event that the company has become

insolvent and a receiver or administrator has been
appointed, current management may represent a viable
acquirer
for
specific
business
units.
However,
appropriate financial backing will often be required in
this type of buy out.
Succession :An MBO can provide a feasible solution to
business succession issues such as the retirement of a
key founder or partner. The experience of the current
management team in running the business alongside the
outgoing owner make them an attractive MBO candidate
that will help ensure a smooth transition and minimal
disruption to business growth plans.

Regulatory Requirement :In some circumstances,

the Australian Competition & Consumer Commission
may force a company to divest part of its assets,
business units, or a portion of a recent acquisition in the
interests of maintaining competition. In this situation, a
MBO may offer a cost effective means of compliance.
Bundled Businesses: In some circumstances a
company may acquire a bundle of businesses, but may
have no intention of operating all aspects of each
business. A MBO strategy can be adopted for the
divestment of the undesirable components of a bundled
acquisition.

Aspiration Divergence :At a given point in a

companys life cycle, current managers and owners
may hold different opinions as to the future
direction the business. A properly planned and
executed MBO can therefore offer a viable
resolution to major business disagreements

ROLE OF FINANCIAL ADVISERS

advising on the format and content of the business plan;
choosing 3 or 4 prospective equity investors most likely to
be keen to invest in the type of business and size of deal;
seeking a cost indemnity and a period of exclusivity from
the owners;
negotiating the best possible equity deal for management
from the preferred equity investor;
working with the equity investor to negotiate the lowest
possible purchase price and most advantageous deal
structure from the owners;
introducing the management team to appropriate legal
firms with proven experience of management buy-outs.

MBO PROCESS
Preparation

MBO-strategy,
offer

Feasibility
examination

Preparation of
Analysis and
a business plan preparation of
(3-5 years)
the MBO
structure (from
buyer or sellers

Company
valuation

Due diligence
examinations

Letter of Intent

Defining the
transaction
structure

Financing
discussions
LOI

Closing

Due diligence
Final
(legal, tax, finance) contractual
negotiations

Preparation of
the final financing
Closing:
transaction

Contract
concluded
preparation

Offer

~ 2 months

~ 1 month

1-2 months

Indicative offer
Principle decision

Exclusivity
(management,
agreement
private equity
with partners
partner)
board (time
limited)

Binding
offer

1-2 months

1 month

Contracts

Closing

STEP 1
Business Plan Development The development of a
comprehensive business plan should include the
companys financial projections, the strategy the team
will implement to achieve these projections, the level of
capital investment required to implement the strategy
and a clear definition of success. It is also important that
the buy out team have a thorough understanding of the
market forces and economic variables that may
influences future business prosperity. An estimated
timeframe for the purchase negotiations and completion
of the buy out should also be established.

STEP 2
Selection of a Financial Supporter : The
individual managers involved in a buy out will often
lack the financial capacity to fund the transaction on
their own. Frequently, the buy out team will seek
backing from an equity partner such as a private
equity firm. Careful planning and selection of an
appropriate equity partner is critical to the success
of any MBO team

STEP 3
Conducting Due Diligence : While a MBO team
will have greater knowledge of a business than an
external acquirer, it is still important that a proper
due diligence is undertaken. The individual
managers involved in the MBO will already have
access to certain types of confidential information.
However, it is important that any buy out team has
access to all relevant information and can assess
the full situation to ensure the validity of estimates
and plans.

STEP 4
Debt Funding : Identifying the types of debt
funding required and securing the debt is an
important next step in the buy out process. The
most common form of debt funding for a MBO is
Senior Debt, however a combination of Mezzanine
Funding and possibly Hybrid Capital can be
arranged in conjunction with Senior Debt

STEP 5
Documentation : The final step of the MBO
process is to create and sign off on the legal
documentation between the parties, which
outlines the relationship between all shareholders
of the restructured entity. This process ordinarily
commences around the time of the Due Diligence
process although the final contracts will reflect all
information discovered during Due Diligence.

EXAMPLES
A
classic
example
of
an
MBO
involvedSpringfield
Remanufacturing
Corporation,
Springfield,
Missouriowned
byNavistar(at that time,International Harvester) which was in
danger of being closed or sold to outside parties until its
managers purchased the company.
In the UK,New Lookwas the subject of a management buyout
in 2004 byTom Singh, the founder of the company who had
floated it in 1998. He was backed by private equity
housesApaxand Permira, who now own 60% of the company. An
earlier example of this in the UK was the management buyout of
Virgin Interactive fromViacomwhich was led byMark Dyne.

EXAMPLE

Private equity fund Blackstone has concluded Indias

largest management buyout deal till now. The US fund has
backed the management ofIntelenet Global, the BPO
promoted by HDFC and Barclays Bank Plc, to buy out the
company reportedly for $200 million. The private equity
fund will retain 80 per cent, while the management will
hold 20 per cent of the company. Around 300-400
employees in the senior management of Intelenet will
become shareholders in the firm.

The management buyout of NBFC Capital First is the

largest in India. t took a little over three months of
negotiations for private equity firm Warburg Pincus to pick
up a 70 per cent stake in financial services company capital
first (it was earlier known as future capital holdings). It is
the largest management buyout of a listed financial

WHY IT MATTERS
The
primary
difference
between
amanagementbuyoutand
any
other
type
ofacquisitionis the inherent knowledge and expertise
of the buyers compared with the sellers. The buyers
(management)will usually have more knowledge of
the company and its prospects than the sellers. In
most scenarios, the sellers rely on the input of
management regarding the future of the company to
help set the selling price. Here, theadvisorsbecome
the buyers. In this scenario, the sellers are at a clear
disadvantage.

For instance, the management, as buyers, may

exploit
their
advantageous
position
by
manipulating the stockprice through certain types
of stocksalesso that they will achieve a lower
buying price. They may also try to lower the
purchase price of the company by taking
aggressive write-offs in order to show lessnet
incomein the period leading up to the purchase.
The sellers therefore must use caution with regard
to the buyers in an MBO.

Likewise, the management as buyers must also

exercise caution with regard to the financiers they
bring to assist with the purchase. Venture
capitalists, for example, may have different goals
than the companys management team regarding
the expected timing and nature of thereturn on
investment (ROI)in the company. In a case where
aventure capitalistinvestor has gained a large
enough stake in an MBO, the management who
purchased the company may have less control over
how to actually manage the company