The type of capital a business can access can impact a company in a number of different ways.
Trustpoint.one CEO Mark Hawn says that exactly how that plays out depends on if the business has an organic growth strategy, or an acquisition strategy.
For example, on the organic side, just funding the growth of receivables can be fairly significant and often requires a great banking partner with that.
"You'd think that you would be able to do a lot of distributions because you've got $10 million of EBITDA, but it's all going into the growth of the organization," Hawn said at the 2024 Atlanta Smart Business Dealmakers Conference.
When PE gets involved, it changes the math.
"When you have that liquidity event, it's life changing because the PE firm or the strategic is paying you 8-10 times your earnings, and you sit there and go, 'Gosh, I could work another 10 years, and I'm still not pulling out this kind of capital. And oh, by the way, when I do pull out capital, it's at ordinary income, where, at the time of liquidity event, it's a 20 percent capital gains,'" he says. "So, the economics just completely change."
For companies that are going down the road of acquisitions, it's good to have a private equity partner. Typically, a company could do small deals at four times earnings and the bank will loan three times earnings. So, the buyer could then get a seller note or uses some cash on their balance sheet to bridge the gap.
"But that's a slow slog," Hawn says. "You can do bigger deals if you've got private equity behind you."
As sellers evaluate their exit options between a strategic of private equity buyer, he says it's important that business owners get to know their private equity partner in part by talking with some of the CEOs of companies they've done deals with and are currently in the portfolio to see how it's going.
"Because every PE relationship goes great when everything goes great," he says. "But if it gets rough sledding, as a CEO, you might be the first one out the door, because they lose confidence in you. But they may not understand the market and the industry. And that can get a little choppy."
Typically, when selling a company, there are two routes: either selling to a strategic, a deal through which the seller is potentially going to be out of the business and on to their next venture; or they're going forward with PE, rolling some equity, and undertaking a scale up strategy. When the choice is the latter, he says do your homework upfront with the PE firm.
"Put together a list of targets and model it out, and get the commitment from them that they're really going to put the additional capital into the deal so that you can scale it to $200 million or $1 billion or whatever your goals are, and that they have the appetite for taking on bigger acquisition opportunities," he says.
When it comes to rolling equity, he says typically in the bigger deals the PE firms want to take a majority control. So, those staying on as the CEO who will drive that growth for them, he says 20 percent is a good number, because with a second bite of the apple that 20 percent could be worth as much as the 80 percent that was taken at the beginning.
Generally, he says it’s important to keep the end in mind, and think about the partners needed to help get there, which means a bank, lawyers, and importantly when the time comes to sell, an investment banker.
"Investment bankers will give you a sense of what your company's worth, and what you need to do to make it worth more," Hawn says. "And then you can extrapolate that out to see how long it takes you to get to the goal that you want — if you want to sell $100 million liquidity event or whatever their strategy is. And the investment bankers will also share with you the deals that are in the market, the multiples they're going for. They've got a good sense of the private equity market.
"If you're going to take your business to market, hire an investment banker. I can't tell you how many times I have gone down the road of having a PE firm call and say, 'We really want to get into this space. We love your business, la la la la,' and they just come in and kick tires, and it wastes a lot of time for your leadership team. An investment banker will run a process and get you a premium for your business, whether you're selling to a private equity firm who's looking for a platform to grow from, or you're selling and to strategic and cashing out."
