Rock LaManna07.17.23
An owner mentioned that his management team wanted to buy his business. He said, “They heard rumors about my possible exit and pitched themselves as a buying team. Good idea? Bad idea?” Sometimes management buyouts are highly-planned affairs with a highly experienced team ready to helm the business after the sale. Most of the time, the team has not held ownership positions in other companies. In the ad hoc scenario described above, the seller should tread carefully. Let’s compare a typical management buyout (MBO) to a chess match.
Imagine you’re a better-than-average chess player relaxing between matches at a tournament. Suddenly, an eager group of players appears on the other side of the table. You’ve never played against multiple people a once, but how hard can it be, you wonder? The group is raring to play. Without even a signal from you, they’ve made their opening move. You can tell they don’t have the qualities of a chess master. They are an unknown quantity.
In chess, an inexperienced but motivated player can be a dangerous opponent. Whether you are a great player yourself or merely average, you are more likely to lose to this type of player. They are unpredictable, make rash moves, and can surprise you with a lucky combination. If you decide to play with an eager novice, you need to slow things down, double-check every move, and take nothing for granted.
In the sale of your business, the same applies. Remember, over 70% of business acquisitions will fail before closing or in the first few years after the sale. Let’s be honest. In sales across all industries and with buyers of all types, the number is closer to 90%. You can’t fall in love with any buying entity this early in the game, even if a management buyout seems like a slam dunk.
Let me start by saying there’s nothing inherently wrong with selling to a manager or your management team. Selling to managers is one way to transfer your business to a trusted entity. In many ways, an MBO is like a family succession, with many of the same advantages and pitfalls.
Here are the advantages of selling to your managers:
Because of their curiosity, they will rush you to name a price – “Just give us a ballpark range, boss” – so they can see if they should pursue the deal. This is when you have to slow it down. You can’t start spouting off numbers without having a valuation done. It’s not fair to you, and it’s not fair to them. If you quote something too low, you get their hopes up and irk them when you revise your asking price. Come in too high and you’ll lose their interest while they’re hyped about purchasing the company.
Here are essential questions we need to address: When you had your first germ of an idea about selling your company, did you imagine your managers as a possible option? Even if they are good managers, do you believe they could be good owners? Do they generally get along with each other? Do they make sound business decisions as a group and individually? Do they have complementary strengths that are greater than the sum of their parts? Are there any landmines in their personalities or integrity? Would your employees enjoy working for them and strive to do their best?
You also need to weigh the financial and emotional risks if your managers are unsuccessful as owners. Having your own people fail can be much harder on you and your other employees than if an outsider buys the business and does the same.
Before you step forward with these buyers, you also must decide if you are ready to sell. This is not just a gut check. You need financial advice to know if you can afford to exit. Your tax advisor can tell you about the importance of timing and provide guidelines for structuring the terms of the sale to meet your goals.
In addition to the financial side, you must explore the emotional side. Are you ready to part with your business? Are you in a good place in life to give the sale the attention it requires? Putting your business on the market is a distraction, an emotional investment, and a time commitment. It’s physically and mentally exhausting, and it can put a strain on your family. You need to be ready for the breadth of the process.
It’s your move. You have the option to say, “Not yet.” If you initially visualized selling the business in another year or two, this might be a door that opened too soon. It’s poor sportsmanship to go down the road with a buyer and back out late in the game – even more so when it’s your own employees. You may feel comfortable letting things proceed without being fully behind the decision, but this is how you burn bridges with buyers. Treat your managers with the respect and full attention you’d give any buyer.
If your valuation comes back in a range that is pleasing to you – and if you still like the idea of exploring a sale with your managers – we’ll look at whether there are there other potential buyers who could offer a higher price, better terms, or be better positioned for ownership. Is there someone else who might be more adept at carrying on your legacy if that is important to you? Is there a buyer who will never call you at 3 a.m. asking a question, freeing you to relax and enjoy retirement?
Give yourself time to imagine these scenarios. One will stand out in your mind. If you have a few days to think about it, you’ll keep returning to the one that seems like the best fit.
Before approaching your managers with your proposed asking price, we need to see if they are qualified to buy. Once they make a formal offer, they will provide evidence that they can purchase the company. However, before we get to that point, we’ll check to see if they can carry the sale through. In addition, we’ll check whether they have legal or financial issues that would interfere with the sale. We’ll research their reputations.
As with our chess analogy, it’s better to refuse the gambit and leave the table at the beginning than to walk away from a game that has deteriorated into a shambles.
Access to money is the number one issue with MBOs. Often sellers fund part or all of the deal. An MBO can be structured in many ways, and each option has pros, cons, and risks. Next, we will help you craft the asking price and terms.
Remember, this is an asking price you are developing specifically for this deal. You can craft a “sweetheart” package that you wouldn’t offer another buyer. Just be prepared for that number to make it out onto the street, which means you may hear from friendly competitors who say things like, “I would have offered you twice that amount.” It’s hard to listen to comments like that, but remember those are not legitimate offers. Reality can get hazy, and emotions can get hot when you trick yourself into thinking you’ve left piles of money on the table. This is why we do scenario planning ahead of time.
Once you and your managers have agreed about price and terms, they will submit an offer in writing – known as a Letter of Intent (LOI), Letter of Interest, or a Terms Letter. The LOI is a document describing the price, terms and other particulars you want to spell out. An LOI is not a formal purchase agreement, but it moves the sale to the next phase.
You’ll enter due diligence with the acceptance of the LOI and signing the formal non-disclosure agreements. Unless something glaring and horrible is uncovered, your managers are probably good with the deal you’ve struck – another benefit of an MBO.
Due diligence is a place where you can’t take shortcuts. Your managers may try to waive or exclude parts of due diligence to move things along. I strongly recommend against this. You want to be sure each part of the process is clean and transparent. Yes, due diligence takes time and can be costly. However, you want both you and your managers to have the same information about the business so there’s integrity to the sale. The last thing you want is for them to come back after the close, complaining (or bringing legal action) about things that should have been uncovered during due diligence. So take the time it needs, and do everything by the book.
By this point, we are at the end game. In the wild chess game we’ve described, you’ve probably repeatedly told your opponent, “Are you sure you want to do that? Would you like to take back that move?” You put yourself in the role of coach and mentor to protect your opponent from making stupid moves. Likewise, as a seller in an MBO, you collaborate with your managers.
When you approach the sale collaboratively, it opens you to creative terms with your buyers. Even if you are funding part or all of the deal, your motivations can come from a place of mutual benefit.
As you view your management buyout, aim for a win-win outcome. Leave something on the table for the buyer. Don’t be rushed, and don’t take shortcuts. Most importantly, never underestimate the ability of an inexperienced buyer to throw a monkey wrench in the process.
In the weeks before closing, everyone’s impatient. You will have longer waiting times because there are many buying team members. That’s a logistical reality. Having two buyers doesn’t double the time, it quadruples it. More lawyers, more spouses, more drama, more credit checks, and on and on. Be patient and hang in there. Be the adult in the room when your buyers get frustrated. Keep your advisor on speed dial so you appear calm and zen-like in your meetings. Keep the psychological upper hand.
By now, you can see the light at the end of the tunnel. Your managers will be excited about closing day. Unlike some buyers who merely send in their minions to handle everything in a virtual data room (VDR), your buyers may want to sign the documents with you the old-fashioned way. Even if the final signing is done virtually and not on paper, take time to celebrate together. What an accomplishment!
After the sale of your business, you may be tempted to hang out at the shop to help. Let your managers have wings, and give them a chance to shine. When you sell to your own people, you need an extra dose of humility. Be a role model for their ongoing success. You want your managers and employees to remember that you did it the right way.
Whether you decide to sell to your managers or go a different direction, always invest in the best experts to advise you, and operate with integrity in all aspects of the buy-sell game.
Rock LaManna is The Deal Flow Guy. He helps qualified buyers and investors find businesses that are ready for acquisition or transition. On the sell side, he helps owners improve their businesses, increase value, and position strategically in anticipation of sale, exit or succession. Sign up for his newsletter at TheDealFlowGuy.com and start the process.
Imagine you’re a better-than-average chess player relaxing between matches at a tournament. Suddenly, an eager group of players appears on the other side of the table. You’ve never played against multiple people a once, but how hard can it be, you wonder? The group is raring to play. Without even a signal from you, they’ve made their opening move. You can tell they don’t have the qualities of a chess master. They are an unknown quantity.
In chess, an inexperienced but motivated player can be a dangerous opponent. Whether you are a great player yourself or merely average, you are more likely to lose to this type of player. They are unpredictable, make rash moves, and can surprise you with a lucky combination. If you decide to play with an eager novice, you need to slow things down, double-check every move, and take nothing for granted.
In the sale of your business, the same applies. Remember, over 70% of business acquisitions will fail before closing or in the first few years after the sale. Let’s be honest. In sales across all industries and with buyers of all types, the number is closer to 90%. You can’t fall in love with any buying entity this early in the game, even if a management buyout seems like a slam dunk.
Let me start by saying there’s nothing inherently wrong with selling to a manager or your management team. Selling to managers is one way to transfer your business to a trusted entity. In many ways, an MBO is like a family succession, with many of the same advantages and pitfalls.
Here are the advantages of selling to your managers:
- They already know what they’re getting into.
- They’re sentimentally attached to the business and want good things for it.
- They have ideas about how they can make improvements.
- They may be more willing to retain you or your family members as employees.
- They may need more leadership ability.
- They may need training in many areas, especially the financial side of the business.
- They may require funding from you or an investor.
- They may have confirmation bias and overlook critical issues during due diligence.
- They may need to gain the mental toughness to run a business year in and year out.
- They may be more subject to buyer’s remorse.
Because of their curiosity, they will rush you to name a price – “Just give us a ballpark range, boss” – so they can see if they should pursue the deal. This is when you have to slow it down. You can’t start spouting off numbers without having a valuation done. It’s not fair to you, and it’s not fair to them. If you quote something too low, you get their hopes up and irk them when you revise your asking price. Come in too high and you’ll lose their interest while they’re hyped about purchasing the company.
Here are essential questions we need to address: When you had your first germ of an idea about selling your company, did you imagine your managers as a possible option? Even if they are good managers, do you believe they could be good owners? Do they generally get along with each other? Do they make sound business decisions as a group and individually? Do they have complementary strengths that are greater than the sum of their parts? Are there any landmines in their personalities or integrity? Would your employees enjoy working for them and strive to do their best?
You also need to weigh the financial and emotional risks if your managers are unsuccessful as owners. Having your own people fail can be much harder on you and your other employees than if an outsider buys the business and does the same.
Before you step forward with these buyers, you also must decide if you are ready to sell. This is not just a gut check. You need financial advice to know if you can afford to exit. Your tax advisor can tell you about the importance of timing and provide guidelines for structuring the terms of the sale to meet your goals.
In addition to the financial side, you must explore the emotional side. Are you ready to part with your business? Are you in a good place in life to give the sale the attention it requires? Putting your business on the market is a distraction, an emotional investment, and a time commitment. It’s physically and mentally exhausting, and it can put a strain on your family. You need to be ready for the breadth of the process.
It’s your move. You have the option to say, “Not yet.” If you initially visualized selling the business in another year or two, this might be a door that opened too soon. It’s poor sportsmanship to go down the road with a buyer and back out late in the game – even more so when it’s your own employees. You may feel comfortable letting things proceed without being fully behind the decision, but this is how you burn bridges with buyers. Treat your managers with the respect and full attention you’d give any buyer.
If your valuation comes back in a range that is pleasing to you – and if you still like the idea of exploring a sale with your managers – we’ll look at whether there are there other potential buyers who could offer a higher price, better terms, or be better positioned for ownership. Is there someone else who might be more adept at carrying on your legacy if that is important to you? Is there a buyer who will never call you at 3 a.m. asking a question, freeing you to relax and enjoy retirement?
Give yourself time to imagine these scenarios. One will stand out in your mind. If you have a few days to think about it, you’ll keep returning to the one that seems like the best fit.
Before approaching your managers with your proposed asking price, we need to see if they are qualified to buy. Once they make a formal offer, they will provide evidence that they can purchase the company. However, before we get to that point, we’ll check to see if they can carry the sale through. In addition, we’ll check whether they have legal or financial issues that would interfere with the sale. We’ll research their reputations.
As with our chess analogy, it’s better to refuse the gambit and leave the table at the beginning than to walk away from a game that has deteriorated into a shambles.
Access to money is the number one issue with MBOs. Often sellers fund part or all of the deal. An MBO can be structured in many ways, and each option has pros, cons, and risks. Next, we will help you craft the asking price and terms.
Remember, this is an asking price you are developing specifically for this deal. You can craft a “sweetheart” package that you wouldn’t offer another buyer. Just be prepared for that number to make it out onto the street, which means you may hear from friendly competitors who say things like, “I would have offered you twice that amount.” It’s hard to listen to comments like that, but remember those are not legitimate offers. Reality can get hazy, and emotions can get hot when you trick yourself into thinking you’ve left piles of money on the table. This is why we do scenario planning ahead of time.
Once you and your managers have agreed about price and terms, they will submit an offer in writing – known as a Letter of Intent (LOI), Letter of Interest, or a Terms Letter. The LOI is a document describing the price, terms and other particulars you want to spell out. An LOI is not a formal purchase agreement, but it moves the sale to the next phase.
You’ll enter due diligence with the acceptance of the LOI and signing the formal non-disclosure agreements. Unless something glaring and horrible is uncovered, your managers are probably good with the deal you’ve struck – another benefit of an MBO.
Due diligence is a place where you can’t take shortcuts. Your managers may try to waive or exclude parts of due diligence to move things along. I strongly recommend against this. You want to be sure each part of the process is clean and transparent. Yes, due diligence takes time and can be costly. However, you want both you and your managers to have the same information about the business so there’s integrity to the sale. The last thing you want is for them to come back after the close, complaining (or bringing legal action) about things that should have been uncovered during due diligence. So take the time it needs, and do everything by the book.
By this point, we are at the end game. In the wild chess game we’ve described, you’ve probably repeatedly told your opponent, “Are you sure you want to do that? Would you like to take back that move?” You put yourself in the role of coach and mentor to protect your opponent from making stupid moves. Likewise, as a seller in an MBO, you collaborate with your managers.
When you approach the sale collaboratively, it opens you to creative terms with your buyers. Even if you are funding part or all of the deal, your motivations can come from a place of mutual benefit.
As you view your management buyout, aim for a win-win outcome. Leave something on the table for the buyer. Don’t be rushed, and don’t take shortcuts. Most importantly, never underestimate the ability of an inexperienced buyer to throw a monkey wrench in the process.
In the weeks before closing, everyone’s impatient. You will have longer waiting times because there are many buying team members. That’s a logistical reality. Having two buyers doesn’t double the time, it quadruples it. More lawyers, more spouses, more drama, more credit checks, and on and on. Be patient and hang in there. Be the adult in the room when your buyers get frustrated. Keep your advisor on speed dial so you appear calm and zen-like in your meetings. Keep the psychological upper hand.
By now, you can see the light at the end of the tunnel. Your managers will be excited about closing day. Unlike some buyers who merely send in their minions to handle everything in a virtual data room (VDR), your buyers may want to sign the documents with you the old-fashioned way. Even if the final signing is done virtually and not on paper, take time to celebrate together. What an accomplishment!
After the sale of your business, you may be tempted to hang out at the shop to help. Let your managers have wings, and give them a chance to shine. When you sell to your own people, you need an extra dose of humility. Be a role model for their ongoing success. You want your managers and employees to remember that you did it the right way.
Whether you decide to sell to your managers or go a different direction, always invest in the best experts to advise you, and operate with integrity in all aspects of the buy-sell game.
Rock LaManna is The Deal Flow Guy. He helps qualified buyers and investors find businesses that are ready for acquisition or transition. On the sell side, he helps owners improve their businesses, increase value, and position strategically in anticipation of sale, exit or succession. Sign up for his newsletter at TheDealFlowGuy.com and start the process.