Business owners who have created considerable wealth in their private enterprises but are not quite ready to exit completely have interesting financial alternatives in today’s market. An increasingly popular option is to begin transitioning business ownership to a partner, family member or private equity investor through a leveraged recapitalization (a “recap”).
A leveraged recap is a valuable financial tool for succession planning. It allows a gradual ownership transition while providing liquidity today and the ability to tap some of the equity business owners have built in their businesses now. The leveraged recap involves reconfiguring a company’s capital structure in a manner consistent with the plans and goals of both the owners and the company. It enables business owners to capture some liquidity from their businesses today while still retaining a significant ownership stake and continuing to participate in the company’s upside by operating the business with considerable autonomy. What a terrific scenario!
Private Equity Firms are Flush With Cas
If you’ve been reading the business press lately, you realize that private equity firms are flush with cash—over $100 billion by many estimates. These investment funds are seeking opportunities in successful, growth-oriented businesses, any of which are privately-held. Private equity investors are aggressively pursuing new platform acquisitions as well as add-on acquisitions. In addition, strategic industry buyers are also hungry for deals. This increases the competition—and price—for quality transactions.
Consequently, price multiples for private equity leveraged buyouts (LBOs) are rising and many business owners should consider selling, especially if you are interested in locking in some of your gains by “taking some of your chips off the table” now. But not all companies command high prices. For marginal companies and those subject to raw material price increases and an inability to pass price increases onto the customer the market is quite discriminating with lower valuations. In addition, for many privately-held businesses there continues to be a desire to keep ownership in the family or transition ownership to key employees or existing business partners.
What is a Recap?
A leveraged recap can take the form of a buyout of other owners or the payment of a one-time distribution to provide diversity and/or liquidity for their estates.
At times, there is a desire by owners to structure a recap to gain liquidity while minimizing loss of equity. While an all senior debt recap by a bank may be feasible in some cases, it is critical to ensure that the post-recap capital structure leaves the company in a satisfactory financial condition with flexibility to adapt to future market opportunities.
An important concern for the senior lender is ensuring that the owners have a sufficient level of commitment to the business following a leveraged recap. If the owners are being paid a substantial distribution, a key question for the lender is whether the owners have a sufficient continued economic need for the business succeed. This is especially critical if the business runs into difficulty and the owner’s attention is needed.
Private Equity Investors
In some cases, in order to support the liquidity and growth needs of the business and complete the recapitalization, it is necessary to bring in an outside financial partner.
A number of mezzanine investors (junior debt providers) and equity investors are pursuing leveraged recap investments in growth-oriented companies to seek attractive investment returns. In general, these investors desire companies with outstanding revenue and earnings growth, significant market share and niche positions, experienced management teams and excellent historical and projected financial performance. While some private equity investors will accept a minority position in a company, most desire a controlling interest. But virtually all of them not only will allow—but also strongly desire—the previous owner to maintain day-to-day operating control.
Debt Considerations
For borrowers, there couldn’t be a better time to raise capital. The net result for middle-market borrowers is a wide array of financing alternatives and the ability to create an optimal, total capital structure.
While asset-based lending (ABL) can require more reporting and monitoring, many companies utilize asset-based lending as a financing solution for their company because of competitive pricing, flexibility and covenant-light structures. Because of the underlying asset coverage, it may be possible to structure the leveraged recap with an initial distribution to the shareholders as well as a percentage of excess cash flow distributed annually that will maximize cash flow to the owners.
Post Recap
A leveraged recap is a powerful financing tool that assists private companies and their owners in meeting their business and exit planning objectives. Following a leveraged recap, company management tends to become more focused on the efficiency and effectiveness of its operations, resulting in improved operating performance and working capital management. Today’s market offers an ample supply of competitively-priced capital to consummate transactions with interest from senior lenders, junior debt providers and private equity investors; however, it is important to evaluate several alternatives and to select the appropriate financial partners and capital structure for the long term.
Business owners who have created considerable wealth in their private enterprises but are not quite ready to exit completely have interesting financial alternatives in today’s market. An increasingly popular option is to begin transitioning business ownership to a partner, family member or private equity investor through a leveraged recapitalization (a “recap”). A leveraged recap is a valuable financial tool for succession planning. It allows a gradual ownership transition while providing liquidity today and the ability to tap some of the equity business owners have built in their businesses now. The leveraged recap involves reconfiguring a company’s capital structure in a manner consistent with the plans and goals of both the owners and the company. It enables business owners to capture some liquidity from their businesses today while still retaining a significant ownership stake and continuing to participate in the company’s upside by operating the business with considerable autonomy. What a terrific scenario!
Private Equity Firms are Flush With Cash
If you’ve been reading the business press lately, you realize that private equity firms are flush with cash—over $100 billion by many estimates. These investment funds are seeking opportunities in successful, growth-oriented businesses, any of which are privately-held. Private equity investors are aggressively pursuing new platform acquisitions as well as add-on acquisitions. In addition, strategic industry buyers are also hungry for deals. This increases the competition—and price—for quality transactions.
Consequently, price multiples for private equity leveraged buyouts (LBOs) are rising and many business owners should consider selling, especially if you are interested in locking in some of your gains by “taking some of your chips off the table” now. But not all companies command high prices. For marginal companies and those subject to raw material price increases and an inability to pass price increases onto the customer the market is quite discriminating with lower valuations. In addition, for many privately-held businesses there continues to be a desire to keep ownership in the family or transition ownership to key employees or existing business partners.
What is a Recap?
A leveraged recap can take the form of a buyout of other owners or the payment of a one-time distribution to provide diversity and/or liquidity for their estates.
At times, there is a desire by owners to structure a recap to gain liquidity while minimizing loss of equity. While an all senior debt recap by a bank may be feasible in some cases, it is critical to ensure that the post-recap capital structure leaves the company in a satisfactory financial condition with flexibility to adapt to future market opportunities.
An important concern for the senior lender is ensuring that the owners have a sufficient level of commitment to the business following a leveraged recap. If the owners are being paid a substantial distribution, a key question for the lender is whether the owners have a sufficient continued economic need for the business succeed. This is especially critical if the business runs into difficulty and the owner’s attention is needed.
Private Equity Investors
In some cases, in order to support the liquidity and growth needs of the business and complete the recapitalization, it is necessary to bring in an outside financial partner.
A number of mezzanine investors (junior debt providers) and equity investors are pursuing leveraged recap investments in growth-oriented companies to seek attractive investment returns. In general, these investors desire companies with outstanding revenue and earnings growth, significant market share and niche positions, experienced management teams and excellent historical and projected financial performance. While some private equity investors will accept a minority position in a company, most desire a controlling interest. But virtually all of them not only will allow—but also strongly desire—the previous owner to maintain day-to-day operating control.
Debt Considerations
For borrowers, there couldn’t be a better time to raise capital. The net result for middle-market borrowers is a wide array of financing alternatives and the ability to create an optimal, total capital structure.
While asset-based lending (ABL) can require more reporting and monitoring, many companies utilize asset-based lending as a financing solution for their company because of competitive pricing, flexibility and covenant-light structures. Because of the underlying asset coverage, it may be possible to structure the leveraged recap with an initial distribution to the shareholders as well as a percentage of excess cash flow distributed annually that will maximize cash flow to the owners.
Post Recap
A leveraged recap is a powerful financing tool that assists private companies and their owners in meeting their business and exit planning objectives. Following a leveraged recap, company management tends to become more focused on the efficiency and effectiveness of its operations, resulting in improved operating performance and working capital management. Today’s market offers an ample supply of competitively-priced capital to consummate transactions with interest from senior lenders, junior debt providers and private equity investors; however, it is important to evaluate several alternatives and to select the appropriate financial partners and capital structure for the long term.