Targeting the Right Type of Business Sale
When owners take one of the many calls they get from business brokers, the conversation often turns to valuation multiples in the current market. While multiples are important, owners may not think enough about the different types of transaction that will help them achieve their goals. A lot can weigh on an owner’s mind when planning to selling all or part of a business. You may want to ensure that none of your employees get laid off or that you will be able to run your business without significant oversight. These concerns and many others are often influenced by the type of transaction you target and eventually accept. Today’s market presents a variety of opportunities to consider. Generally speaking, these opportunities can be broken down into five different types of transactions. 1. Tuck-in acquisition (or Bolt-on): In this type of sale, a larger HVAC company with an office nearby will absorb your operation into theirs. This is the most common opportunity for smaller HVAC companies as typically an acquirer will want to have a local leader to manage the business when the owner leaves. Many owners like the idea of being purchased by another company in the industry as it helps reduce the learning curve necessary to operate the business effectively. An industry buyer is also more relatable for an owner as they will better understand the value of what has been built and how to help further grow the business. A key benefit to sellers is that the larger company brings some level of back office support and management expertise to the table. This can take some burden off an owner in the twilight of their career or enable the owner to leave after a shorter transition period if desired. The main limitation of being a tuck-in acquisition is that it is primarily a 100% purchase of the company. Owners looking to retain equity are typically not a fit as a tuck-in although stock options in the larger company could be available. A key drawback to this transaction is that some layoffs are likely. When the larger company integrates their operation into yours, some of the office staff in your business or theirs may need to be let go given that some of the positions will be redundant. One exception to this may be when a large construction company with a small or no service division purchases a service company and needs the staff to keep the service operation running. 2. Private equity platform: Private equity investors prefer to make an initial investment in their HVAC growth strategy by purchasing a large “platform” company. A platform company is typically $30M or more in revenue although they can be smaller. Private equity is looking for a company that is operationally sound with a strong management team. Once they purchase the platform, private equity wants to grow the platform by investing in organic growth and through acquisitions. The private equity team brings the experience and capital to execute the acquisition growth strategy. Becoming a platform company can be an exciting and profitable path to growth for the owner and their management team. Owners targeted as a platform by an investor may find the initial valuation somewhat attractive and then see the opportunities for additional compensation down the road as highly attractive. The investor will want the owner or management team to maintain some equity to reward them if they execute the growth strategy well. On the downside, it can also potentially mean more travel to visit acquisition targets and additional responsibility integrating the companies. 3. Geographic expansion acquisition: When entering a new market, HVAC companies will often look to buy another company to establish a presence. Private equity firms refer to these acquisitions as "add-ons" when they are expanding geographically to add the business to an existing platform. For owners, this is a good opportunity to help an established company grow in your area. This type of transaction is only available to larger HVAC sellers. When entering a new market, buyers typically target companies with $20M or more in revenue although some will look at businesses closer to $10M. The acquirer will value your local knowledge of the market and relationships and likely want all of your staff to stay onboard. Other benefits include minimal disruption to how you currently operate and the opportunity for the owner to leave after a short transition period if desired. 4. Private equity partial sale: Owners who are a few years from retirement can sell 40% to 80% of their business to private equity. The firm may handle many of the back-office functions to allow the owner to focus on their strengths. Depending on the situation, they may also look to bring in a new CEO or COO who can partner with owner on a growth plan or begin taking on the owner’s responsibilities as part of an exit plan. However the arrangement is made, a typical approach is incentivizing the owner or management team with equity to reward successful execution of a growth plan. Ultimately, there are a lot of variations on a private equity partial buyout as private equity firms specialize in structuring deals to match an owner’s goals while positioning the business for higher growth. The ideal result for an owner is that the private equity growth plan is successful, and the business grows by 50% or more by the time the owner is ready to retire. Then the owner sells their remaining equity at a significantly higher valuation than the initial sale. This is often referred to in private equity terms as getting a second bite of the apple. 5. Individual investor or searcher: As recent MBA graduates and corporate executives look to shift from corporate America to entrepreneurship, they often look to buy a small to medium sized business. These individuals called “searchers” could be operating independently with their own capital or be backed by private equity. These “search funds” look for companies to purchase and operate.
The main advantage of this type of buyer is that the buyer becomes the new operator of the company. This is ideal for owners that want to sell and retire but do not have a strong management team in place to run the business. This is the case for many owners of HVAC companies under $10M in revenue. Search funds provide these owners with a viable exit option where one may not have existed otherwise. The current market offers a lot of different types of transactions for owners. Considering the ideal transaction types as a part of your exit and succession planning process will help you time the start of your sale appropriately and know what to expect from potential acquirers. It is also important to note that the list above is intended to represent a large percentage of transactions but is certainly not comprehensive. The very nature of the mergers and acquisitions market is entrepreneurial which lends itself to creative strategies and unique approaches from investors and industry acquirers. A good advisor can help you confidentially canvass the thousands of buyers in the market to find the right handful of potential acquirers that are a fit for you.