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Demystifying the Management Buy Out process

A Management Buy-Out (MBO) can be an option for many business owners looking for a way to turn the value of their business into cash as they head towards retirement. The process does not need to be very complicated. However, there are some key steps which are essential to ensuring the success of the buy-out and some of these are highlighted below.

An MBO is a process through which managers working in the business become owners. The existing owners often leave the business completely although there are many examples of MBO’s where the existing owners have retained some ownership.

The most important features of an MBO include:

  • The MBO transaction should take place at open market value as failure to do this can cause significant tax problems. A formal valuation of the business is often the starting point
  • This does not mean that the management team have to fund the full purchase value of the business themselves
  • Most (but not all) MBO’s involve setting up a new company (NEWCO) which buys all of the shares in the current trading company with funds provided by the management team and external funders. Typically the majority of the funds are provided by external funders but the management team end up holding the majority of the shares (because the external funds provide some of their money as debt for which they get no equity)
  • In many cases, the management team acquire control of the business for a modest investment of their own
  • The current owners often provide part of the funds themselves through accepting deferred payment on part of their sale
    proceeds or through retaining some shares
  • Where the current owners are receiving part of their consideration in shares in NEWCO there is usually a need to apply to HMRC for clearance on their tax treatment
  • There has been a substantial increase in the amount of funds available to support MBO’s in recent years, these include both private equity and debt funds
  • Where equity funds are involved, they are investing with a view to a future sale to a trade buyer or another financial buyer and are looking for a substantial return on the money they invest.
  • This approach is well suited to businesses with potential for a step change in value
  • Debt funds require repayment with interest and are well suited to MBO’s of businesses with predictable and stable cash flows
  • For some business owners, an MBO can provide an opportunity to de-risk their personal position by realising a significant amount of cash whilst continuing to lead the business towards a future sale with support from a Private Equity Fund.

Where existing management look for an MBO as part of a two stage process it is important to remember that the private equity investor will expect the management team to deliver on their plans. In most cases they will appoint a Non Executive Director to represent them on the Board and also retain the right to make management changes if performance falls significantly short. It may also be a condition of the investment that any gaps in the management team are addressed through recruitment.

For these reasons, any business considering an MBO should take advice from an experienced corporate finance specialist. At MC Vanguard we are always happy to provide clients with an initial sounding board – this can be followed by more formal advice where required.

If you wish to discuss anything within this article further please contact Brian McCann below.