Editor's Note: This is the last of three articles by PCE Investment Bankers, LLC. on the subject of liquidity. To read the previous article, click here.
In the March and April 2009 issues of CBO, we explored the attributes of internal and external liquidity strategies for contractors.
With regard to the internal strategies, we detailed:
- Selling to senior management using bank or seller financing
- Gifting to family via family limited partnership, trusts, or notes
- Employee Stock Ownership Plans (ESOPs)-the tax advantaged approach
The external strategies explored the following alternatives:
- Initial public offerings
- Strategic buyers consolidating market share
- Passive financial buyers
- Foreign construction operators
We now compare and contrast the relative merits of each and lay a foundation for matching the approach to the specific objectives of the shareholder. The success of the liquidity strategy exercise depends not only upon identifying, but more importantly, prioritizing the objectives of the shareholder at the beginning of the sale process.
Priority Compromises
Seldom will the buyer pay the highest price all in cash with favorable tax treatment, leave senior management entirely intact and in control, and allow the seller to head for the beach while promoting family members into the executive offices. Inevitably, compromise is required to close the transaction, and thinking through what is "essential" and what's "extra" early on can be the difference between a closed transaction or a busted deal.
The Highest Price
One thing that can entice a founder/owner to consider parting with the company he/she has built is the prospect of receiving not just an attractive price, but the highest price. Accomplishing this typically depends on two factors:
- An intensely competitive process among the most motivated buyers
- Ability to be flexible on deal points most important to the buyer
It is likely that a number of motivated and capable buyers are among the company's competitors, customers or vendors. Excluding such participants from a limited auction process may reduce the final purchase price. The threat to the buyer of losing the acquisition to another suitor generates significant leverage in driving up the purchase price. Finding a way to establish confidentiality and providing enough information for the buyers to craft a thoughtful offer is critical to receiving the highest price.
The strategic buyer may offer the highest if he/she sees increased efficiency in the combined operations. To achieve these efficiencies, the buyer may:
- Change something about the way the company does business
- Consolidate management and administrative roles
- Introduce new layers of management to the operations
- Fire employees previously considered essential and productive contributors
- Relocate the business
An intense, competitive process requires time, focus and effort. Some of the requirements of the top bidder may not be the decisions the owner would make if they had kept the business. But, the highest price is its own reward, including the opportunity to share the wealth with those who contributed the most to its achievement, even if they're not all shareholders.
The Right Fit
- A buyer may stand out among all the suitors for reasons other than dollars, such as:
- Superior reputation in the market place
- Excellent relationship with their employees and customers
- Commitment to maintain the current headquarters locally and retain senior management
- Impressive handling of negotiations on the sensitive transaction issues, including tax structures.
They may not be the highest bidder, but they're the right buyer. In such a case, the owner may elect to close a transaction that does not provide the most cash at closing, but satisfies other non-monetary objectives.
Categories of Priorities
When evaluating the varying paths to liquidity, the paramount concern should be meeting the goals and objectives of the shareholders. In doing this, you inevitably look at the strengths and weaknesses of the approaches within three categories: financial, personal and legacy.
Financial Goals
These are often the cornerstone of the decision making process when a shareholder decides to sell the business. The financial terms of a transaction extend far beyond the purchase price, including:
- Method of payment (cash at closing, earn out over time, equity in the buyer)
- Tax structure of the transaction-asset vs. stock sale
- Tails of liability for the seller, either in bank guarantees, bonding indemnification, representations or warranties for previous work
- The amount of financial capital the buyer is committing to the future growth of the business
For reasons previously identified, external buyers are almost always superior acquirers when evaluating the financial aspects of a potential transaction. Among this group, the strategic buyer is typically willing and able to pay the most money and deliver the most cash. It is likely that a financial buyer would be most committed to aggressively funding the growth of the business whether for organic expansion or acquisitions.
Personal Goals
Cash is not the only consideration, and sometimes not the primary factor. The ability to pull back from day-to-day operations and spend more time recreating or with family can play prominently in a seller's priorities. The ability to provide career opportunities for family members and continue to control the strategic direction of the company can be important as well.
With regard to personal goals, the options in an internal transfer typically trump the external strategies discussed. A properly structured transfer to employees, senior management or family members allows the shareholder tremendous flexibility in the timing and manner of the stock sale or transfer. The exception is when the strategic buyer doesn't need the talents of the selling shareholder and can therefore afford to allow the owner to stop working altogether.
Construction Business Owner, May 2009
