Background

Negotiating funding for your management buyout (MBO)

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Due-diligence is key

Buying into and taking the helm of a business you know well can be an exciting prospect. A management buy-out (MBO) offers the experienced management team a chance to take a business forward in new ways, ones which the previous owner may not have supported. Your inside knowledge of the business, its strengths, weaknesses, threats and opportunities, means you can develop a sound business plan for funders, and it puts you in a good negotiating position.

Debt to equity ratio

As with any business acquisition, with an MBO you should keep a close eye on the debt-to-equity ratio. It is important that it is well balanced and kept in check. For example, if the company you hope to buy into already relies on high levels of debt to fund its trading activities (via existing loans, a business overdraft, or supplier credit terms), then it may not be a good idea to load it with more debt on acquisition.

Or, if a company has very little or no existing debt and you are reluctant to bring in outside investors, then you may decide that an affordable amount of debt funding is appropriate to fund the purchase as opposed to going down the private equity route.

Our solicitors will be able to help assess the balance sheet position by conducting in-depth due diligence on the structure of the existing debt. For example, we will use Companies House and Land Registry searches to determine which of the debts are secured, uncover the methods of security (i.e. bank guarantees, legal charges or debentures) and scrutinise the documentation to assess the terms of repayment and how this may impact on your purchase and funding options.

Cash flow

With cash flow always being king, whatever you can do to protect and preserve it will stand your business in good stead. As such, it is advisable to do cash projections for each funding option and work out which route is likely to give your business the best chance of a positive trading cash flow. The business may suffer from a poor credit profile, persistent bad debts or other financial concerns. By working in tandem with your appointed accountants, our legal team will be able to highlight and recommend potential strategies to ease cash flow concerns. This may be by looking at possible staff reorganisation or outsourcing options, and in doing so assessing the likely costs versus benefits of such steps. Alternatively, by analysing the business’s existing contracts it may be possible to identify opportunities for renegotiation or ways to ensure the contractual payment provisions work in your favour.

Legacy disputes

When planning your MBO and assessing your funding options, it is important to understand the position of the business in relation to legacy disputes, or potential disputes brewing in the background. Such disputes are not necessarily immediately obvious, even to an experienced management team, and will require astute due diligence and targeted enquiries.

These disputes may range from an upcoming employment tribunal to more complex litigation including contractual breaches, indemnity call-ins, debt claims or an allegation of intellectual property infringement. It is vital that you have early notice of any such current or impending actions, potential insurance coverage (if any), and the benefit of best versus worst case scenario forecasts. Not only will such legacy claims potentially impact your cash flow and (ultimately) your solvency position, it is likely they will also need to be disclosed to any external funders, so it is imperative that you approach these matters with all the facts to hand.

Our expert solicitors will guide you throughout this whole process, and we can be your allies when it comes to both raising and fielding in-depth enquiries on these critical issues.

Planning your exit

Before embarking on your acquisition journey, it is generally wise to consider your eventual exit and that of any funder(s). This may sound strange, but nothing in life lasts forever, and you have to bear this in mind when it comes to a company purchase. By thinking through your exit plan in advance, you can ensure that you make the right investment decision from the start.

This way of thinking is especially important if you are considering the private equity route. Most private equity investors will want to have a clear path in sight of how they are getting a return on their investment. They may propose a three- or five-year plan setting out exactly what the growth phase looks like, how this will impact on company valuation and what the strategy is going forward, whether that is to sell the whole company entirely or seek further minority investment.

Our team will help guide your thinking from an early stage with regards to exit planning. There are various early steps that you may wish to consider to help facilitate a smooth transition on exit. This may include structuring the shareholding in a logical fashion, entering into a robust shareholder agreement so that exit terms are clearly outlined, or forward planning your contracts for long-term value. By working alongside our commercially astute lawyers, your future interests will be protected.

Time frames

The timing of the MBO deal may be critical – it may work against you or in your favour. There may be external constraints on the transaction, such as solvency issues, financing conditions, or supplier considerations. Or there may be internal factors, such as seasonal demand, or the launch of a new product or service which you need to tie the deal into.

Therefore, you need to select the funding option which suits your time frame. Whilst there are no hard and fast rules as to how long these things take, as a general rule the funding options which involve a third party or more complexity tend to take more time. 

For example, private equity investment involves a third party (or multiple third parties) and their lawyers and accountants will need to complete a due diligence exercise. This will inevitably take some time. Likewise, if a leveraged finance deal involving complex loan and security arrangements over multiple asset classes is envisaged, again this is not going to happen overnight.

As a buyer, you can help reduce delays by doing thorough due diligence in advance and encouraging early disclosure of key issues. This allows you to address any potentially problematic issues from a lending or investment perspective at an early stage. Such issues may relate to asset security, or the valuation, and you can then raise those issues and seek any additional assurances if required, or negotiate accordingly. It is always helpful to have a ‘Plan B’ funding option, as this provides peace of mind if you run into insurmountable issues with your ‘Plan A’ and it may allow you to complete without too much delay in the event of that occurring.

How we can help

If you are looking for legal advice regarding a potential MBO, especially in regard to funding options and negotiations, you should get in touch with our corporate solicitors without delay.

Also, if you require advice on the legal aspects of company loan security documents, including charges and debentures, then our lawyers will be happy to help.

For an informal conversation, please contact Olivia Chalmers in the corporate commercial team on 01733 882800 or email [email protected].

Olivia Chalmers, LLB


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