What to know if private equity comes calling

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For family-owned businesses looking for an exit strategy, private equity investors can be a lucrative option, says Brian Daley of Founders Advisors.

But, Daley cautions, business owners need to understand private equity does not exist to be your friend.

They may lure you in at the beginning with valuation numbers that exceed your expectations. When the real negotiations begin, however, they’ll very likely have a whole different set of figures.

“You’re up against black belts that are trained to annihilate you,” Daley, director of strategic partnerships for Founders Advisors, told members of Vistage at the organization’s Oct. 1 Upstate New York Executive Summit at the Hyatt Hotel.

Which is why it is imperative that, before negotiations begin, owners know all there is to know about their business — including the precise enterprise value — because private equity players definitely will know everything from A to Z. The advice was part of Daley’s seminar “The Dark Side of Private Equity: Missteps That Could Cost You Millions.”

As an example of what happens during acquisition talks, he referred to the transactions closed by former private equity negotiator Madison Davis. Now a director at Founders Advisors, Davis previously worked for a private equity group. Her job was to finalize deals. In her just under three years with the firm, she closed 63 transactions.

“Of those 63 transactions, the number of times she paid the authorized amount was zero,” Daley said.

The authorized amount was what the private equity investors believed the business was worth. It was her job to negotiate a deal for less, if possible. Not only did Davis never pay top dollar, in more than half of those transactions, she paid 50 percent or less of the authorized amount.

“They are going to try to get you for 40 percent of what you’re worth,” Daley warned, “but they may also pay you 110 percent.”

Founders Advisors, headquartered in Birmingham, Alabama, provides services to help family owned companies execute a successful exit strategy. Their mission is to ensure business owners get that 110 percent.

But you’re very likely only going to get top dollar if you’re well prepared for the valuation and negotiation process, Daley said.

That’s important for family owned or partner-owned businesses to know, especially if they’re in high-demand industries such as home services like HVAC or roofing, operate an architecture, engineering or design firm, or certain health care fields. For those industries especially, private equity cold calls can be never-ending.

There are around 5,000 private equity firms in the United States. Since 2001, the number of companies acquired by private equity has soared by 454 percent, Daley said.

So what happens if they call and a business owner says they may be interested? Don’t be surprised if the initial “We think your business is worth …” excites you.

“That’s just an indication of interest,” Daley said. “They throw a hook with a big piece of meat on it into a river full of piranhas. But it means nothing – nothing! – until you go through confirmatory due diligence.”

The key is being prepared to come out on top in the due-diligence process. Daley listed several reasons why businesses are not ready for a private equity acquisition:

•  They’re not large enough;

• They don’t have the growth, gross margins or profitability traits PE is looking for;

• They lack a leadership team. A C-suite structure is important;

• They operate in an industry or sector that is out of favor;

• They lack customer concentration compared to the industry as a whole.

There also are common missteps during the entire process, Daley said, including:

• Negotiating exclusively with one interested party;

• Failing to understand data readiness. “You need to speak their language from a data perspective,” Daley said.

• The company is owner dependent. A company with a leadership team in place is far more attractive to private equity, he said.

• Missing financial projections for a certain time period. “Private equity will torture you on that,” Daley said. That’s why he said it is advantageous to be in negotiations “when you have the highest level of confidence” you’ll hit those numbers.

“The most attractive businesses to private equity,” Daley said, “are the most operationally sound. They’re an investment-grade business and have a business model that scalable.”

Vistage Upstate New York Chapter

Vistage provides peer advisory and executive coaching guidance to CEOs across a wide range of industries.

“Vistage members are lifelong learners,” Vistage group chair Richard Van Belzen said. “They’re curious, inquiring, they like perspective.”

The Executive Summit provided an economic forecast, breakout groups on a variety of topics and an opportunity to network.

Visit the Vistage website for more information on the organization.

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