Management buy out solicitors
We deliver the solutions to the management buyout team who may be dealing with an MBO for the first time and continuing to run a business. We can also act for vendors and financiers involved in MBO transactions – we offer a depth of understanding needed by any party.
Structuring an MBO
Our lawyers will deal with the structure of the management buy out and protect your position. MBO’s are flexible in their structure and there are a variety of ways of proceeding. Often a new company is incorporated into which the business is transferred and finance provided. We refer to the new company as “NewCo”.
Equity finance vs debt finance
Equity finance is usually in the form of shares which are issued in NewCo. The disadvantage of equity finance is that shareholders are the last to be paid out if the business is wound up. Debtors have a priority over shareholders. For that reason a common form of debt finance is used, which can be loans from the banks, or loan notes granted in favour of individual or institutional investors.
The problem with debt finance for a lender is that a loan does not provide the right to capital and/or profits enjoyed by shareholders. Therefore, in practice, it is not unusual to see the management buy out structured using debt and equity to capture the best of both worlds.
Representing the MBO team
The fact that the management team is acting both as a potential purchaser of the business and its management, with different duties, is a matter which has to be carefully handled. Our service delivers the experience needed to solve the issues.
Common characteristics of a management buy out
The common characteristics of a MBO are:
- Routinely, a company is set up, a NewCo, to purchase the shares/assets of the target company and following purchase, the shares in the NewCo are held by the MBO team (and any investors). NewCo is incorporated to permit the management team to acquire debt finance for NewCo’s acquisition of the target company, if required.
- The underlying business remains the same with the existing management team remaining employed. An equity investor of NewCo may well become involved in the management of the company and where this happens this is referred to as a “BIMBO” (Buy in and Management Buy Out).
- Often the consideration the owners receive on sale is funded in whole or part from the revenue the business generates post-MBO on deferred payment terms sometimes linked to earn-out targets. We have dealt with MBOs that are funded via the use of EMI options.
Where debt financing is sought from a variety of lenders the issue becomes who will be paid off in priority to other lenders. Lenders will seek protection usually via a series of companies forming the management buy out with the most powerful lender advancing loans to the company most likely to be able to pay out.
Representing the Seller
It is not uncommon for the management buy out to be financed by the seller, i.e. the owner of the target company. This is called vendor financing. Vendor financing can take many shapes including:
- Leaving the consideration for the shares outstanding – whilst the consideration is outstanding the vendor should consider the protections available under a shareholders’ agreement.
- Using EMI options – under which the management team buy the business in stages as and when the management team are in funds.
- Loans by the vendor to the MBO company – the vendor may provide NewCo with the funds, via a loan, for the purchase of the target company’s shares or assets.
Typical vendor finance requirements under a management buy out
We act for vendors and tell them how to protect their investment in the form of finance for the management buy out. Equally, we can act for the MBO team and put in place a workable plan.
Based on past experience, typically the vendor will look at:
- Strict repayment terms, which can often be linked to group company performance, e.g. EBITDA;
- Security for the loan, which is often taken over the MBO assets;
- A deed of subordination to ensure that their loan ranks above advances made by other creditors, e.g. secondary or senior lenders.
Cases are different because often the vendor is very familiar with the business and also there will usually be a personal relationship with the MBO team. We understand the interaction of interests and work to find a balance.
Representing the MBO team
We review documentation that has been prepared by the owners or the financiers. Our skill is to advise the MBO team on the commercial risks and their rights and obligations under the transaction. We will flag up areas where the position for the management buy out team can be improved.
Our lawyers usually represent the entire team but can act for individual members of the management buy out team if required.
Management buy out acquisition agreement
There are a variety of issues we will deal with for the management buy out team. The emphasis will vary from business to business. Our skill is in picking out what is likely to be important. We do understand that often the most important factor is to get the management buy out over the line – we use our skill to make that happen on the best terms securable.
Areas where we add value can include:
If the seller has agreed to earn-outs, then the payment terms will have to be strict. Between exchange and completion, the seller will usually guarantee that payments above a certain amount, or aggregate amount, will not be paid out of the target.
Warranties given by the seller to the management buy out team
Many management buy out teams will have an active role in the target company’s decision making. However, this is not always the case, as the target’s articles or any shareholders’ agreement may have limited the management team’s input. Thus, the management team will want the seller to warrant certain matters, e.g. that the target has no outstanding employment law claims , and that all intellectual property is registered and maintained. We work with the MBO team to fine tune appropriate warranties for the particular deal.
The target company may have ongoing or future liabilities which are in dispute. The management team needs disclosure on liabilities and consider requiring the seller to indemnify the management buy out team for these liabilities. Common liabilities are outstanding tax claims or any expected damages to be paid as a result of ongoing litigation.
Legal advice can quantify the risks for the management buy out team. Often the problems are solved by capping indemnities which provide a practical solution.
The management buy out team will want to restrict the future business ventures of the seller to compete. The seller may not want to be precluded from future business activities – this all depends upon the identity of the seller. Agreeing restrictions is a balancing exercise.
Management buy out due diligence
Our due diligence exercise can reveal any issues that could be problematic.
We take the time to understand the reason for the MBO to ensure that the acquisition agreement protects the management team’s subscription, and the target company’s future value. If the value is not protected, then the management team may find the target company unable to meet future commitments, e.g. earn out payments, or loan repayments to senior or secondary lenders.
Management of the business
During the transitional process, the vendor will want to retain a degree of control to maximise returns where the purchase price is fixed to a future completion date. Likewise, on completion, an external financier should have in place sufficient control mechanisms within the paperwork to protect the investment provided to the MBO team.
Focus areas for regulating conduct after the management buy out has completed
It is not uncommon for private investors to insist on various protections. We will tell you what is reasonable based on our experience of previous transactions.
Typical areas for legal advice include:
- Board composition.
- Veto rights
- Transferring shares
It is fairly common for the new MBO team to put in place equity incentives for the key staff. At the stage of planning the equity structure for NewCo a provision can be made for a pool of shares to be made available for employee share plans. We can deal with this for you.
An MBO can be a complex undertaking. The structures are flexible. With this flexibility comes a degree of expertise required to navigate the deal to completion and handle the vast quantity of paperwork to achieve the desired goals. Using our experience, we work with the management team to streamline the process and effect completion with minimum cost. An MBO is different to the majority of corporate transactions, and thus experience is key.