Cash Out and Still Have a Piece of the Pie: Majority Recapitalization
Recapitalizations can be used to provide liquidity to owners, refinance the balance sheet or fund future growth initiatives. When the owners sell a majority of the business but still retains some ownership, it is termed a majority recapitalization.
When a company grows to become the business owners’ largest asset, there is often a desire to achieve some liquidity by “taking some chips off the table”. When this is the case, an owner may seek to recapitalize the business by selling a portion of the ownership. The proceeds can be used to invest in other stocks, businesses, assets or securities to diversify the sellers’ finances and decrease risk.
When a company grows to become the business owners’ largest asset, there is often a desire to achieve some liquidity by “taking some chips off the table”.
Some may ask, if a business owner wants liquidity, why not sell the entire business? This is driven by a myriad of reasons while the most prominent examples of representative transactions are detailed below.
- First, a business owner may not be “ready to retire”. They may want to maintain operational management and cultural influence of the company but seek some financial liquidity.
- Second, a business owner may want to retire or decrease their day-to-day management of the Company but they still believe that the company has strong long-term growth potential that will increase the future value of the business. For this reason, they may seek to retain some ownership of the business so they can enjoy “another bite of the apple” when there is a second liquidity event.
- Another reason owners seek recapitalizations is to raise growth capital. The owner may see a tremendous growth opportunity for the business which requires a financial partner that can provide a capital injection. In turn for the capital, they may have to sell a portion of the company.
- Sometimes recapitalizations are done to shift ownership between partners in a company, intergenerational transfers or between management, owners and financial sponsors. Other times recapitalizations include paying off debt, taking a cash dividend by raising debt, paying out an investor, or shuffling the capital structure to increase the amount of free cashflow available for growth.
Whatever the reason is for the recapitalization, so long that the business owner retains a portion of the ownership, the owners are wise to seek a strategic or financial partner that is willing and able to help grow the business. This is because they want to increase the value of their holdings as much as possible. Further, the business owner should evaluate the cultural fit, and the financial, management and operational expertise that the partner brings to the table.
It is prudent for the business owner to hire proper representation when undertaking a recapitalization. This includes legal counsel, an accounting firm, an investment banker, and sometimes a business valuation expert. These professionals are worth their cost. For example, the attorney will help structure the agreements and protect the owners’ interests. The accountant can prepare financial statements that the banks and financial partners will need to analyze. Also the attorneys and accountants can help structure the most tax efficient transaction. The business valuation professional can help determine the company’s proper value. An investment banker or business broker can be extremely helpful to the owner. Not only can they help run the recapitalization process but their efforts typically increase what the owners get paid by creating a competitive bidding process for the company’s equity.
Obviously, price is only one factor to consider when choosing a long term partner, and competent professionals can guide the recapitalization, increase options by finding and assessing potential partners, and represent the business owners’ goals. So as business owners review their exit options, selling a portion of the ownership via a recapitalization is worth considering. It can help business owners diversify their assets and put in play a longer term plan for another payday down the road.