What is a Management Buyout (MBO)?
A management buyout (MBO) is a financial transaction where a member of a company’s management team purchases the business from its current owner(s). In this scenario, management acquires the entire business, including its assets and operations. MBOs are attractive to managers because ownership offers greater control and potential rewards compared to being an employee. Often, MBOs are a type of leveraged buyout (LBO), meaning they are funded primarily through borrowed capital.
Key points:
- In an MBO, the management team acquires the business they oversee.
- MBOs are often pursued to take a company private, streamline operations, and enhance profitability.
- The management team typically uses a combination of personal resources, private equity, and seller financing to complete the buyout.
- MBOs contrast with management buy-ins, where external managers purchase and replace the existing management of a company.
How Management Buyouts (MBOs) Work
An MBO involves buying the business from private owners and potentially shareholders within the company, encompassing all elements affiliated with the business, including assets and obligations. MBOs frequently transpire because the management team believes they possess the capabilities to enhance the company’s financial growth and success.
These transactions serve as crucial exit strategies for various scenarios:
- Large corporations divesting unprofitable assets
- Owners of private businesses seeking retirement
The financing essential for an MBO typically involves a substantial sum, often a blend of debt and equity sourced from the buyers, financiers, and occasionally the seller. Given its reliance on borrowed capital, it falls under the classification of an LBO, often referred to as a leveraged management buyout.
While reaping the benefits of ownership post-MBO, the management assumes a transition from employees to owners, bearing heightened responsibilities and an increased potential for financial losses.
Reason for an MBO
Management buyouts inherently carry risks with debatable guarantee of success, but why would a company’s management pull that trigger? The following cover some primary reasons corporate management might consider undertaking an MBO.
Asserting Control
Management members might harbour disagreements regarding the company’s direction. Executing an MBO could afford them a heightened sense of control over the business, its trajectory, and prospects for success.
Financial Advantages
The management team might perceive that merely overseeing the company doesn’t fully maximise their financial benefits. By acquiring the company, they anticipate greater rewards.
Expertise and Leadership
There might exist a perception within management that the current owner(s) lack the requisite knowledge/capabilities to lead the company effectively, or may have perceptions that a founder has veered the business off the direction it was built on.
Corporate management, equipped with educational backgrounds or extensive work experience, might believe they possess the expertise needed to steer the company to new heights, seeing an MBO as the avenue to achieve this.
Approaching a Management Buyout
A general assessment of the business climate is needed to make the MBO a successful move for both parties. Here are some of those conditions:
Pre-Offer Considerations
Thorough research must precede any financial transaction. Consequently, management must develop a meticulously conceived and comprehensive plan or proposal. Key elements to address encompass:
- Identification of the management team participants in the MBO
- Explanation of the motives driving the buyout
- Articulating intentions and post-completion objectives
- Specified deal terms, notably the purchase price
- Detailing the financing strategy for the buyout
It’s advisable for management to demonstrate to the company’s owner or owners that they have extensively prepared for the undertaking. This entails incorporating detailed spreadsheets and conducting a comprehensive analysis.
Regulatory issues also need to be reconciled. In Australia, takeover moves like MBOs require notification with and formal clearance from ASIC, and the ACCC might even require directors considering an MBO to sell off their own assets. The ASX will also be notified if the company undergoing an MBO is also on the bourse.
Financing
The company team aiming for an MBO will need ample funds to make the move possible. Here are some options:
- Debt: Traditional lending from financial institutions provides a common avenue for funding an MBO. Managers secure loans against the company’s assets or future cash flows to facilitate the acquisition, particularly if they want to buy the founder/CEO’s controlling stock. Using company assets as collateral for the MBO loan may offer an advantage as it does not necessitate the management team to pledge personal assets or collateral.
- Private Equity: External investors such as private equity firms or VCs inject capital in exchange for equity stakes, enabling the management team to acquire the company. Those investors may even require putting at least one person on the board after the MBO is closed. However, their involvement may require some careful diligence; writing for the AICD back in 2006, Charles Beelaerts said company directors are concerned that a private equity fund actually buys stock from some shareholders then pushes ahead with an unsolicited MBO.
- Other Options: Management explores various financing avenues, such as owner financing, directly funded by the seller and repaid over time, or mezzanine financing, a blend of debt and equity.
- Personal Financing: Managers may use their own funds, such as savings, to purchase the company. This approach is common when the management team is either personally wealthy or has access to significant capital resources.
Advantages and Disadvantages of an MBO
Advantages
The essence of an MBO lies in the alignment of interests between managers and owners. By assuming the role of owners, managers become stakeholders invested in the long-term success of the company. This shift in perspective often fosters a heightened sense of responsibility and commitment, driving managers to make decisions that prioritise sustained profitability and growth.
The continuity and retention of institutional knowledge stand as pivotal advantages of an MBO. With existing managers assuming ownership, the transition remains smooth, ensuring the preservation of relationships, operational processes, and crucial industry insights. This continuity aids in avoiding disruptions that might occur during external leadership changes, thereby safeguarding the company’s stability and performance.
The newfound autonomy and authority that accompany an MBO frequently catalyses innovative strategies. Empowered managers tend to exhibit greater agility in decision-making, enabling them to swiftly adapt to market changes, introduce novel approaches, and steer the company toward innovative solutions. This entrepreneurial spirit often invigourates the organisation, propelling it toward greater competitiveness and market relevance.
Disadvantages
MBO are not without some drawbacks.
One of the primary concerns lies in the financial implications of leveraging significant debt to fund the buyout. This high debt burden could strain the company’s financial health, impacting its ability to invest in growth initiatives, execute operational plans, or weather unforeseen economic downturns.
The process of orchestrating an MBO demands extensive time and resources from the management team. This pursuit might inadvertently divert managerial focus from day-to-day operations, potentially affecting the company’s short-term performance. The intricacies involved in negotiating the buyout terms, structuring the deal, and ensuring a seamless transition could consume valuable attention that might otherwise be directed toward the company’s immediate challenges and opportunities.
Furthermore, the dual roles assumed by managers-turned-owners in an MBO scenario can sometimes breed conflicts of interest. Balancing the responsibilities of ownership and management might lead to decision-making dilemmas, where choices made in the best interest of the company could conflict with personal or ownership-related considerations. This complexity could potentially impede the efficiency and effectiveness of decision-making processes within the organisation.
What is Management Buy-In (MBI)?
Although this article is about management buyouts, some may ask what about a management buy-in?
A management buy-in (MBI) has an external manager or management team buy a majority ownership interest in another company, subsequently supplanting its current management team. Such an action commonly takes place when a company is perceived as undervalued, inadequately managed, or needs a change in leadership due to succession planning.
MBO vs. MBI
While an MBO entails the internal management of a company purchasing its operations, an MBI occurs when an external management team acquires a company, effectively supplanting the existing management team. MBIs typically involve companies led by ineffective management or undervalued entities.
Compared to an MBI, an MBO holds the advantage of incumbent managers acquiring the business, possessing a deeper understanding of its workings without a learning curve associated with a new managerial team (whether or not it has members familiar with that company, such as former employees). MBOs are orchestrated by management teams aspiring to directly generate financial rewards from the company’s future growth, beyond what they might attain solely as employees.
Examples of MBO
An MBO, if properly negotiated and financed, can be a springboard for a business’ better opportunities. Let’s look at some Australian companies that may have done it right.
Autonomous Energy
In August 2021, rooftop solar power vendor Autonomous Energy (AE) closed an MBO with the Forum Group of Companies after weeks of administration. AE’s management team joined forces with Trafalgar Group owner John Rakic to strike a deal. At the time, Forum Group owner Bill Papas had a major financial crisis affecting the conglomerate, with AE and the Group’s 23 other firms put on liquidation. The Australian arm of Spanish energy company Iberdrola later acquired AE and rebranded it as Iberdrola Australia Smart Energy Solutions.
OnDeck Australia
In December 2021, online small business lender OnDeck Australia underwent an MBO which saw it formally spun off as a company from American parent firm Enova International. CEO Cameron Poolman, CFO Jerry Yohananov, and COO Charlene Batson worked together to increase Australian stock in the company from 22 percent to 80 percent, with Enova still having the remainder of the shares. The three executives hold 58 per cent of the company.
77 Productions
In February 2024, Melbourne media company 77 Productions underwent an MBO with Ant Darvill and Gina Hanrahan as the new owners. 77 Productions was originally part of the Smith Brothers Media agency, where Darvill was the GM and Hanrahan was the head of production. They decided to buy 77 Productions in an asset sale, which also included a subsidiary called Audio Place. Darvil and Hanrahan saw the MBO as a way to expand the company’s service offerings.
MYOB
An exemplary case of a successful Aussie MBO/MBI unfolded with the acquisition of online business management firm MYOB by private equity firm KKR and Co’s Australian arm in late 2018. KKR, which had a 19.9 per cent stake in the company, offered to buy all shares it did not own at $3.40 a share, for $1.9 billion overall. MYOB shareholders approved the sale in May 2019. This strategic move empowered the company to pursue innovative strategies, strengthen its market position, and drive growth initiatives.
Perpetual Ltd
In May 2024, Australian fund management group Perpetual Ltd announced a $2.175-billion cash deal with KKR and Co. The deal allowed KKR to acquire Perpetual’s corporate trust and wealth management businesses, plus the company’s name and branding, and group CEO Rob Adams retires as well.
Perpetual Asset Management is still under shareholder ownership, debt-free, with $227 billion in assets, but it will be rebranded. Before KKR came along, Perpetual had declined two buyout offers over the years – a $1.7-billion joint offer from Barings Private Equity fund and Regal Partners Ltd, and $3.5 billion from Washington H Soul Pattinson & Co.
Conclusion
Mergers and acquisitions play a key role in the corporate world, with takeovers, vertical mergers, and management buyouts (MBOs) being common. In an MBO, corporate management offers to buy part or all of the business they manage, aiming to take it private for continued growth. Though often seen in large corporations, MBOs are also common in small businesses, typically when ownership transfers from one generation to the next.
DISCLAIMER: This article is for informational purposes only and does not replace official business finance advice. AVANTE PARTNERS has no relationships with any company mentioned.
