FINANCING OPTIONS FOR MANAGEMENT, FAMILY, EMPLOYEE OR THIRD PARTY BUYOUTS. Chuck Owston, CEPA, CM&AA

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1 FINANCING OPTIONS FOR MANAGEMENT, FAMILY, EMPLOYEE OR THIRD PARTY BUYOUTS Chuck Owston, CEPA, CM&AA

2 The Presenter Chuck Owston 37 years commercial banking and corporate finance experience Raised capital and developed markets for Florida Capital Bank President of Florida Capital Bank, Formed Florida Capital Advisors

3 Florida Capital Bank Founded in 2004 $370 million in assets at June 30, 2018 Based in Jacksonville, Florida (offices in Orlando, Tampa, and Gainesville) Small Business Administration lender with Preferred Lender(PLP) status for SBA 7a loans Real estate lender within the state of Florida 3

4 Florida Capital Advisors Formed in 2015 as a division of Florida Capital Bank, N. A. 2 Certified Exit Planning Advisors and 1 Certified Merger & Acquisition Advisor Advises on, and funds, change of control and minority shareholder buyouts, business acquisitions and real estate transactions 4

5 Targeted Transactions Management, family or employee buyouts Enterprise value- $1 million and $10 million Adjusted EBITDA of $500,000 - $2 million (below private equity threshold) Business acquisitions by corporate or individual buyers Real estate purchases or recapitalizations $750,000 - $5 million loan size 5

6 Demographics Since 2011: 10,000 Baby Boomers turn 65 every day Boomers own > 50% of the private businesses in the U.S. 50+% would like to transition over the next 5 years 75+% in the next 10 years Younger business owners are becoming serial entrepreneurs 6

7 Triggering Events Voluntary- (1-5 year planning horizon) Diversify net worth Family or management seeking ownership Received an unsolicited offer Estate and legacy planning Want to be less active in daily operations Involuntary- (less than 1 year planning horizon) Disability / Health Divorce Disputes with Partner(s) Death Distress - Financial

8 Majority Shareholder Buyout Challenges Lack of financial strength (personal assets/liquidity) of minority shareholders, management or family to buyout majority shareholder No clear internal leader or successor Risk points of the business that impact value also impact financing of business sale Business may not be transferable- owner relevance coupled with other risk points Difficult for an owner to replicate earnings and other benefits 8

9 Risk Assessment Internal Factors Strategic Planning Senior Management Team Sales/Marketing Team Human Resources Operations Finance Legal External Factors Market Factors Industry Factors 9

10 Focusing on Value Drivers Lowers Risk Value Drivers Positive revenue and EBITDA trends Good quality financial statements Owner relevance to the business Operating systems and processes Strong management and sales team Barriers to entry Customer diversification Company culture Recurring revenue Intellectual property and patents Margins relative to industry comps Competitive landscape 10

11 Transaction Financing Readiness Reduce company specific risk Lower risk increases value and the probability of financing a transaction on attractive terms Increase the probability of: seller financing being repaid sustained cash flows before and after a transaction 11

12 Financing an Internal Buyout Conventional Loan Maximum repayment term is usually 5-7 years Can finance a partial ownership transfer or 100% change of control Distribution policy needs to be implemented to provide sufficient distributions net of taxes Collateral coverage of the loan is important in addition to cash flow Personal assets of purchasing shareholder will also likely collateralize the loan Selling shareholder and business may be required to guarantee the loan 12

13 Financing an Internal Buyout SBA 7a Financing Up to a $5 million loan available to finance business acquisitions and shareholder buyouts Maximum ten year term, longer term possible if real estate is part of the transaction Able to finance the intangible component of business value Cash flow is a key underwriting metric versus collateral Personal assets of the buyer may need to be pledged Selling shareholder not required to guarantee but will be in a subordinated position on any seller note 13

14 SBA Requirements Business Acquisition or Shareholder Buy Out Transactions 100% change of control Purchase price supported by a business valuation 10% equity contribution from the buyer Seller financing is subordinated to bank loan Seller not active in the business after 1 year Personal guarantees by 20% or more owners Buyer must have industry or complementary experience The business must have positive financial performance Must be a U.S. citizen or permanent resident A 5-year non-compete agreement is usually required 14

15 SBA Requirements-Buyer Equity The seller cannot gift the equity injection to the buyer, SBA would expect that the purchase price be reduced Of the minimum 10% equity requirement, 5% can come from buyer, and 5% from seller (in the form of a seller note on full standby for the life of the loan) Seller can bonus an employee over a period of time who they believe to be a good purchaser of the business Key managers may use accrued bonuses for equity 15

16 SBA Requirements - Business Acquisition At a minimum, SBA requires an equity injection of at least 10% of the total project costs Equity can come from buyer 5% and seller 5% in the form of a seller note on full standby for the life of the loan Total project costs are defined as all costs required to complete the change of ownership Example: Enterprise Value $3,000,000 Attorney Fees $25,000 Quality of Earnings/Diligence $10,000 SBA Fees $62,000 Miscellaneous/appraisals $15,000 Total Project Costs: $3,112,000 10% Equity Requirement $311,200 16

17 SBA Requirements - Shareholder Buyout Remaining owner(s) must certify they have been actively participating in the business and held the same ownership for at least the past 24 months Increasing ownership interest for remaining owner(s) during the 24 month period would be allowed, but decreasing ownership interest would not be allowed Balance sheets for the most recent completed fiscal year and current quarter must reflect a debt-to-worth ratio of no greater than 9:1 prior to the change in ownership In the event above are not satisfied, the remaining owner(s) must contribute cash in the amount of at least 10% of the purchase price of the business The cash contribution cannot be 5% buyer and 5% seller note on full standby for the term of the loan as with a whole company transaction 17

18 Key Takeaways Start a planning process well in advance of a trigger event Understand the current value of the business Identify likely internal buyers and begin to distribute capital or execute a buy-in well in advance of a planned sale De-risking initiatives improve the probability of a successful transaction for either an internal buyout or financing a third party buyer Plan for contingencies 18

19 Questions Thank You! 19