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Middle Market Companies Seeking Private Equity Group Investments

Mid-market companies often look to private equity groups for capital and business expertise that can take them to the next level.

But unlike the big deals flagged in the news media, these agreements routinely fly under the radar.  That’s because about 80 percent of mid-market companies are privately held and many of these deals fall under $20 million.

In fact, more than 25 percent of mid-market companies have private equity ownership, according to Private Equity International.

That’s no surprise considering that revenues of mid-market companies owned by private equity firms grew by roughly 9 percent in the past year, compared to 6.32 percent for companies without private equity investments, according to a recent article from the National Center for the Middle Market (NCMM).

Middle market companies appeal to private equity groups (PEG’s) because they tend to be conservative, pay down debt and hold onto cash to build new facilities or protect themselves during an economic downturn.  With a mean average of 31 years in business, mid-market companies are also more apt to be resilient and to provide quality customer service and niche products and services unavailable from large companies.

“That’s sort of an interesting sweet spot, ” said Annabelle Ju, who writes about institutional investors and fund management, in a recent article from the NCMM.  “It’s a nice target.”

Even with today’s mixed economic forecast, private equity firms contend that “capital is cheap, and some sellers are more anxious that they need to be, ” according to the recent Private Equity International article.

PEG’s seek acquisitions in market segments with growth potential and companies that are well positioned to grow within their sector.

They provide a source of investment with an expectation of return.  Most are looking for companies with $2 million to 45 million of EBITDA, a measurement of earnings before expenses, taxes, depreciation and amortization.

While fee structures and profits vary widely, PEG’s typically look for 10 percent net income.

In exchange, they not only provide capital, but management expertise, economies of scale, industry connections and other resources to increase the target company’s profitability, market share and market value.

Here are some other things companies should contemplate when considering private equity group investments:

  • PEG’s typically take a cursory look at hundreds of companies for every one they buy.
  • Most will expect the company’s existing president and management team to take an active role in the day-to-day operations.
  • By focusing on industries within their experience PEG’s can leverage their other companies and resources to quickly grow the new acquisition.  This allows them to pay a premium if there’s a strategic fit.
  • Return on investment is closely linked to entry price.  PEG’s will be willing to invest more if they know they face competition.
  • PEG’s tend to acquire companies in one of two ways: as a new platform business, separate from their existing investments, or as a strategic add-on in the same industry to grow their existing platforms.
  • Sellers must demonstrate the value of their business and its potential, including market trends, financial results and growth opportunities.
  • Target companies will need to have an ambitious business plan with evidence to backup sales predictions and profit growth.
  • Sellers should anticipate perceived risks and uncertainties to minimize valuation discounts and assist the PEG in its due diligence.
  • PEG’s often have the financial resources to pay cash at closing and close quickly.  They may want the owner to keep some skin in the game to assure a strong transition.
  • They may seek security by getting seats on the company’s board.  Negotiations should strive for a balanced agreement to protect both parties.

Middle market companies have a good track record with PEG investments because it usually leads to success.  If they’re in the right position, offer a good niche service or product and can make a strong case for growth potential, they’ll be poised for an appealing and mutually beneficial deal.