Understanding Private Equity – The Pros and Cons of Private Equity

If you are looking for investors for your company, consider this New York Times article as a guide.  According to Jessica Bruder, you need to know what you want first.  Do you want control over the daily operations of your business?  Do you want to be involved in the business for the long haul?  Private equity may not be a fit for you.  Private equity investors want to control the company they invest in.  They buy into a company and after 3 to 5 years, they sell it at profit.  Bruder also advises that you investigate the private equity firm you approach.  Troy Templeton, managing partner at Trivest, says you should ask the following questions:  “Do the investors add value? Can they do things I could not do — introduce me to new markets, help me source products from different areas, help me with online lead generation, bring me into the digital age?”

Especially since Mitt Romney’s résumé became presidential campaign fodder, there has been much debate about the merits of private equity, which is known for its focus on short-term gains. Private equity investors typically use a mix of debt and equity to buy a large stake in underperforming companies, then re-engineer their financial, managerial and operational structures, with the goal of selling them at a profit within five years.

But private equity remains a tempting option for some small-business owners. After all, bank credit has been hard to come by and other financing options can be extremely expensive. And with capital gains taxes expected to rise next year, some owners may be motivated to sell sooner rather than later.

Private equity firms in what is known as the lower-middle market typically seek out undervalued but scalable enterprises with more than $10 million in annual revenue and $3 million in Ebitda, or earnings before interest, taxes, depreciation and amortization.

KNOW YOUR INVESTORS They have an ironclad imperative: buy low, sell high. They usually purchase a controlling share in a company, bring in a combination of debt and equity, and manage the company in a way meant to increase its worth. Ideally, everyone profits when the company is sold, including the former owner, who gets a slice that is worth more than the original pie.

KNOW WHAT YOU WANT “Starting with the end in mind is key,” said Justin Redfearn McLain, managing member of Duart Mull, the investment management arm of a family trust in Atlanta. “What do you want? Are you trying to get capital for growth or for yourself but continue in the day-to-day operations? Or do you just want out entirely?”

Owners who hope to stay involved should remember that most private equity firms want a controlling stake.

John Warrillow, a serial entrepreneur and the author of “Built to Sell,” put it in blunter terms. “Provided your goals are aligned with theirs and you go into it with your eyes wide open, that is fine,” he said, “but they are not going to care about the soul of your company.” …

Photo by dritys

Leave a Reply