Recapitalizations: Liquidity Without a Company Sale

For many business owners, their business is one of the highest dollar assets they know, and yet the full value is illiquid and unable to be accessed. You can pay yourself a salary and/or annual distributions, but might still feel bootstrapped, reliant on personally guaranteed debt, or unclear about how best to monetize the value in the most effective (i.e. least costly or disruptive) way.   

The most common path is for the business owner to sell his/her company at the right time. However, there are many implications for choosing this route. A sale process can be long and arduous, and it's uncertain what degree of change will occur for the partner after the transaction. There are questions about timing, what is acceptable valuation, which investment bank to hire, which buyers to approach, confidentiality, what will my employees think, tax issues, etc. For many business owners, this is a highly emotional decision, their company is intertwined with their identity, supports their lifestyle, and the decision to exit takes many years until a person is either ready or feels they have no other choice. For others, for many this is a once in a lifetime transaction, and there is fear of getting the timing wrong and leaving money on the table.     

What is lesser known to business owners who haven't spent their careers in private equity, is that there are alternative transactions to partner with capital providers to achieve in partial liquidity without the pitfalls of an outright sale. One of these strategies is known as a recapitalization (known as "recap", for short).

A recapitalization involves taking on an institutional investor partner (such as a private equity, SBIC fund or mezzanine debt firm) who provides a combination of subordinated debt or equity, but often times just a minority equity partner. The proceeds from a recapitalization can be used to pay off personally guaranteed bank debt, buyout a business partner, estate planning purposes, fund an acquisition, for equipment or working capital, or take a dividend, among other reasons. A recap partner can write the check you desire, plus leverage their experience and network built from expertise in dozens (or more) of other small businesses, all while the business owner is still in control of the company. In other words, business as usual, but with a well-heeled, experienced partner. 

The capital providers will want option on liquidity down the road, to be sure, so anticipate that in 5-7 years you might need go through another transaction to either replace them with another party, sell the company, or simply pay them out from free cash flow. An added benefit is that a minority investor from private equity can help you select the right sell-side advisor when you are finally ready to sell, and start tackling the company blemishes ahead of time so you can really maximize your ultimate liquidity down the road.   

There are hundreds of potential capital providers nationwide that would like to invest in this situation. However, the likelihood of finding the right party on your first 5-10 phone calls is very unlikely, since every firm has their own particular investment parameters, likes and dislikes, and will review literally 500+ deals per year to close five deals. Thus, you will want to work with an advisory firm like Orono Capital Partners (OCP) to create the investor list and reach out to the dozens (or more) of potentially interested parties that are a good fit for your situation (size, geography, industry) and help facilitate your transaction. Presentation materials and diligence might look similar to what is required for a sale process, but the process does not need to be as shrouded in secrecy if the outcome is the business owner still being in control post-closing. In fact, taking on an investment partner to "help fund future growth" (as your press release or social post might say) is major show of strength, and your employees, vendors, customers and competitors alike will take notice. 

Advisory firms like OCP can craft the story in the right way, run an efficient outreach process to suitable firms on a confidential basis, use competitive tension to negotiate the best terms, and help you achieve your objective. For OCP in particular, its managing partner has been both a business owner and capital provider, so can speak both languages. There will still be negotiation about your valuation and interest rate on the subordinated debt, among other terms, but an experienced advisor like OCP can help a business owner review his/her tradeoffs to achieve the optimal terms and best partner. Fees are generally only paid upon a successful transaction, other than a modest upfront retainer.  

There will still be negotiation about your valuation and interest rate on the subordinated debt, among other terms, but an experienced advisor like OCP can help a business owner review his/her tradeoffs to achieve the optimal terms and best partner. 

If you are interested in learning about whether a recapitalization transaction is right for you, send us a message here and let's hop on a call and discuss.