Managing Director
Configure Partners
When choosing to exit through a sale or refinance a business, lender-owners must consider a number of variables throughout the process. Jay Jacquin reminds lenders that these processes are intrinsically different from non-lender-owned transactions.
Private credit lenders with an expansive portfolio are likely to encounter businesses that experience financial difficulties, some of which will unfortunately cause them to suddenly assume ownership of a borrower. Lenders, as unnatural long-term owners, will eventually exit through a sale. However, prior to that point, a refinancing during the lender’s ownership may also make sense.
When considering either of these transactions, lenders must remember that each process is intrinsically different than non-lender-owned transactions and must be marketed differently.
Financing the Lender-Owned Company
Similar to a private equity-owned business, the first consideration of a refinancing is the use of proceeds. Whether to achieve liquidity, return capital to lender-owners or prepare for strategic expansion, the three scenarios stand out from the crowd as the most common rationales for refinancing lender-owned businesses.
Liquidity: The first is an asset-based loan (ABL), which involves loaning money using the borrower’s assets as collateral. Liquid collateral is preferred over illiquid or physical assets. These liquidity lines come from traditional banks or non-banks that often compete in this area and frequently are the lender-owned company’s first return to the debt markets following lenders taking ownership.
Return of Capital: Leveraging the business to return capital to lender-owners is another option, and akin to a dividend deal in private equity. Lender-owners favor this option as it reduces their overall exposure. However, they now must be comfortable enough with the business’ performance that they are willing to truly act as equity and sit contractually behind a new lender in the capital stack. Just like a PE dividend deal, the proceeds of the new loan are promptly leaving the company. This use of proceeds is less attractive from the perspective of a new lender and will likely result in a more conservative leverage profile.
War Chest: A third common option is taking leverage to provide acquisition firepower for a lender-owned company. This choice is often fitting for a company trying to expand, acquire competitors and build scale. Again, this choice is comparable to the private equity world, where a sponsor would seek additional capital to grow a portfolio company while also recognizing that any sizable acquisition will typically require added capital from ownership to facilitate.
Selling the Lender-Owned Company
Should the lender choose to sell the business rather than seek financing, they must evaluate three primary factors.
- Selecting the Right Banker
Many traditional bankers approach selling lender-owned companies the same way they would a typical PE-backed company — this is a mistake. Optimizing the execution of a transaction for a lender-owned company requires extra elbow grease that, frequently, bankers are not willing to invest for various reasons. This can result in the sale process languishing and not generating the desired interest or result.
Lender-owners would be wise to pick a banker with a demonstrated history of telling the company’s journey, crafting a tale of redemption that is provable with data and providing materials that enable a new buyer to deeply underwrite operational improvement and prospects for future growth.
Additionally, many M&A bankers are aligned around a certain sector — they live and breathe their sector and are relative experts in that field. They typically get their next assignment from the players in that industry (i.e., the buyers of the lender-owned company). However, lender-owners sit outside the industry banker’s usual sphere of influence; lender-owners are unlikely to be repeat future clients of an industry banker. This inherent conflict should be a red flag for lender-owners; avoid the industry banker that is beholden to the buyers of the company for their next engagement. Otherwise, there is material risk that the industry banker’s process will generate fewer offers, lower valuation and less-than-optimal execution.
- When to Make a Move
Industries go through ups and downs regarding their attractiveness in the capital markets. Often, when a lender takes ownership of a business, other companies residing in the sector are struggling simultaneously. Selling into such an environment can mean the most logical purchasers may have less appetite to acquire and less available capital to pay for the business.
In addition to the conflict addressed above, an industry banker may be likely to tell the lender-owner to sell now or less likely to put in the effort needed to tell the story — which can increase the odds for either a disappointing valuation outcome or a failed sale process.
A trustworthy banker deeply entrenched in the market and focused on the lender-owner’s ultimate outcome can inform the lender(s) on current valuation trends in the industry and plot valuation multiples in the public markets and in M&A, giving the lender-owner a candid view on how well or poorly the business is likely to be received by the market.
- Exit Value Expectations
Additionally, lender-owners should consider their desired exit level before engaging with a banker. Internal analysis mixed with a dose of self-honesty about what the company can and should sell for is always a wise temperature check before moving forward. Of course, one should always hope for better, but establishing a price that is “good enough” will allow the lender-owner to remain focused and unemotional as the sale process unfolds.
With a “good enough” benchmark, the lender-owner can ensure the banker stays engaged with as many possible buyers at or above the desired exit value as possible. It would also be wise to build in contingency value leakage due to the potential for diligence issues to emerge or a possible re-trade on value during the exclusivity period. Lastly, the lender-owner must remain fastidious and not greedy, lest the process fail and create a taint on the asset in the market for 12-24 months.
Consider All Angles
Whether choosing to finance or sell, lender-owners placed in a leadership position of a business must assess several items before and during the transaction process. While there are multiple options to finance the company and numerous bankers that can be chosen to lead a sale process, the factors contained here should frame timing and banker selection criteria.
Should this article have sparked any questions about the initial first steps for a lender when tossed the keys to a business, visit: https://www.abfjournal.com/articles/offense-or-defense-a-playbook-for-lender-owned-businesses/.
Jay Jacquin brings more than 25 years of investment banking and advisory experience at market-leading firms. Prior to joining Configure Partners, he established the middle market special situations practice at Guggenheim Securities. Jacquin holds a bachelor’s degree in commerce, with concentrations in finance and marketing, from the McIntire School of Commerce at the University of Virginia. He is a FINRA General Securities Registered Representative (Series 24, 7, 79, 63) and a Certified Insolvency and Restructuring Advisor.
