Excerpt
Table of Contents
Executive Summary
List of Figures
List of Abbreviations
1. Introduction
2. Company successions - background and theory
2.1 Defining company successions
2.2 Types of company successions
3. Private equity as an opportunity of financing
3.1 Defining private equity
3.2 Investment process of private equity firms
3.2.1 Planning phase
3.2.2 Due Diligence
3.2.3 Sales contract
3.3 Exit strategies
3.3.1 Trade sale
3.3.2 Secondary sale
3.3.3 Buy back
3.3.4 Initial Public Offering
4. Opportunities & Threats of private equity firms investing in SMEs
5. Conclusion
References
ITM Checklist
Executive Summary
Company successions are an important theme for the economy. The amount of enterprises, which search for a successor, increased in the last years. Especially small and medium-sized enterprises are affected by this issue. In this case the is- sue arises, that no internal successor is available. That’s why external opportunities have to be considered. Among options like foundations or management buy-outs, private equity investors are one possibility of a successor. These investors bring new equity and know how into the enterprise. On the other side, private equity firms often invest only for a defined period and focus on the return on investments. That’s why private equity firms mention in the sales contract specific rights and agree- ments. These rights include e.g., that other shareholder have to sell their shares, if the private equity firm wants to sell its shares. Furthermore, if the private equity firm wants to go public, the other shareholders must agree. If these rights are reflected in the sales contract, the private equity firm has the total power over the enterprise. That’s why especially in the contract phase the current entrepreneur should be alerted, what agreements are reflected in the contract. Otherwise the PE firm holds sway over the whole company. After the defined time horizon, the private equity firm leaves the enterprise. For this different exit strategies exist: An Initial public offering, a trade sale, a secondary sale or a buy back. The most interesting one for the investor is to go public, followed by a trade sale. Going public means a high return on investments for the investor.
All in all, the entrepreneur holds the strings: He can influence the future of the company, because he chooses the successor for the enterprise. If he reflects, what the enterprise needs and gets the motivation of the investor, why he wants to buy the enterprise, he can choose the right successor for his company.
List of Figures
Figure 1: Reasons for company successions
Figure 2: Options for company successions
Figure 3: Investment process
Figure 4: Phases of the transaction process
Figure 5: Methods of corporate valuation
Figure 6: Content of Memorandum of Understanding
Figure 7: Most common exit strategies
Figure 8: Phases of an IPO
List of Abbreviations
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1. Introduction
Company successions increases in the last years. Until 2018 there are 135.000 small and medium-sized enterprises (SME), which search for a successor. A com- pany succession is a huge challenge for entrepreneurs, the problem is clear: They want the best for their company, the development of the enterprise to the current state was in most cases the life’s work of the entrepreneur. At the same time, a company succession contains challenges, which the seller has to deal with. If he fails this challenge, this can lead to the liquidation of the enterprise[1].
Entrepreneurs of family companies have the wish, that the own family members continue the business. But in only 50% of the cases, this wish comes true. For the other cases other possibilities must be proofed for the further existence of the com- pany[2]. Another potential successor is a private equity (PE) investor. These inves- tors are more and more interested in SMEs in the last years. The success of the SMEs with their specific technology, qualified employees and international focus represents an attractive investment for PE firms. Additionally, the economy in Ger- many in general as a solid and biggest economy in the European Union attracts investors from all over the world[3]. The investment of a PE firm in a SME is the scope of the present assignment. For this, the following questions are discussed:
- What are company successions?
- What types of company successions are possible?
- How is private equity defined?
- How does an investment process of private equity firms going on?
- What possible exit strategies exist?
- What are opportunities and threats, if PE firms take part in the company?
To answer these questions, the basis of company successions is explained in chapter two. The third chapter deals with the term private equity. PE is defined and the investment process is described. Also, possible exit strategies are explained with the advantages and disadvantages. In chapter four the opportunities and threats are discussed critically, before the main findings of the present assignment will be summarized in the conclusion.
2. Company successions - background and theory
In the following chapter the background to company successions will be explained.
2.1 Defining company successions
The IfM Bonn defines company successions as the moment, when a business owner handed the management over[4]. Company successions always relates to the top management of an enterprise[5]. Felden et al. differentiate company successions between person related changes from one to another person, and other successions. Person related successors can be an employee from the company itself or a family member of the entrepeneur. The other option of company successions can be e.g. a takeover by another company by selling or leasing the company. The establishment of a foundation is another option.[6]
Reasons for company successions are different. The most common reasons, why top manager leave the enterprise, are the age, illnesses, accidents or death[7]. Schmeisser et al. enumerates the age as top reason for company successions, following by unexpected reasons, what often results in problems as there is no time to plan the succession. Additionally, another reason for company successions are, that the entrepreneur takes another field of activity.[8] The reasons are shown in Fig- ure 1.
Figure 1: Reasons for company successions
illustration not visible in this excerpt
Source: Own illustration based on Schmeisser, W.; Lesener, L.; Tscharntke, C., Unter- nehmensnachfolge, 2007, p. 14
Littkemann et al. add as top reason, why entrepreneurs deal with this theme, that they want to be sure, that the enterprise exists and grows in the future. Also, the independence of the enterprise in future is important for them and furthermore, that the workplaces are secured[9].
2.2 Types of company successions
Company successions can be differentiated between internal and external succes- sions. Internal successions mean, that a family member of the entrepreneur takes over the business. For this the family member needs the requested skills. Also, the member must be willing to take over the business[10]. The disadvantage by an inter- nal succession is, that the company gets no further liquidity, while an external suc- cession brings new funds into the company because of the purchasing price[11]. If an internal successor isn’t available, there are different solutions possible to secure the future of the company[12]. This happens with the help of external succession so- lutions. One solution is the sale of the company to a strategic partner. In this case, the company becomes part of a group. At the same time the company often keeps its legal status and its market appearance. This type of succession only happens, if the acquiring enterprise sees an advantage in the takeover, e.g. important custom- er relations, special technologies, important brands, licenses or patents. By selling the company to a strategic partner, the risk arises, that the new owner only buys the company because of these specific aspects, and run down the company. Moreover, the company can become part of a group and loses its independency. On the other hand, a strategic partner often pays a higher price for the company because of the advantage he has[13].
Another option to sale the company is the sale to one or a few persons. Felden et al. differentiate between a management buy-out, a management buy-in and a man- agement buy-in buy-out. A management buy-out happens, if an employee of the company is willing to take over the company. A management buy-out is an im- portant option to find a successor[14]. Advantages of a buy-out are, that the philoso- phy of the enterprise doesn’t change, also customers and banks aren’t confused. Moreover, a due diligence verification isn’t needed[15]. But the biggest issue of a Management buy-out is, that the employee must finance the purchase price. This also applies to a management buy-in[16]. A management buy-in is, if the further top manager comes from external. Management buy-in buy-out is a combination of these two methods[17].
Establishing a foundation is another option of a company succession. A foundation is a legal person that pursues the intention of the founder. The foundation includes the total assets of the founder[18]. The foundation is a possibility for companies, in which disputes in the family regarding successions arise or if there is no successor available. In reality the amount of corporate foundations is very low. Nevertheless, foundations exist behind famous and successful enterprises like Bertelsmann Corp. or Thyssen-Krupp Corp.[19].The disadvantage of foundations is the inflexibility in making changes regarding statute and purpose of the foundation. After the first registration of the purpose and the statute, changes are nearly impossible[20]. The advantage of a foundation is, that the continued existence of the company is separated from personal interests regarding their heirs[21].
Another option of a company succession is the sale to a financial investor. Finan- cial investors acquire an enterprise for a defined period with the objective to in- crease the corporate value in this period. After the period ends, the enterprise is sold again[22]. Two acquisition options are possible: A share-deal or an asset-deal[23]. Within the share-deal the buyer becomes shareholder by buying the shares; he buys the total enterprise. A share-deal is simple and takes place in a fast way. The disadvantage of a share-deal is for the buyer, that all past liabilities get over to him, even the unknown. Furthermore, he hasn’t any possibilities to write down the pur- chase price. A share-deal is preferred by the seller. With the enterprise, he sells the risks regarding the business. Additionally, he has a high amount of tax benefits[24]. In contrast to this, the buyer prefers an asset-deal. An asset-deal is, if the buyer only buys the assets of a company. Assets could be e.g. costumer-, rent- and loan agreements. Therefore, the agreement of each business partner is needed. The advantage for the buyer is, that he knows, what he buys and has influence on, what he doesn’t want to buy. Moreover, he has the possibility to amortize the price for the enterprise[25]. On the other hand, asset-deals need more time than share-deals, because every asset must be named and needs the consent of the partner[26]. For sellers, the asset-deal isn’t as attractive as a share-deal. The earnings from the deal are considered with the personal tax rate of the seller as a natural person[27]. In most cases, financial investors are private equity firms, described in detail in chap- ter 3. The possible options of company successions are summarized in Figure 2.
Figure 2: Options for company successions
illustration not visible in this excerpt
Source: Own illustration based on Welge, K. M.; Eulerich, M., Corporate Governance, 2014, p. 200
3. Private equity as an opportunity of financing
Finding a successor for a company is more and more an issue for entrepreneurs. If no family member or internal manager is willing to lead the enterprise, another op- tion must be found, which secures the continued existence of the enterprise. One option is a PE company. On the other hand, these PE companies have discovered the advantages of SMEs in the last year. The success of the SMEs with the devel- oped technology, qualified employees and international focus represents an attrac- tive investment. That’s why the market transfers to a seller’s market in the last years[28]. As private equity investors are one important opportunity to find a succes- sion solution for a company[29], this opportunity is described in detail in the following.
3.1 Defining private equity
Private equity in general is the private investment of companies in unlisted compa- nies. The equity is increased by an enterprise on private level and isn’t provided by e.g. public market. The PE firms themselves get the funds from investors to invest
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[1] See Littkemann, J.; Reinbacher, P.; Derfuß, K.; Unternehmensnachfolge, 2016, p. 404.
[2] See Wegmann, J., Unternehmensnachfolge, 2015, p. V.
[3] See Böhm, O., Unternehmensnachfolge, 2015, p. 191f.
[4] See IFM, Unternehmensnachfolgen, 2013, p. 3.
[5] See Felden,B.; Pfannenschwarz, A., Unternehmensnachfolge, 2008, p. 26.
[6] See Felden,B.; Pfannenschwarz, A., Unternehmensnachfolge, 2013, p. 25.
[7] See Kay, R.; Welter, F., Unternehmensnachfolge, 2015, p. 4.
[8] See Schmeisser, W.; Lesener, L.; Tscharntke, C., Unternehmensnachfolge, 2007, p. 14.
[9] See Littkemann, J.; Reinbacher, P.; Derfuß, K.; Unternehmensnachfolge, 2016, p. 406.
[10] See Schmeisser, W.; Lesener, L.; Tscharntke, C., Unternehmensnachfolge, 2007, p. 27.
[11] See Schmeisser, W.; Lesener, L.; Tscharntke, C., Unternehmensnachfolge, p. 22.
[12] See Lust, Unternehmensnachfolge, 2015, p. 67.
[13] See Felden, B.; Pfannenschwarz, A., Unternehmensnachfolge, 2008, p. 30f.
[14] See Scholes, L., Family-Firm Buyouts, 2009, p. 7.
[15] See Habig, H.; Berninghaus, J., Unternehmensnachfolge, 1998, p. 98.
[16] See Wegmann, J., Unternehmensverkauf, 2013, p. 18.
[17] See Felden, B.; Pfannenschwarz, A., Unternehmensnachfolge, 2008, p. 30.
[18] See Meyer, U.; Gemmer, J.; Siebert, H., Stiftungen, 2009, p. 132.
[19] See Meyer, U.; Gemmer, J.; Siebert, H., Stiftungen, 2009, p. 132f.
[20] See Herrmann, R., Unternehmensnachfolge, 2007, p. 87.
[21] See Schiffer, K. J., Stiftungen, 2015, p. 142.
[22] See Lucks, K.; Meckl, R., Mergers & Acquisitions, 2015, p. 38.
[23] See Draxler, J., Private Equity, 2010, p. 119.
[24] See Wegmann, J., Unternehmensverkauf, 2013, p. 30f.
[25] See Wegmann, J., Unternehmensverkauf, 2013, p. 32f.
[26] See Draxler, J., Private Equity, 2010, p. 119.
[27] See Wegmann, J., Unternehmensverkauf, 2013, p. 32f.
[28] See Böhm, O., Unternehmensnachfolge, 2015, p. 191f.
[29] See Kreer, F. et al., Family firms, 2015, p. 459.