When developing an exit strategy for your company, we will consider whether Private Equity Groups (PEG’s) would want to acquire it as either a new platform company or as an add-on (also “bolt-on”) to one of their existing portfolio companies. Most small companies are too small or don’t have strong enough management teams to be attractive platform opportunities, however many are strong add-on candidates. According to PitchBook, which tracks the PEG M&A activity in the middle market, the number of add-ons as a percentage of all acquisitions grew from 43% in 2006 to over 60% in 2015 — and Q1 data showed a continuing increase to 68%.
What has caused this trend? A number of reasons are generally cited, including:
- Larger companies typically trade at higher valuation multiples, and this gap has risen in recent years
- It has become increasingly harder to find good platform companies making add-ons more appealing
- Add-ons are easier to assimilate because the PEG already knows and understands the industry
- The increasingly shorter holding periods for platform companies makes a buy and build with add-ons a favored strategy
- An add-on can increase a platform company’s competitive position in its industry by providing synergies or access to a new niche market
- PEG’s can often use more debt to buy an add-on and invest less equity
As a potential seller of an add-on company, you might consider these questions, among others:
- How does your company align with and how could it be integrated into a platform company?
- In addition to a good strategic fit, PEG’s look for strong profit margins, a defensible market niche and revenue “stickiness”. Does your business have these qualities?
- Business continuity will be important to the buyer. Will you consider providing ongoing leadership and retaining some equity for a future sale at a potentially higher price per share?
- PEG due diligence can be exhaustive, as they are experienced and disciplined investors and typically require multiple approvals from lenders and investors. How will your company fare in such a deal environment?
If you are interested in understanding PEG investing activity in your industry and whether your company is a strong add-on or platform acquisition candidate, contact Jim Leonhard, CVA MBA at 916-800-2716 or email@example.com.