Acquisition Advisors | Leveraged Recapitalization: Cash Out Without Selling Out
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23 Apr Leveraged Recapitalization: Cash Out Without Selling Out

Need to buy out a shareholder but don’t want to put up your own money? Need to take some chips off the table but don’t want to sell out? Reduce your risk and gain some experienced, well-capitalized and well-connected partners? Consider leveraged recapitalization.

Typically, a leverage recapitalization involves:

  • sale of equity
  • borrowing or refinancing of debt

The equity purchase/sale can be for either a minority or control position. The seller can be any shareholder or group of shareholders selling all or just a portion of their holdings.

The term “recapitalization” comes from “capitalization,” which refers to how the company is capitalized (the “capital structure”). At issue here is simply how the assets (the left side of the balance sheet) are funded (the right side of the balance sheet).

Two main categories of capital are debt and equity. Quasi-debt and quasi-equity forms of capital also exist, such as preferred stock and mezzanine debt. Preferred stock typically has a claim on assets and/or earnings of the business that is senior to holders of common stock but subordinate to holders of debt. Holders of preferred stock or equity may also have a right to regular dividends, and the terms often allow common shareholders to pay off or buy out preferred debt holders at any time, with company funds.

“Mezz” is a form of debt capital subordinate to the senior debt holder’s claim on the assets and earnings of the business but senior to common and preferred stockholders. For this reason, mezz debt (also referred to as junior debt) is typically priced much higher than preferred debt but offers a lower overall return than is received by holders of common equity.

Sometimes, a business will grow to have considerable value. Owners, who often have most of their wealth tied up in the business, want to diversify. But they don’t want to sell. They want to continue to own and manage the company. So what are the options?

First, they could leverage the business with senior debt and, potentially, mezzanine debt. This would allow the owner(s) to take cash out of the business (subject to restrictions that may be required by the debt providers) tax-free. But there will certainly be limits on how much debt can be borrowed. The owner may take more “chips” off the table if he or she is willing to sell some of his or her equity.

Equity providers are often referred to as “sponsors.” Sponsors typically bring the debt and mezz capital providers. Sponsors are known for wanting to invest in companies that have in excess of $1 million in annual EBIT and proven management willing to remain. Private-equity groups can also bring a considerable amount of experience and contacts. Their aim and expertise is finding businesses and business managers, investing in them and making a lot of money. It almost always involves helping you grow your business rapidly and eventually selling the equity (with our without your equity portion) for big dollars.

Does it sound like a pretty good deal? It sure can be.

Recapitalization can also be a preferred method for buying out a controlling owner but allowing a remaining shareholder to continue to run the business. This type of deal can even be structured to increase ownership of the remaining shareholder(s).

So if you have a partner who wants to be bought out, or you simply want to have a little payday, consider leveraged recapitalization. Call Acquisition Advisors to confidentially discuss your particular situation, 918-748-7995. Ask to speak with a dealmaker.

  • Scott Parkinson
    Posted at 14:20h, 11 May Reply

    During 2012 and 2013 when there was a record amount of leveraged recapitalization activity, per the WSJ, do you have an idea of the range of magnitude of the new debt, as compared to Total Assets or Total Equity (prior to the recap)? 10% ~~ 40%??

    Scott P.

    • David.Perkins
      Posted at 14:59h, 27 July Reply

      I presume you are referring to the amount of additional debt placed on a company, on average, when a business is recapitalized, as a ratio to Total Assets and/or Equity? That would be a tough one to peg. Asset value (both book and real or normalized) and equity both change at transition date as well. So one would have to use pre-transaction asset values and equity. That’d be a lot of data to collect both pre-and post transaction. And nobody tracking this info on deals reliably or consistently that I know of.

      David L. Perkins, Jr.

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