Navigating over-supply in the M&A market – vendor options

Originally published in The Business Magazine – September 2023

Many companies are expected to be marketed for sale in the latter months of 2023, as shareholders recognise the uncertainty created by a forthcoming General Election and the lack of clarity around capital gains tax and business asset disposal relief.

With the increase in supply of opportunities for acquisitive companies and private equity funds, it is easy to envisage a two-paced market, where premium assets retain strong valuations but other companies may be crowded out.

So what should vendors do in this environment? The simple answer is to be aware of the options available, to work on contingency plans and run a shadow process that creates a safety net for shareholders in the event of a stalled transaction. This also allows vendors to keep an element of control and objectivity, knowing a strong alternative exists.

There are a number of routes to consider alongside a sale and these options may prove a better fit for the medium-term aspirations of vendors and management teams – in other words, there is an increase in the availability of funding to de-risk vendors now while maintaining future upside potential.

Funding sources which can be considered to achieve some of these alternative structures include:

• Minority private equity – with efficient structuring, vendors can de-risk now at known tax rates but retain control of key decision-making. By driving the business forward, they are then well positioned for a secondary transaction at a higher valuation when the time is right, rather than accelerating plans because of economic uncertainties.
• Family offices are able to be more flexible than traditional private equity and tend to invest in sectors where they have experience.
• Private equity ‘debt funds’ – we are seeing an increase in private equity firms broadening their offering to include ‘debt-like’ structures which contain an equity kicker (say 10-25%) to drive their returns. The kicker can be re-financed, meaning the company’s ownership can remain private, which can be very attractive to families looking to pass ownership to the next generation.
• Debt providers – whilst the availability of traditional debt funding from high street banks has tightened, they remain a good source of capital. Private debt and alternative funding markets remain open, with no shortage of liquidity in the system.
• Cashless transactions – no cash to the vendors on completion but debt instruments due to the vendor instead. The lack of funding means they are simple to construct, low cost and vendors can be paid over time. Vendors need to avoid a tax charge falling due without funds to pay it, however, and often cash on the balance sheet can be used to achieve this.

Whoever the funders, there is an increased focus on due diligence, so vendors should seriously consider vendor due diligence to increase the speed and likelihood of success of transactions. Investment in preparation is key, particularly making sure any structure works from a tax perspective.

At PKF Francis Clark, we often work with clients well in advance of a transaction to ensure they are appropriately prepared. We are therefore ideally placed to consider your options and approach to de-risking in the current M&A environment.

For more information, email paul.stout@pkf-francisclark.co.uk or call 02380 012890.