The unique dynamics of MBOs

In a typical M&A transaction, the buyer is concerned about informational blind spots - financial, operational, and legal aspects of the target that its management and owners have much greater visibility into than the buyer, even after due diligence.

⏪ A management buyout (MBO) reverses this conventional information asymmetry: In an MBO, the management buyers typically know much more about the target and its prospects than its passive owner-investors. After all, the buyer group runs the day-to-day operations of the business.

❓ What does that mean for deal dynamics?

▶️ Typically, the need for buy-side diligence will be much lower, as the buyer group is already intimately familiar with the company; in fact, more so than the seller.

▶️ Similarly, buyers should not expect the seller to make extensive representations about the business. Often, only the most fundamental reps are appropriate (eg, share ownership absent liens and transfer restrictions). It doesn't make sense to require the seller to perform extensive self-diligence, where, unlike the benefits to a buyer, that diligence effort will not also aid post-closing operations and integration.

▶️ On the other hand, the seller faces a risk that management knows something the seller does not that could positively impact valuation (for example, a key customer contract is being finalized, FDA approval is about to be obtained for a product, prior earnings have been understated, etc.) OR that management has already arranged to flip the company to another buyer at a higher price after buying it from the current owners.

▶️ Because of those risks, sellers often ask for:

- More extensive buyer reps, including a "reverse" 10b-5 and full-disclosure rep that management isn't aware of any material undisclosed positive information.

- Participation in any future sale within a specified time period post-closing.

The bottom line is that MBOs involve what is close to complete role reversal between buyer and seller and, as a consequence, demand very different risk allocation. Because buyer risk is so reduced, MBOs can be very efficient transactions, making management an attractive buyer type.

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