Self-Funded Search Effect on Investor Relationships

April 28, 2020

by a searcher from Babson College - F.W. Olin Graduate School in Boston, MA, USA

I am considering self-funding my search and reserving investor funds for equity contribution in an acquisition.

Does this method have many use-cases (most literature states that investor money is involved during both steps)? If yes, can you offer one?

What are the other considerations as it pertains to "self-funded search, investor participation in deal" that need to be made outside of timing (needing soft commitments prior to deal) and governance (making good choices in structuring the cap table).

Thank you!

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Reply by a searcher
from University of Minnesota in Minneapolis, MN, USA

Schuyler, I'm running a self-funded search and have spoken with several people who have successfully acquired companies this way. The most important things I've learned so far: 1) Make sure you have a strong line-up of investors before embarking on your search and that they are willing to share their financial information with you to pass on to brokers, potential sellers, intermediaries, etc. (all under NDA, of course). Brokers, in particular, want to know that you have access to plenty of "real" funding to actually make the acquisition. Money in the bank is best, obviously, but most seem willing to work with a good list of investors whose net worth is sufficient to complete the acquisition. 2) Stay in touch with your potential investors throughout the process. I've found that quarterly updates are usually sufficient for investors I know well; I stay in touch a bit more frequently with investors who are newer to my network. You'll want to make sure to guide your investors along the way, especially if they're new to private equity. They need to be clear about the search criteria and process; the check size you'll likely be asking for and when that 'ask' is likely to happen; what potential deal terms might look like and the return profile they can expect; and what you're going to do to minimize their risk (e.g., keeping them out of any personal guarantees, a preferred stock coupon, etc.). Personally, I like the capital structure flexibility a self-funded search provides as well as the greater flexibility of EBITDA levels I've been able to look at. Happy to discuss further if you'd like more info.

Reply by a searcher
from Hamilton College in Pardubice, Czechia

Hi Schuyler - We ran a self-funded search and acquired a company in###-###-#### We asked investors to put up a search round post-LOI in order to fund the diligence costs, and this determined the equity allocations for the acquisition round. Because we assumed all the search risk, they didn’t get a step-up on the diligence capital and we were paid a success fee for finding and completing the transaction (basically covered the costs of the search with compensation for taking the risk). The diligence investment did get rolled 1:1 into a preferred tranche that sits ahead of the common equity (and our carry).

This method was great because it gave us complete control over who went into our deal - and you learn a lot about investors over the course of your search (and they about you).
We didn’t demand commitments soft or otherwise, but we built investor relationships that were strong enough so we could easily reference them with potential buyers/brokers - and this worked well.

Happy to discuss further if you’d like.

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