Have Your Cake and Eat it Too: A PE Case Study

Many owner-entrepreneurs are cautious about exploring the benefits and opportunities Private Equity (“PE”) can bring to a growing business.  To summarize some general characteristics, PE investments are typically:

–       Control positions ranging from 51% to 100% equity
–       Held for five to seven years
–       Part of a strategy to grow a strong competitive position in a certain sector
–       Will eventually need to be sold again; possibly to another PE

PE investments may be platform investments or add-on/tuck-in acquisitions.  In a platform investment, the buyer is looking for a market leader that it can use as a platform for growth.  Subsequent acquisitions or “add-on” investments will be one way to achieve this growth.  There is more risk in a platform investment because it comes with the challenges of learning a new sector landscape and the target company’s competitive position in it.  When considering add-on investments the PE is effectively acting as a deep pocketed strategic buyer and looks to exploit potential synergies between the buyer and the target.  Add-on investments are also called “tuck-in” or “tuck-under” investments because they tend to be smaller than the platform investment.

The following is a blind illustration of a recent transaction.  Jim founded his business, Innovative Technologies in 2000 and grew revenues to more than $15 million by the end of 2013.  Based in central Ontario, Innovative Technologies (“IT”) is an industry leader in the engineering, design and manufacture of custom bearings for the automotive industry.  Its customer base includes some of the world’s leading automotive OEMs.

In his mid-forties, Jim wasn’t looking to sell his business but realised he had a passion for product development and engineering and felt he was missing opportunities to grow the business.  Jim partnered with an investee company of a leading PE company, Loder  Manufacturing (“LM”) which makes complementary precision-engineered parts.  By combining the companies, the larger sales force of LM gained a complimentary product line to sell to its customer base.

Jim sold a controlling position in IT but continues to lead his business as an independent division within LM.  In speaking to his rationale Jim noted: “We ultimately decided to partner with LM as they share our vision for growing IT and can provide the financial, professional and operating resources required to accomplish our goals and provide our customers with the best bearing products in the world”. “I am also excited to be a shareholder in LM, and I look forward to helping LM accomplish its goal of building a first class manufacturing company.”

Private Equity can be an excellent partner for a company where a combination of capital and smarts can reinvigorate revenue growth.  In this example Jim diversified his net worth by partially cashing out, but retains a minority position in the combined entity which is a bigger, more diversified, stronger company that will be monetized in the next five years or so; effectively having his cake and eating too.