The Anatomy of an MBO

In recent years, we have acted on behalf of both the exiting shareholders and management on a number of management buy outs (MBO), including for an estate agency, a property management business, an excavation company, a firm of engineers, a creative media business, and a plumbing and heating company. An MBO is a tried and tested arrangement that often works well for owner managed and family businesses, and avoids the large dose of unpredictability and risk that can be an inherent part of trade sales. 

For many business owners, there comes a point when they start thinking about life beyond the business. Whether retirement is on the horizon or they simply want to realise the value of years of hard work, an MBO can be a win win solution for both the owners and the management.

Time and again with these deals, the same key issues are at play, and there are specific concerns for both the business owners and the managements team purchasing the business.

The key is finding a structure that works for both sides. Sellers want to maximise the value of their shares and secure a reliable exit possibly with a structured income that will secure them financially in their retirement, while management needs to ensure the business can afford the deal and continue to thrive afterwards so that their own financial futures can be secured.

Why sell to your management team?

One of the biggest advantages of an MBO is that the business owners are selling to people who already know the business. They understand the customers, the staff and what makes the business tick. There is no need to spend months convincing an outside buyer of the business’s potential. It also avoids the extensive due diligence and negotiations that an inevitable part of a deal with an outside buyer, and then also steers clear of the corresponding warranties and indemnities and complexities often seen in the share sale documentation in those deals.

How does an MBO work?

The legal documentation for an MBO generally is similar to a regular share purchase arrangement, but for an MBO the documentation is often more streamlined.

Typically, the management team sets up a new company to acquire the shares in the existing business, and so will often also need a shareholders’ agreement to deal with the running of that vehicle. The purchase price is commonly funded through management investment, bank finance and deferred consideration (or any combination of them). Ultimately the deferred consideration is usually due to be paid out of future profits. 

The existing business owners may also want to extract any cash surplus in the business on completion in the most tax efficient manner, and so this is often an important commercial consideration to focus on with your accountants when negotiating the keys terms of the deal with the management team. This may be achieved through part of the purchase price being funded from the cash of the business. 

These deals often involve a good deal of price being paid through deferred consideration (and sometimes the entire price!) as often the management team do not have the cash to fund the purchase entirely at completion. Protections are routinely included in the share purchase agreement for the business owners so that pending the payment of all the deferred consideration the existing business owners are given power to veto business decisions which might impact on the ability of the business to generate the cash flow and profits to sustain the deferred consideration payments.

The existing business owners may also want to consider taking security  pending the payment of all the deferred consideration, which often takes the form of a debenture over the business and/or a charge over the shares they are selling. However, if there is bank finance involved, any security of the business owners is likely to rank behind that of the bank, and the security documentation will prepared to reflect this senior junior debt relationship.

Is an MBO right for you?

Are you thinking about your exit or a management team looking to acquire the business you work for? As experienced corporate solicitors, we can help you explore whether an MBO is the right option, assess the legal considerations and advise you throughout the process up to completion. Contact our team here.