What is Management Buyouts (MBO)?
Management buyouts is the process where the existing management purchase all or part of a business from from the owner of the company. This method is lucrative to the managers because of the higher potential rewards and control of the business. For example, the directors of a subsidiary company in a group might buy the company from the holding company, with the intention of running it as proprietors of a separate business entity.
Parties to a Management Buyouts (MBO)
There are usually three parties to a management buyout:
- A management team may want to make a buyout. This team should have necessary skills and ability to convince finance providers that it worth supporting.
- The Directors of a Group of companies
- Finance backers/providers of the buyout team may want equity stake in the bought out business, because they are taking the risk of the venture capital risk. Often, several financial backer provide necessary venture capital for a single buyout.
Reasons for MBO
The board of directors of a large company may wish for the management buyout deal for any one of the reason mentioned as below:
- The subsidiary would be related to the group’s mainstream activities, and that may not fit with the group’s overall activities.
- The group may want to sell off its loss making subsidiary.
- The parent company feels that there is a urgent cash requirement.
- The subsidiary company is the part of a group that has been taken over and the new may want to sell off the parts of the group it has just acquired.
- A lucrative offer comes from the small management group who wants to arrange buyout.
However, a Private company’s shareholders may also wish to sell out to a management team when they needs urgent cash, they are intending to retire , or if they feel they are not getting targeted income from the business.
Appraisal Process of MBO’s
An institutional investor (such as a venture capitalist) should evaluate a buyout before deciding whether or not to finance. Aspects of any buyout that should be checked as follows:
- Whether the management team have required management skills?
- Why is the company for sale? If it is loss making right now, how it could be profitable after buyout?
- What are the projected profits and cash flows of the business? Whether the prospective return is justified the risk involved?
- What is the price? Is the price right or is it too high?
- What financial contribution can be made by members of the management team themselves?
- What are the exist routes and when they could be taken?
Benefits of Management Buyout
The advantages of Management buyout are as follows:
- The company may achieve a favorable buyout price
- Personal motivation and determination may increase
- Quicker decision could be taken
- More flexible as the management team is familiar
- Keener decision and action on pricing and debt collection
- Savings in overheads
Problems with Management Buyouts
The common problems with management buyouts are enumerated as follows:
- Managers may have little knowledge or they don’t have any knowledge on financial management or financial accounting.
- Tax and legal complications
- Difficulties in determining fair price and to be paid
- Convincing employees of the need to change working practices or to accept redundancy
- Inadequate resources to finance the maintenance and replacement of tangible non-current assets
- Maintaining employment or pension rights to be difficult one.
- The loss of key employees will be another major issues. If the company moves geographically, or wage rates are decreased too far , the potential employees may leave the company.
- Relationship maintenance with suppliers and customers may not possible.
- Lack of time to take decisions.