By Sanjeev Malik and Udit Sharma, Accordion
You wouldn’t put a home up for sale without first fixing the broken kitchen sink, repainting peeling walls, and assessing what other improvements can be made to enhance attractiveness to buyers, right? In fact, high-end real-estate brokers will often “stage” a home to generate more interest and the get highest possible sale price.
Similarly, it only makes sense for PE firms to “stage” their exit-ready assets, conducting one last assessment and “fix up” exercise. That exercise should be an end-stage EBITDA enhancement.
Pre-exit EBITDA enhancement exercises
While most sponsors focus on EBITDA enhancement initiatives during the middle of their hold period, conducting similar exercises closer to exit is far less commonplace. Few sponsors actively “stage” their asset – taking a final look at what else can be improved operationally and financially to generate stronger returns as they prepare to sell.
They’re leaving significant value on the table.
While pre-exit EBITDA enhancement was always a good idea, here are just a few reasons why “asset staging” is more important now than it’s ever been.
In today’s hyperactive deal-making environment, PE firms are getting higher multiples than seen in recent history – double the norm in some industry sectors. Every dollar saved equates to real dollars returned. So, any last bit of improvement made during exit planning will result in significant dollars realized at the completion of the sale. For example, a distributor increased asset value by $50 million to $75 million within six months of sale by quickly reducing overall spend of $400 million by 1% and cutting $1 million to $3 million in SG&A expenses. Bottom line, late-stage EBITDA enhancement means higher valuation which leads to happier investors.
Uncovering post-transaction value
Increased PE deal activity also means an increase in transactions (roll-ups, add-ons, carve-outs, etc.) that typically occur mid-cycle. EBITDA enhancement exercises are usually conducted during this time period, while transitions are in their early stages and before synergies have been fully realized. However, by the late stage of the hold period, all acquisitions will have been completed in time for exit-planning. Conducting a profitability enhancement exercise at this point can ensure that all hidden values are unlocked, all acquired assets have been properly integrated, and could yield new opportunities to make additional adjustments that will further optimize those assets and, ultimately, drive greater value.
Supply chain volatility
For product-focused companies, the supply chain accounts for greater than 70% of all costs. Supply chains are notoriously susceptible to changing economic conditions, geopolitical disruptions, and, perhaps most relevant for this moment in time, global pandemics. For companies operating in industries heavily reliant on supply chains, conducting an enhancement exercise and implementing a sales and operations planning processes could reduce cash tied in inventory by millions of dollars, eliminate inefficiencies, and balance supply and demand in the chain just before a sale. It can also mean a buyer who requires a much lower working capital peg, resulting in increased net cash flow for the seller.
Accelerated exit environment
Today’s highly favorable tax and regulatory environment has created a bit of deal frenzy. Sponsors are eager to capture value as quickly as possible and accelerate exit before conditions become potentially less attractive. Moving too fast could result in missed opportunities to extract maximum value. A pre-exit enhancement exercise can ensure money is not being left on the table in the rush to divest and sell.
With the potential for generating higher returns at “closing,” incorporating late-stage profitability assessment and enhancement activities into exit planning should be part of any sponsor’s playbook. In addition to benefitting all stakeholders, final EBITDA improvements can lead to greater personal financial results for management team members, particularly the CFO, that hold equity positions in the company.
But late-stage enhancement exercises are different from those conducted during the hold period. The window is tighter and there’s significantly less time to conduct an extensive diagnostic. Whether it’s a last-minute renegotiation with a vendor, a rejiggering of roles to optimize management team structure, or a reduction in inventory, it’s all about quick wins. By identifying the operational and financial tweaks, adjustments, and improvements that can be made quickly during the final stages of ownership, sponsors can turn dollars saved and costs shaved into a more lucrative exit.
Sanjeev Malik and Udit Sharma are managing directors with Accordion, the private equity-focused financial consulting and technology firm.