Equity firms specialize in acquiring platforms and then during the ensuing 5- to 7-year “hold period” make additional investments in synergistic companies in order to expand the platform far beyond the size of the initial investment. These additional investments are called “add-ons” or “bolt-ons.” These descriptors refer to the fact that the subsequent investments are acquired and then rolled into the platform acquisition. They are typically “additive” and enable the equity firm to grow its investments beyond just organic expansion.
This strategy has become extremely popular for equity firms to pursue, according to PitchBook, a leading research company focused on private equity and venture capital firms. They do a great job compiling research on an industry that is notoriously secretive.
As you can see, based on their analysis, add-ons are now extremely popular with equity firms:
As shown, in 2005 add-ons accounted for only 39% of the acquisitions and investments made by equity firms. In only nine years, that percentage has exploded to 61% of all investments (through half a year in 2014). What is fueling this dramatic increase? In a word: success.
Equity firms have learned through years of trial and error that it is far more financially lucrative to make a number of smaller, less risky acquisitions (relatively speaking) and combine them into a new entity rather than trying to hit a home run with $1 billion deal.
The Great Recession was a real eye opener for many firms who had made highly leveraged, somewhat speculative mega deals only to see the investments fail or at best flounder when demand shrank. Because of this, funds are now targeting their investments in narrow synergistic ranges after the initial investment in a platform company.
The really good news is that for most private equity firms, the size of the add-on can be quite small (more on that in our next posting on the 17th). Lots of business owners that attend our seminars are surprised to learn that add-on acquisitions are popular and can be quite small in size.
And, because the equity firm wants existing management to stay with the acquired company post-acquisition, a good portion of these add-ons are partial sales. If you are unfamiliar with that deal-making strategy, typically the equity firm will acquire 51% or more of the target’s stock and recapitalize the new firm by rolling it into the platform company. Existing management and ownership is retained and most often is given added incentive by taking stock (ownership) in the new entity. This can prove quite lucrative for many owners who are young enough to stay and grow the new firm 5-7 years and then participate in a second liquidity event when the much larger entity is sold or taken public.
If this information is all new to you, then I recommend attending a Generational Equity exit planning workshop. An investment of a few hours of your time will really speed you along the path of determining when and how you want to exit your company.
Carl Doerksen is the Director of Corporate Development at Generational Equity.
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