The Benefits of a Go Private Transaction

Can a Go Private Transaction be Beneficial?

Public companies are companies that are listed on a regulated securities exchange marketplace. In Canada, public companies trade on the Toronto Stock Exchange or the TSX Venture exchange. In order to remain listed, these companies must comply with a list of regulatory requirements including, but not confined to, quarterly and annual filings, management discussion and analysis, management certifications, disclosures of material changes, and corporate governance disclosures. 

These regulatory requirements increase administrative overhead and professional fees and so, have a significant impact on the company’s operating margins. Following the Sarbanes-Oxley Act of 2002, which increased regulatory requirements and disclosures significantly, several public companies decided to go-private when the administrative costs became too large. Maintaining a public company also strains resources, especially in small organizations with lean teams. Small and medium-sized companies listed on the venture exchange are particularly susceptible to this phenomenon; the added administrative responsibilities and regulatory filings cut into productive time that could otherwise be utilized to pursue growth and improve the company’s top and bottom line. From this example, it is clear how going private can present some significant advantages for certain companies.

Historically, the liquidity and volume of shares traded on the TSX Venture have been poor compared to the TSX. A major reason why companies decide to go public is to access capital, however low liquidity defeats this purpose. Consequently, the substantial overhead borne by these companies does not translate into benefits in the form of capital inflow.  Thus, for small and medium-sized companies that are traded on the venture exchange, it might be worthwhile to consider the benefits of going private. While some companies might fear doing so due to the added illiquidity risk of going private, there are multiple avenues that companies can exploit for financing needs.

Sources of Capital for Companies that Go Private

Private Lenders: Low yields on treasuries have driven several investors into private lending, thus making it easier for well-run companies to access capital. Private lenders are generally institutional investors, hedge funds, boutique asset managers, and high net worth individuals. Companies can approach these lenders and structure a deal in the form of a debt raise or a mezzanine financing arrangement. These private lenders might require a higher yield in exchange for the high risk that they take on.

Banks and Conventional Lenders: These are financial institutions that offer commercial and business lending solutions catered towards small and medium private businesses. Since banks must manage risks, companies must produce documents and business plans. Companies often go through a due diligence process before a loan is approved. Consequently, receiving a loan from conventional lending institutions can be a long and tedious process.

Crown Corporations: In Canada, certain government-owned enterprises like the Business Development Bank of Canada exist to assist entrepreneurs and business owners. These corporations have a mandate to specifically assist small and medium-sized businesses by providing growth capital, transition capital, venture capital, and other advisory services. As these corporations are backed by the government, they have a streamlined process in place and can offer low-interest loans to businesses in need.

Fintech Companies: These include a new generation of lenders who are disrupting the financial industry. Over the last two decades, the fintech revolution has spurred growth in the number of payment solutions and alternative lending platforms aiming to make funds more accessible for small businesses. Platforms like Square which began as payment processing companies have now started diversifying into business loans and working capital loans.

Now that the alternatives are laid out, it is clear that the disadvantages faced by private companies in the past is no longer a major challenge. Technology and cheap borrowing has given rise to innovative financing solutions. There is an abundance of dry powder on the sidelines as investors wait to deploy this capital towards productive use. Consequently, companies that have a sound operating model and are well managed can effectively raise capital in the private market.

Another reason for a company to go private is the freedom from analyst and street expectations. Often public company management teams are under pressure to deliver strong earnings on a quarterly basis. This leads to misalignment of incentives by forcing management teams to make decisions that lead to short term growth discouraging strategic investments which might compress margins and reduce profitability in the short-term. By going private, companies and management teams can rid themselves of this added pressure and focus on maximizing enterprise value over the long-term.

Considerations for the Go Private Transaction Process

Now that we have discussed the several benefits of going private, it is also important to understand its implications and to understand the process involved. A company can be taken private by purchasing all of its shares outstanding. Often, the company’s management team will pool their equity and obtain additional debt to take the company private in a leveraged buyout. An individual who does not have enough equity to acquire the entire company must gather a consortium of investors who can pool their equity to finance the deal. This consortium then approaches a bank that will loan the remainder and facilitate deal completion. Once acquired, the new shareholders gradually pay off debt through cash flow generated by the company.

There are several risks associated with a take-private transaction and proper execution is extremely important. Consequently, it is important for the acquiring management to understand downside risks and have an accurate estimate of the company’s future cash flow potential and fair market value. Failing to accurately measure and quantify these risks can lead to a negative return for shareholders. In a worst-case scenario, if the company does not generate enough cash flow to service its debt, the company might even default and have to declare bankruptcy.

Due to the complexity involved, it is important to consult a professional advisor or an M&A advisory firm that specializes in business valuations and take-private transactions. Beacon’s experienced team of valuation and M&A experts has worked on over 500 valuation advisory and sell-side transaction mandates. Its proprietary networks and relationships with lenders allow it to add value to take private transactions not only at the valuation stage but also during capital raise efforts.

Beacon Mergers & Acquisitions is a full-service M&A advisory firm with offices across Ontario, Canada and in Washington, D.C, U.S.A. Beacon also has a strategic partnership in the Asian subcontinent with Prime Bank Investment Limited. Beacon’s services include M&A advisory, debt financing advisory, and business valuations to private companies in the lower middle market.  Beacon is a three-time recipient of the Consumer Choice Award for Best Business Brokerage Firm in the Greater Toronto Area, and a member of several international M&A organizations.