How to structure equity rollovers?
April 11, 2019
by a searcher in San Francisco, CA, USA
I would like to know how exactly seller equity rollover is structured in deals. Assume a company valued at $10M, let's say we do 10% equity rollover. Let's say we structure this as $5M in equity and $5M in debt.
1. Do we pay only $9M (in which case $4M in equity and $5M debt) for 90% of the company and let the seller hold onto 10%?
2. Do we pay the entire $10M and then let the seller invest $500K in the equity portion for 10% rollover?
3. Only some searchers have said #2 is the standard. Assuming it is, what if we do not want #2 as an option. Can we pay only $9M and have the seller retain 10% in common shares?
4. As an extension of my question #3 - what gives a better economic upside from a searchers' standpoint - having the seller retain 10% as preferred or as common shares?
5. If the searcher team is a funded searcher with traditional###-###-#### split, will the searchers now have up to 30% equity in the 90% of the company excluding the rollover 10%?
Common shares seem a better option in deals where the equity rollover is for some of the company executives who want to stay on after sale and will be reporting up to the searcher-CEOs,
from University of Pennsylvania in Wrentham, MA, USA
1. I think this is a bit punative to seller, but I understand it's a negotiation. He hypothetically could have received $1m in cash for 10% of the purchase price....if he then became an 'investor', he'd be investing $1m of your $4m in equity, and own 25% pro forma.
2. Paying money in and out is not necessary and can only cause problems. Your counsel can provide a mechanism so money doesn't have to move out and back in like this.
3. Yes, you can structure it however you want. I would be very clear about the cap table with the seller, and if he accepts, anything is possible.
4. Searchers typically get common shares. You don't want the seller to have preferred if you can help it, as you'll then be behind them. You could potentially split the cap table into three classes as another option. If the share will have any 'special rights', they should be classified as preferred.
5. This is a good question. I won't say which way we decided to go with this, but you could think of asking your investors "I have a great deal, I get my full 30% share", or "please accept this seller into the cap table, I'm even willing to reduce my share to 27% so we're both being diluted equally".
from Massachusetts Institute of Technology in Colorado Springs, CO, USA
I'm discussing a similar situation with a seller and his broker where seller would stay in at 20-30%. The seller does not want his share of the earnings to be used to service the debt. Any feedback on such a demand?