Investor Equity Terms

June 27, 2023

by a searcher from Pennsylvania State University in Philadelphia, PA, USA

Investor Equity Terms: For those looking for outside investors to help your acquisition. Can you offer insights into the terms investors are taking on smaller acquisitions (e.g., 700k to 1M EBITDA)?

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Reply by an investor
from Western Washington University in Key West, FL 33040, USA

Typically participating preferred stock with a 1x liquidation preference, an 8-12% preferred return, and a###-###-#### 0x equity step up. Liquidation preference means investors get their capital contribution, plus any accrued/unpaid preferred return back FIRST, before any distributions to common equity owners. Example, $5m acquisition with $1m of equity from investors with 10% preferred return, 1x liquidation preference, and 1.75x step up would equal 35% equity for the investors ($1m equity / $5m TEV = 20% x 1.75 = 35%). Say you sell the company for $10m at the end of year 5, have made no distributions to investors, net debt at closing $2.5m, and total equity value is thus $7.5m. You would pay the first $1,610,510 to investors ($1m x 1.10^5). This leaves $5,889,490 remaining, of which you get 65% ($3,828,169) and investors get 35% ($2,061,321). Investors get $3,671,831 over 5 years for ~3.7x MOIC or 29.7% IRR.

Reply by a searcher
from Northwestern University in Los Gatos, CA, USA

typical offering is preferred equity structure at 8-15%. this should move with interest rates, so right now rates should be on the higher end of this. common participation varies a lot by deal and depends a bit on how much debt, how much sponsor cash, how much salary, other deal fees, etc. In general I'm partial to a waterfall structure with more of the splits going to investors in the middle of the outcome distribution and skewing more of the return to the sponsor as you move to the right of the outcome distribution. for example, 80/20 LP/GP split from 0 to 1x MOIC, then 60/40 to 2x, 50/50 to 3x, 40/60 to 5x, 20/80 after 5x

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