So, who might buy your business? We have considered the strategic buyer, who views an acquisition as a strategic play, viewed through a longer-term lens than many other types of buyers. Here, we will look at the financial buyer, a very different type of beast.

A financial buyer acquires businesses primarily as an investment with the goal of generating a return on that investment. Their investment focus is primarily the financial performance and profitability of the business. Some want that profit generated as cash flow, others are happy to see their gains through capital appreciation. Financial buyers tend not to buy unprofitable firms.

Financial buyers typically are not going to be working in the business. They might take over some back-end functions like finance, IT, and HR, as a method of control and in an attempt to streamline the business and lower costs. They will often have representatives sit in on senior management meetings, and will certainly run a more formal board of directors.

Types of Financial Buyers

Financial buyers typically have a well-defined investment horizon and exit strategy. They aim to enhance the value of the businesses they acquire through leverage (i.e., debt), operational improvements, cost efficiencies, and improved governance. Ultimately, they plan to exit their investments by selling the businesses at a profit, often within a predetermined time frame.

Private Equity Firms

Private equity (PE) firms are perhaps the most well-known type of financial buyer. These firms raise capital from local wholesale investors (such as superannuation funds, high-net-worth individuals and family businesses) and use that capital to acquire businesses. They target profitable private companies with good growth potential, with a plan to improve operations and financial returns. They then aim to sell the business at a profit in the future.

Some PE funds acquire public companies, take them private, and then restructure them for potential future growth, or carve up, or sale. This model is less common in New Zealand.

PE funds offer investors a high rate of return through discrete funds with limited life. Each fund has a term and a sector focus, and gets wound up after, say, 7 years, and profits are paid out to the investors. For a fund to be wound up, the assets need to be sold to realise the profits. Their time horizon is shorter than other types of financial buyers.

Some well-known New Zealand PE funds that are active in the mid-market (Target company values of NZ$10M – NZ$100M) are Direct Capital, Pencarrow Private Equity, and Waterman Capital.

PEs don’t always buy 100% of a target firm, and the deal may involve an injection of capital for further growth of the company.

Family Offices

A family office is the investment vehicle of high-wealth individuals and families. In addition to investments through PE funds, family offices also make direct investments. Their investment goal is financial return, which tends to be more focused on cash generation than capital gain. While they may use debt funding, a key benefit of family offices over PEs is that they do not have a fixed investment time horizon. They can also be extremely agile, and have the ability to make acquisition decisions very quickly. Family members often make the investment decisions, but offload operations to the family office management or business unit management.

Family offices will typically want to buy at least a controlling interest in any acquisitions, with an option to move up to 100% ownership. They are less likely to invest new funds in growth initiatives, and prefer businesses with low capital expenditure requirements. These investors are buy-and-hold in most cases, but will always be open to a profitable sale of parts of their portfolio when the opportunities arise.

In New Zealand, almost all family offices are single family. Multi-family offices are more common overseas as they share the overhead costs of running the office. Local family offices do not limit their investments to New Zealand.

Venture Capital Funds

Venture capital funds (VCs) are a subset of financial buyers that generally focus on early-stage or high-growth startups. They are best known for providing funding to startups in exchange for large chunks of equity, with the expectation of a substantial return on their investment if the startup succeeds. VCs make their money by selling to later stage investors (like PEs), sells to another company, or when the firm goes public.

It is unlikely that a VC will buy a business outright. They are investing in people and ideas, so they want the founders to stick around and drive the promised growth. Deal structures tend to be very incentive-based, and funds made available in tranches over a period of time based on you achieving agreed targets.

Venture capital investments tend to be much smaller that PE fund investments as the companies they are investing in are smaller, early stage firms. They are often much less constrained geographically than other funds.

Like PEs, VCs raise funds from wholesale investors, but may also receive funds from government and corporates. They also have a set time horizon for the funds. They make high-risk bets on unprofitable start-ups, operating on an expectation that some will fail, some will succeed, but a small number will succeed fantastically. This risk profile is unattractive to other types of investors.

Most VCs have target sectors, and they are very focused on high-growth industries. Some of the best-known VCs in New Zealand are New Zealand Growth Capital Partners, Movac, and Blackbird Ventures.

VCs can be active in the financial investor space buying companies to bulk up the startups they have funded.

Hedge Funds

Hedge funds generally pool investor funds to take reasonably large stakes in listed companies and other liquid investments. Some hedge funds engage in acquiring and investing in private businesses, but this is rare in New Zealand. It is unlikely they would invest in a small business.

Asset Management Firms

An asset management company, also known as an investment management firm or asset manager, is a firm that invests pooled funds from wholesale clients in various asset classes. They make decisions on behalf of their clients about where, when, and how much to invest in assets. The investments tend to be large assets, like infrastructure, taking a long-term investment position. Their goal is to maximise returns on their portfolio of assets while managing risk according to the specific investment objectives agreed with their clients (e.g., high growth, balanced, conservative). A fund may also be geographically-based or take an ethical stance.

Well-known asset managers in New Zealand include Fisher Funds, Milford Asset Management, and AMP Capital Investors. Global players include BlackRock, Vanguard, and Fidelity Investments.

Some asset management companies may invest directly in large private and public businesses where they see an opportunity for above-average returns. They don’t invest in small businesses.

Private Investors

Some individual buyers could also be classed as financial buyers. Their acquisition motivations are the same – seeking a superior ROI – but they are probably less diversified than the other financial buyers described above.

These individuals are more likely to buy a small New Zealand business. They don’t plan on working in the business, so the more self-sustaining the firm is, the more it will appeal as an investment. These buyers are typically not interested in spending more money on the business, so high recurring capital spends are not attractive.

Will They Buy My Small Business?

Most classes of financial buyer are unlikely to buy a business with a purchase price below NZ$1M. Individuals are the most likely at this level. In the $1M – $5M space, individuals and family offices are the most likely, unless you can demonstrate high-growth potential, where VCs might be interested. VCs almost never want to buy a 100% stake, however. Above NZ$5M, family offices and PE funds are good options, although you can’t rule out individuals.

Financial buyers view the business as an active investment. They are going to want to identify new growth opportunities through geographic expansion, new products, and new niches. In some cases, they will forego immediate returns if they can be convinced of a larger payday down the road – it is all about ROI. They will also actively drive operational efficiencies in the firm, lowering input costs, improving distribution, higher levels of automation and innovative technologies in an attempt to improve the margins of the company.

In some cases, a financial buyer will be looking to ‘roll up’ a number of small firms to create a larger, more valuable entity. Their goal here is still ROI, so they don’t become strategic buyers.

Financial buyers will also restructure the balance sheet, altering the capital structure through the disciplined use of debt. They are often also looking at how they can carve off parts of each business if it is deemed non-core, or if they can create a strong, stand-alone firm focused on one part of the collective value chains. For example, one of my clients pooled their voice and data purchases across the group of companies and created an independent telco-like operation.

While financial buyers can take a long-term view of ownership, they are also monitoring the health of the market, and are willing to exit if they can achieve that superior return.

These buyers have experience in M&A, and generally have key skills inhouse to identify and work the transaction. In most cases, they will find you, but a savvy broker will also know who is active in the market. They are not likely to pay over market value as they are focused on their investment return, and will be fastidious in their due diligence.

I have had many discussions with business owners over the years who see a news article about a firm in their industry being sold to a PE fund or family group, and believe they can do the same. It is not as easy as it looks. You need to have your systems in place, running effectively. You need scale. Often you will need excess capacity, or are not significantly constrained from growth. You need a well-functioning management team in place who run the business day-to-day without your involvement. You need a track record of profits. You need a lot of ducks lined up to appeal to a financial buyer.