Win-Win: Negotiating Closing and Management Fees

There is a lot to consider when an independent sponsor and capital partner begin negotiations on a deal. The best negotiations end up as “win-win” deals – where both sides feel comfortable with the terms – and how they got there. Simon Haidamous of Genesis Park, Michael Macaluso of Global Access Capital, Ryan McGovern at Star Mountain Capital and Jeff Piper at LXP sat down with John Koeppel of Lippes Mathias LLP to discuss how independent sponsors should best approach negotiating with capital partners to ensure alignment, without sacrificing too much on the economics and terms-side.

A Test in Patience

Simon began the conversation by noting how much the independent sponsor asset class has evolved in the quantity of talent entering the asset class – Michael agreed, noting the market’s expansion has created more competition – that it’s now harder to get good deals at good prices as a result. Ryan added that there is more capital that sponsors can access, with Jeff observing that the entire deal process is taking much longer – from getting sellers to commit to diligence and negotiations. It’s a real test in patience.

Deal Or Sponsor First?

In terms of how to approach a capital partner, Simon stressed the importance of spending time on the sell‑side Information memorandum (SIM) before discussing it with a capital partner. As a capital provider, he looks at the sponsor first – is it a sponsor they like, where they think “Oh, good!” when they call, or do they think “Oh, crap!” They are very manager-centric. Genesis Park wants to understand if the independent sponsor has a specific angle on the company – or is in an industry they don’t know much about.

They are also very value-focused. Double-digit multiples are hard to swallow he said – they leave too large of an equity gap that independent sponsors will struggle to fill.

Ryan had a somewhat different take – even if they love the independent sponsor, if they don’t like the deal they won’t pursue it. Conversely, if they love the deal but don’t know the sponsor, they’ll still pursue the deal – which is a bit different from Simon’s approach. They have a deal-first approach.

Bottom line: understand the key value drivers of the capital partner you’re approaching – like independent sponsors, they are not all created equally.

Ask for What You Think You Can Get

Simon offered up that they will give out terms quickly to an independent sponsor to ensure that everyone is on the same page. As an SBIC, they will club up on deals and want to be as quick as possible on a decision to move forward – so offering up terms quickly helps speed up that decision process. He added that they are flexible – they can offer amortization over the first two years and can be flexible on covenants if it helps get the deal done.

In terms of expectations, Jeff expects/wants brutal honesty from a capital partner – he doesn’t want to waste time either. He advised people to ask for what you think you can get and then negotiate from there.

Michael advised that you should start the process early and develop your thesis on the industry early on – and to rely on your own money first if you can.

What Will the Capital Partner Do When Things Go Badly?

John asked the group how much a really attractive valuation impacts a negotiation. Simon said that with deals that have “more hair”, he may ask for a 1 1/2X liquidation multiple. That way with extreme downside he can still get his capital back. And if the independent sponsor believes in the deal they should be comfortable with that risk.

Jeff jumped in – stating that as an independent sponsor, they need to practice what they preach. If as a sponsor you believe it’s a great opportunity you need to look to be rewarded on the upside. Michael agreed – stating that you want the capital partner to make good money so both win – but the terms need to be fair. Jeff added that as an independent sponsor you shouldn’t try to squeeze every last basis point. The most important thing is to understand what a capital partner will do when things go badly – because they often will. Those relationships matter more.

John next asked the group how things change when working with newer independent sponsors.

Simon said that not much changes for them – they stick to market terms – 5% of EBITDA, and a transaction fee usually of 2%. They may roll the transaction fees at times, he added.

Ryan agreed – noting that the key to any deal is still alignment. Michael added that governance is an underrated issue. Surprises will happen – being able to work through those with the capital partner is key. Jeff added that it all matters – it’s just a big puzzle that you work on together. But you have to be able to rely on the capital partner – no one has all the answers.

Governance Matters

John said that you have to talk to other independent sponsors to get “the word on the street” about capital partners. You can have a capital partner with draconian rights, but what do they actually do when things go south?

Simon closed things out by noting that you may pay a premium with an SBIC, but they won’t put you in a workout box when something goes wrong. They want the deal to succeed and have the chops to help instead of forcing the independent sponsor into decisions that don’t benefit them.

Alignment Matters Most

In the end the common thread was the stress on alignment – how essential it is for an independent sponsor to understand how the capital partner will handle rough times. Instead of making the mistake of negotiating hot and heavy on terms and economics, focus most on the relationship. Because that ultimately matters more.