What is a search fund?

A search fund is a unique investment vehicle that allows entrepreneurs, often recent graduates from business schools or individuals with significant business experience, to acquire and manage an existing small to medium-sized business. The purpose of a search fund is to provide a structured approach for these individuals to find, acquire, and then actively operate a company.

 

What is a self-funded search?

A self-funded search is an investment model where an entrepreneur raises their own capital to search for and acquire a small to medium-sized business. The entrepreneur typically commits their own capital to finance the search process and may or may not take contributions from individual investors to fund the eventual acquisition.

 

How does the self-funded search fund model work?

The entrepreneur forms a search fund and then conducts an extensive search for a suitable business to acquire. During the search phase, the entrepreneur typically dedicates a significant amount of time and personal resources to identifying potential acquisition targets. Once a suitable business is found, the entrepreneur negotiates the acquisition and secures financing, often with a combination of equity debt and seller financing.

 

What are the advantages of selling my business to a self-funded searcher?

Some advantages of selling to a self-funded searcher include:

  • Legacy Preservation: The entrepreneur is generally interested in maintaining the business’s legacy and preserving its culture.
  • Smooth transition: The entrepreneur typically focuses on ensuring a seamless transition of ownership and management.
  • Financial stability: The self-funded search fund entrepreneur usually has access to capital from their investors, which can provide financial stability for the acquired business.

 

What criteria do self-funded searchers typically look for in a business?

The specific criteria may vary depending on the searcher, but typically, searchers look for businesses with:

  • Stable financial performance and growth potential
  • A strong management team or the potential for new leadership
  • A competitive market position or a unique value proposition
  • Scalability or the ability to achieve growth under new ownership

 

How do self-funded searchers finance the acquisition of a business?

Self-funded searchers often finance the acquisition through a combination of equity and debt. They use the committed capital from their investors, along with personal funds, to contribute the equity portion. Debt financing may be obtained from banks, financial institutions, or alternative lending sources to cover the remaining purchase price. Most self-funded search acquisitions leverage SBA loans.

 

What level of involvement will I have in the business after selling to a searcher?

The level of involvement you have in the business after selling to a searcher can vary depending on the terms of the deal and your preferences. You may have the option to stay involved in an advisory capacity, or completely exit the business. It is essential to discuss and negotiate these terms during the acquisition process. The SBA does not allow anyone owning 20% or more of the company to maintain equity without putting a personal guarantee on the loan.

 

What is the typical timeline for the acquisition process?

The timeline for the acquisition process can vary depending on various factors, such as the complexity of the transaction, due diligence requirements, and negotiations. On average, it can take several months to a year for a searcher to complete the acquisition, from the initial search phase to closing the deal. From the seller’s standpoint, once a letter of intent is executed, the diligence and closing process generally lasts around 90 days.

 

What factors determine the valuation of my business in this type of transaction?

Valuation in this type of transaction is determined through negotiations between you and the searcher. Factors that can influence the valuation include the financial performance of your business, market conditions, growth prospects, industry trends, and the level of competition for acquiring businesses. Businesses of this size ($500k – $1.25m discretionary earnings) generally trade at 2.5 – 5 times those earnings.

 

How can I ensure a search fund entrepreneur is the right fit for my business?

To ensure a searcher is the right fit for your business, consider the following steps:

  • Assess their track record and experience in working with small businesses.
  • Evaluate their strategic vision for your business and alignment with your values.
  • Conduct thorough due diligence on the entrepreneur and their financial capabilities.

 

What happens to my employees and customers during and after the transition?

The treatment of employees and customers during and after the transition will depend on the specific plans and strategies of the searcher. Ideally, they will have a well-defined plan for retaining key employees, maintaining customer relationships, and ensuring a smooth transition. This should be discussed and agreed upon during the negotiation process.

 

How do searchers typically handle the management transition?

Searchers often prioritize a smooth management transition. They may work closely with the existing management team to understand the business’s operations and gradually implement any necessary changes. The exact approach can vary based on the entrepreneur’s experience, the capabilities of the existing management team, and the unique circumstances of the business.

 

What is the track record and experience of the search entrepreneur?

It is crucial to inquire about the track record and experience of the searcher. Ask about their previous work experience, their performance as business operators, and their ability to add value to the businesses they acquire.

 

What level of confidentiality can I expect during the selling process?

Confidentiality is typically an essential aspect of the selling process. You can expect the search entrepreneur to maintain a high level of confidentiality and protect sensitive information about your business. Non-disclosure agreements (NDAs) are often used to ensure confidentiality during discussions and due diligence.

 

What are the tax implications of selling my business to a search entrepreneur?

Tax implications can vary based on the jurisdiction and specific circumstances of the transaction. It is advisable to consult with a tax professional or accountant who can assess your situation and provide guidance on the potential tax consequences of the sale. They can help you understand any applicable capital gains taxes, deductions, or other tax considerations.

 

What are the risks and challenges associated with this type of succession plan?

Some potential risks and challenges associated with selling to a searcher include:

  • Uncertainty regarding the future direction and management of the business.
  • Possible differences in management styles and strategic priorities.
  • Financing contingencies that may affect the transaction’s completion.
  • The need for a thorough evaluation of the entrepreneur’s qualifications and financial capabilities.
  • Potential cultural or operational clashes between your business and the acquiring entity.

 

Can I negotiate the terms of the deal, such as earn-outs or seller financing?

Yes, you can negotiate the terms of the deal. While earn-outs are not permissible in the Small Business Administration, there are ways in which the deal can be structured to include earn-out-like terms through seller financing. These terms can be discussed during the negotiation phase to ensure that the transaction aligns with your financial goals and risk tolerance. Keep in mind that negotiation is a collaborative process, and finding a mutually beneficial agreement is key.

 

Are there any legal or regulatory considerations I should be aware of?

Legal and regulatory considerations may vary depending on your location and the nature of your business. It is crucial to engage legal counsel experienced in business transactions to review the legal aspects, contracts, and compliance requirements associated with the sale. They can help ensure that you comply with applicable laws and protect your interests throughout the process.

 

How can I protect my legacy and ensure the long-term success of my business?

To protect your legacy and ensure the long-term success of your business, consider the following steps:

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  • Select an entrepreneur who shares your vision and values.
  • Negotiate provisions in the agreement to safeguard your business’s culture and key practices.
  • Implement a comprehensive transition plan that includes knowledge transfer and ongoing support.
  • Stay involved in an advisory role or retain a minority ownership stake if desired.
  • Conduct due diligence on the self-funded search fund entrepreneur’s past experience and cultural fit.