citrincooperman.com
CITRIN COOPERMAN'S 2019
Independent Sponsor Report WHAT’S INSIDE This is Citrin Cooperman’s third Independent Sponsor Report. The report analyzes the results of an online survey of 162 professionals in the independent sponsor sector and the insights from interviews with independent sponsors and capital providers. These individuals shared their views on topics such as deal flow and mechanics, capital sources, deal economics, liquidity events, and industry outlook.
2019 INDEPENDENT SPONSOR REPORT
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Executive Summary

Even in the short time since the launch of our first Independent Sponsor Report in 2017, we have seen significant developments in the independent sponsor landscape. The model continues to increase in popularity, the sector
such as deal sourcing, relationships with capital providers,
is becoming more professionalized, capital providers and
deal economics and liquidity events.
company owners are embracing independent sponsors in greater numbers and the market is providing opportunities that
We are happy that our prior Independent Sponsor Reports have
independent sponsors are uniquely poised to seize.
provided benchmarks and guidance to independent sponsors and capital providers and to hear that many of you have used
Doors that were formerly closed to independent sponsors are
the reports as an educational tool for those who are learning
now open.
about and transacting business in the space.
It is against this backdrop that we continue the analysis we
This year, we delve into independent sponsor economics in
began in 2017. Our survey of independent sponsors from
greater detail than ever before, with the hope that by sharing
across the country continues, exploring a wide range of topics
this information, all parties – those new to the space as well
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as established players, independent sponsors as well as capital
2019 INDEPENDENT SPONSOR REPORT
excited to see what is on the horizon for independent sponsors.
providers – will have a greater understanding regarding what the market will bear. We also hope that these detailed benchmarks
We are indebted to our survey respondents and our esteemed
and data points will help lead to further standardization of
group of external contributors, both independent sponsors
economic terms within the sector.
and capital providers, for sharing their insights with us and for making this year’s Report possible.
In addition, this year, our survey respondents and contributors shared their thoughts on the path forward: the outlook for
We hope that you enjoy the Report, and we look forward to
independent sponsor transactions, the evolution of deal
discussing our findings with you.
economics and the potential effects of a recession. We are Sincerely,
SYLVIE GADANT, PARTNER, CITRIN COOPERMAN
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The Research This is Citrin Cooperman’s third Independent
Sponsor
Report.
This year’s Report incorporates
FIRM LOCATION The Firm Location of Surveyed Independent Sponsors:
results from an online survey and
interviews
with
40%
leading
29%
independent sponsors and capital providers.
16%
15%
15%
West
Southeast
Southwest
This year, through our online survey, 162 professionals in the independent sponsor sector shared their views on topics such as deal flow and mechanics,
Northeast
Midwest
capital sources, deal economics, liquidity events and industry outlook. The survey was conducted in May and June 2019, and interviews with leading independent sponsors and capital providers were conducted in August 2019. One hundred and forty respondents identified themselves as independent sponsors. The majority of this year’s independent sponsor respondents (58 percent) are at firms that have been in existence five years or less. Most firms (66 percent) represented in this year’s Report have two or three principals, and 25 percent have only one principal. The majority of firms have one professional who is not a principal. All major regions of the United States are represented by our respondent population.
Some statistics used throughout the report may reflect rounding. 4
42+58+z
FIRM LONGEVITY
58%
42%
5 Years or Less
6 Years or More
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2019 INDEPENDENT SPONSOR REPORT
TYPICAL EBITDA RANGE
TYPICAL EBITDA MULTIPLE
Typical EBITDA for Companies Invested in or Targeted:
5+56+18417
Typical Acquisition EBITDA Multiple for Transactions Closed in the Past Year:
54%
18%
$2mm - <$5mm
28%
4%
$5mm - <$10mm
14%
18%
<$2mm
3%
$10mm - <$15mm
<4x
1%
5%
$15mm or more
56%
4x - <6x
8x or More
6x - 8x
Not Applicable
INDUSTRIES TARGETED
65%
62%
52%
34%
28%
27%
22%
22%
16%
13%
Other
Tech, Media & Telecom (TMT)
N/A Industry Agnostic
Transportation/Logistics
Healthcare
Aerospace/Defense
Tech-Enabled Businesses
Consumer Products/Services
Commercial and Industrial
Business Services
Distribution/Manufacturing
Industries independent sponsors focus on*:
10%
* Multiple responses allowed 5
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Liquidity Events Not surprisingly, many (79 percent) of the “younger firms” (defined as those in existence for five years or less) represented in our study have not had a liquidity event. Among “older firms” (defined as those in existence for six years or more), 33 percent of them have had five or more liquidity events.
Of those firms that have had liquidity events, 18 percent have returned an average realized equity multiple of greater than 5x.
MULTIPLE OF INVESTED CAPITAL Average Realized Equity Multiple of Investment Returned to
3+3+8292113185z Investors:
3%
3%
5%
18 %
29%
13%
21%
6
8%
Never <1x 1x - 1.9x 2x - 2.9x 3x - 3.9x 4x - 4.9x >5x N/A
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The Popularity of the Independent Sponsor Model “There’s been a proliferation of independent sponsors in recent years. They’ve become more mainstream, the model has become more accepted and there is a lot of capital to support good independent sponsors.” – Brian Kerr, Managing Director, Mezzanine and Private Equity, ORIX USA Corporation
More professionals are becoming independent sponsors than
drawn to it because it gives them the ability to drive and direct
ever before.
their destiny. It allows them to tailor strategies and time exits to take advantage of unique market conditions. It provides
“Ten years ago, there were just a couple hundred of us,” said
deal-by-deal economics and does not constrain them with
Richard Baum, co-founder and managing partner, Consumer
limited hold periods. And it allows them to avoid many of the
Growth Partners and an independent sponsor since 2005.
restrictions that weigh upon committed funds.
“Now there are a couple thousand.” The flexibility of the independent sponsor (“IS”) model is The benefits of the model are undeniable. Professionals are
66+51+39+27+22+2
WHY BECOME AN IS?
Why respondents became independent sponsors:
66 %
51%
39%
27%
22%
2%
Flexibility
Desire to sponsor deals
Wanted better economics
Able to participate in upside
Precursor to raising a fund
Other
particularly useful in the current market. As one of our independent sponsor contributors Zubin Avari, managing partner, Charter Oak Equity, noted, “If we had a committed fund, we’d need to deploy capital regardless of where we are in an economic cycle. We’re currently in a frothy market, which means it’s a great time to sell but not to buy. As an independent sponsor, we don’t have to deploy capital on a predetermined timetable.” The model also enables independent sponsors to be opportunistic about the types of investment opportunities they pursue. “We look for value where we can find it, but if we were in a fund, we’d have to limit ourselves to certain types of deals,” Mr. Avari noted. In addition, the model enables principals to sponsor deals and participate in the upside without the limitations of a committed fund.
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As in prior years, the biggest challenge for our independent sponsor respondents is finding deals at attractive valuations (cited by 72 percent). Not surprisingly, younger firms are slightly more likely than older firms to cite other factors - such as remaining viable without an ongoing source of cash flow - as their biggest challenges.
After years spent as an advisor to family offices, Greg Robinson, cofounder and managing partner of RLG Capital, decided to become an independent sponsor. “I realized I was sourcing a lot of opportunities for my clients but couldn’t put my own money in. I wanted to become a principal, and not only an advisor.”
access to capital, the independent sponsor model makes a lot of sense and can offer better economics than a private equity fund,” said Sylvie Gadant, partner, Citrin Cooperman. addition,
funds
with
greater
than $150 million in assets under management
have
considerable
compliance costs that lower returns. The
independent
5+19+3145z 7+73+20z
Do you plan to raise a fund with committed capital? “Younger” Firms (defined as those in existence 5 years or less)
4%
19%
“If you have a good track record and
“In
PLAN TO RAISE A FUND
sponsor
model
avoids those costs while allowing the potential for significant upside. It’s not surprising that the model has become increasingly popular over the last few years.” Even still, many independent sponsor respondents have considered whether to launch a committed fund. Younger firms are more likely to consider raising a fund with committed capital than their older peers.
45%
Yes, within 2 years Yes, eventually No Not Sure
31%
“Older” Firms (defined as those in existence 6 years or more)
20%
7%
Yes, within 2 years Yes, eventually No Not Sure
73%
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Deal Sourcing “Independent sponsors are gaining penetration with boutique and regional investment banks and are considered as credible buyers despite the fact that there’s an abundance of private equity capital available in the market.” – Brian Kerr, Managing Director, Mezzanine and Private Equity, ORIX USA Corporation
Boutique investment banks or business brokers remain
would have met our investment criteria, we reach out to the
the top deal sources for our IS respondents. Other sources
intermediary and ask them to keep us in mind for their next
such as service providers and operating executives lag far
transaction. It is all about staying ‘top of mind’ with them,” Mr.
behind. This breakdown has been similar over the years of the
Avari explained.
Independent Sponsor Report. RLG Capital has some deals that come in through advisors Like many of our respondents, Charter Oak Equity frequently
like investment bankers. “However, those deals tend to be
sources deals from business brokers. “We have an active
heavily shopped, and we don’t want to overspend because we
outreach strategy for brokers which has made a meaningful
know the market is frothy,” said Greg Robinson, Co-founder
difference in terms of the deals we see,” said Zubin Avari,
and managing partner.
managing partner. Mr. Avari agrees. “I think it’s very difficult for an independent “We comb through databases and publications to find brokers
sponsor to win in a competitive auction, and I’m not sure you
who bring one to two deals to market per year. In addition,
really win because you are paying the highest price in a well-
when we see deal announcements on a transaction that
marketed transaction,” he added.
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Some capital providers may also shy away from deals sourced through auction. “We generally prefer to not work with independent sponsors if the deal is shopped by an investment banker, with a few
2019 INDEPENDENT SPONSOR REPORT
DEAL FLOW SOURCES Most significant sources of deal flow:
84%
exceptions,” noted Gretchen Perkins, Partner, Huron Capital Partners. “From our perspective, our work with independent sponsors has the best chance of being successful when the situation involves an opportunity that hasn’t been broadly
34% 31% 28% 25% 24%
shopped,” she added. Given these factors, it is not surprising that many of our
8%
contributors emphasized the value of proprietary sourcing.
7%
Proprietary deals also often command better economics. “You will get better terms for a deal if it’s truly proprietary because then it’s an asset you control,” said Richard Baum, cofounder and managing partner, Consumer Growth Partners.
Boutique investment banks
Service providers
Company owners/managers Industry research/cold calling
Some independent sponsors find proprietary deals by working
Operating executives
Regional/national banks
closely with company owners or management long before a
P/E firms
Other
sale. For example, at RLG Capital, deal sourcing often comes through
raise the necessary capital.
concerted relationship development with CEOs, whether or not the company is for sale. RLG Capital may take an unpaid
Our IS respondents review a large number of investment
advisory board position and advise the CEO over several years.
opportunities in a typical year, more so than in years past. Fifty-
“If the company develops a strategy that we can help execute,
two percent of this year’s IS respondents say they review over
it might turn into a natural conversation about a sale,” said Mr.
100 investment opportunities in a typical year, whereas last
Robinson.
year only 41 percent said they typically reviewed that many.
Consumer Growth Partners provides advisory services to
Respondents continue to be selective about the opportunities
several clients on strategy, performance improvement and
they pursue, with nearly three-quarters submitting 10 or fewer
competitive positioning in addition to pursuing traditional
IOIs. Fifty-seven percent enter into one or two LOIs in a typical
independent sponsor deals. All of the firm’s advisory clients
year.
have a transaction in mind down the road, at which point the firm can put on its independent sponsor hat and help the client
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What Types of Deals are Independent Sponsors Looking For? For independent sponsors, selection criteria for deals varies
creation,” not merely implementing a roll-up strategy. “We
significantly.
are targeting good, solid, American businesses,” noted Dean Emmerton, co-founder and managing partner. “We are
“Given intense competition for deals, many independent
not targeting the highest growth opportunities, but we are
sponsors are looking for deals that aren’t perfect, deals with
taking them from flat to two percent, five percent or even 10
some hair on them,” said Sylvie Gadant, Citrin Cooperman.
percent growth,” he added.
Others are seeking different types of transactions. “Our goal
“At RLG Capital, we’re able to do a deal at more than 8x EBITDA,
is to look for opportunities where we can create value or a
but we’ve never spent more than 6.5x,” said Greg Robinson,
value story that isn’t being well articulated,” explained Zubin
founder and managing partner. “We also like to invest closer
Avari, Charter Oak Equity.
to home [in Utah], rather than seeking out international opportunities which are expensive, require considerable
Emko Capital is looking for deals that allow “organic value
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travel and involve so many factors out of your control.”
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2019 INDEPENDENT SPONSOR REPORT
In each year we have conducted this survey, the number one
diligence,” said Sylvie Gadant, partner, Citrin Cooperman. “We
reason why transactions do not close is because of due diligence
seldom just confirm the acquisition target’s revenue, earnings
findings or concerns about deal fundamentals (cited by 79
and working capital levels. More often than not, we discover
percent of this year’s respondents). A little less than half of
issues during due diligence that negatively impact the proposed
respondents cite significant changes to financial performance
purchase price. Revenue recognition, inventory valuation, sales
post-LOI and the seller choosing to retain the company as the
tax compliance, and state nexus are usually on the top of the
next most frequent reasons why deals do not close.
list of culprits. Sellers should consider retaining a CPA firm to conduct a sell-side due diligence review to avoid surprises after
“Oftentimes we perform exploratory due diligence on
they go to market,” she advised.
independent sponsor deals instead of confirmatory due
TRANSACTIONS CLOSED TO DATE
Transactions anticipated to close in the next 18 months:
Transactions closed as an independent sponsor: # CLOSED
NONE
18-MONTH OUTLOOK
1-2
3-5
6-10
>10
# CLOSED
NONE
1-2
3-4
>5
PLATFORMS
15%
29%
34%
12%
11%
PLATFORMS
2%
84%
13%
1%
ADD-ONS
40%
21%
22%
8%
10%
ADD-ONS
20%
59%
13%
8%
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2019 INDEPENDENT SPONSOR REPORT
Do Independent Sponsors Need to Specialize? Through the years of the Independent Sponsor Report, respondents and contributors have been divided over the question of whether specialization is important for independent sponsors. The debate continues this year. “There are many independent sponsors who are generalists, but as a generalist, you may bring less value to a capital provider and may get less favorable economic terms,” explained Richard Baum, Consumer Growth Partners. “We aren’t looking for our independent sponsor partners to be experts in the art of performing the transaction closing mechanics,” said Gretchen Perkins, Huron Capital Partners. “It’s far more valuable when they bring industry or operations experience and connections or if they bring with them someone to be CEO or chair the board who has long-term knowledge and experience in that industry. We are looking for an independent sponsor who can help share the load of actually managing the company, and in those instances it may make sense to share economics,” she added. ORIX USA Corporation’s Mezzanine and Private Equity Group is market agnostic, investing in transactions spanning diverse industries. “We rely on our independent sponsor partners to deliver expertise relative to our investment,” said Brian Kerr, managing director. “We are looking for partners who bring operational expertise, domain knowledge or private equity experience with a similar asset or a similar business model.” For those independent sponsors who are generalists, a successful model can take different forms. Charter Oak Equity is a generalist, as they have a broad skill set and a long, successful track record. “We augment our skill set with specialists when required,” noted Zubin Avari, managing partner. “Independent sponsors don’t need to be specialists,” noted Evan Gallinson, managing director, Merit Capital Partners. “Most of the independent sponsors I see come from a lot of different industries and find an executive with industry knowledge. For us, the differentiator is really whether the price is attractive. In some industries like aerospace you may need specialized expertise, but in many of the ones we focus on – like manufacturing or distribution – it’s harder to require specialized expertise.”
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CASE STUDY: Third Time’s the Charm The private equity firm Huron Capital had been approached
“We brought in an operating partner with deep industry expertise
twice to buy InterVision, a company that provides IT solutions,
and we built trust with the company founders who wanted a
infrastructure and services for the cloud ecosystem.
buyer that would take the company in a direction they agreed with and not fire employees,” said Greg Robinson, co-founder
“We historically have not been big IT investors,” noted Gretchen
and managing partner, RLG Capital. The IS firm won exclusivity
Perkins, partner, Huron Capital, and so the firm passed on
and then approached Huron Capital.
the investment twice: first when it was brought by a sell-side investment banker, as Huron didn’t have the resident knowledge
“When RLG Capital approached us, we were confident that we
and experience in the space, and then again when it was
could have a successful investment working with them because
brought by another source, for the same reason. Both times, the
they brought tactical expertise, knowledge and connections,”
people who brought the deal lacked domain knowledge and an
said Gretchen Perkins.
operating partner. The deal closed in 2016 (and at the time of close, RLG Capital The third time, the independent sponsor firm RLG Capital
split into two entities, RLG Capital and Bridger Capital). There
approached Huron Capital. InterVision would be the second
have been five add-ons since then.
leveraged buyout for RLG Capital (and the fifth portfolio company the firm invested in).
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Capital Sourcing The top capital sources for independent sponsor respondents are family offices, high net worth individuals and mezzanine funds that co-invest. Younger firms are likely to rely more heavily on high net worth individuals than their older peers. Older firms are more likely to rely on mezzanine funds, buyout and one-stop funds than their younger peers.
CAPITAL SOURCES BY FIRM LONGEVITY
71%
68%
57% 57%
48% 45% 45%
43% 29% 29%
35% 19%
14% Less than 1 year
6% 6%
1-2 years
72% 56%
13% 10%
61% 59% 44%
46% 33%
26%
21%
15%
10%
5%
3-5 years
39%
34% 30%
21% 7% 7 % 4 %
Over 5 years
Family office
“Mequity” funds (mezzanine funds that co-invest)
High net worth individuals
SBIC funds
Buyout funds
“One-stop” funds that underwrite all the debt and equity
Own funds
BDCs
Institutional investors (pension funds, insurance companies, etc.)
Other
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Many IS respondents and contributors noted that their choice of
2019 INDEPENDENT SPONSOR REPORT
on the deal itself,” explained Zubin Avari, managing partner.
capital provider is often deal-dependent. While Charter Oak Equity has done a deal with a large family office For RLG Capital, the type of transaction dictates which capital
that has a track record of doing deals and an institutionalized
provider the firm approaches. If the firm plans to retain control
investment process, the firm is wary of partnering with a
of the portfolio company, they will bring in a family office. “One
funding source that has not done several deals in the past, Mr.
of the advantages of working with a family office is they don’t
Avari explained.
want to be hands on, and we can take all or almost all of the management fee and have an active board role,” explained Greg Robinson. However, if growth is part of the investment thesis, the firm will partner with a private equity fund that will often have a control position. “We will source and structure the deal and develop debt options, but the private equity fund will often be the control investor,” explained Mr. Robinson. For smaller deals, the firm will retain a controlling interest, use more leverage and put up all the equity themselves. “It allows us to stay invested for as long as we need to which gives us considerable flexibility,” he added.
Emko Capital’s first independent sponsor transaction was funded by ORIX USA Corporation’s Mezzanine and Private
Other firms rely on mezzanine funds or SBICs.
Equity Group (which invests its own balance sheet capital in junior debt and equity financing options for lower mid to mid-
Mezz equity funds are a good fit for Consumer Growth Partners
market companies throughout North America), with smaller
because they enable the firm to purchase a controlling interest
investments from family offices and high net worth individuals.
or the whole company, with a capital structure of one-third
As a new independent sponsor, Emko Capital looks for “passive
equity and two-thirds debt. “These funds are very resource-
LPs who allow us to be hands on and who are patient capital,
constrained so we can bring them specialized expertise and
not those who are looking for a quick turnaround and exit,”
serve as an extension of their resources,” noted Richard Baum,
explained Dean Emmerton, managing partner.
co-founder and managing partner. “They also generally can’t take management fees so there’s no required split.”
Going forward, Emko Capital plans to migrate to a pre-selected group of capital providers that are family offices and groups
Charter Oak Equity has sourced capital from private equity funds,
like ORIX USA Corporation.
mezzanine funds, high net worth individuals, family offices and hybrid funds that only work with independent sponsors.
“We don’t want to pass the hat a thousand times. That would
“Hybrid funds analyze independent sponsors like an LP would,
take a lot of brain power and resources to manage,” added Mr.
conducting more diligence on the independent sponsor and less
Emmerton.
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HIGH-NET-
SBIC & MEZZ
WORTH
BUYOUT
FUNDS THAT
FAMILY OFFICE
INDIVIDUALS
FUNDS
CO-INVEST
entive to do deals/appetite for risk
1,567
1,567
1,026
1,768
additional capital needed for the transaction
1,567
1,567
1,026
1,768
ho controls investment
1,567
1,567
1,026
1,768
me company with long title metrics here
1,567
1,567
1,026
1,768
me company metrics here
1,567
1,567
1,026
1,768
me company with long title metrics here
1,567
1,567
1,026
1,768
me company metrics here
1,567
1,567
1,026
1,768
me company with long title metrics here
1,567
1,567
1,026
1,768
me company metrics here
1,567
1,567
1,026
1,768
me company with long title metrics here
1,567
1,567
1,026
1,768
me company metrics here
1,567
1,567
1,026
1,768
me company with long title metrics here
1,567
1,567
1,026
1,768
me company metrics here
1,567
1,567
1,026
1,768
NARIO
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CAPITAL PROVIDER ANALYSIS Please note that the below are generalizations and do not apply to every provider or transaction.
By the Numbers: IS Relationships with Capital Providers Of our independent sponsor respondents: •
41% have closed transactions where it was the first independent sponsor transaction for their equity funding source.
•
63% often use repeat funding relationships.
•
42% introduce an opportunity to their potential equity co-investor post-LOI, after they have exclusivity. 36% introduce the opportunity after the management presentation, pre-LOI.
•
65% typically serve as lead sponsor managing portfolio companies. 16% share sponsor duties with lead investor.
•
On the company board, 84% of IS receive the first call from management compared to their capital partner. 8% share responsibilities.
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Broken Deal Costs
31+26+19+17+4+3
COVERING BROKEN DEAL COSTS
PAYING FOR BROKEN DEAL COSTS
What is your typical arrangement for covering broken deal
If you pay for broken deal costs, how do you pay your share?
costs with your equity funding source?
31%
26%
19%
60%
17%
4%
14%
3%
10%
7%
4%
3%
1%
IS covers broken deal costs
I pay with my own funds (service providers discount
IS covers broken deal costs prior to partnering with
their fees)
the equity funding source and equity funding source
Service providers roll fees into the next deal
covers broken deal costs thereafter IS and equity funding source share broken deal costs Equity funding source covers broken deal costs Other Target company agrees to cover some of the broken deal costs in the event the target company cancels the deal
I pay with my own funds (no discounts provided by service providers) N/A (I don’t pay for broken deal costs) Other 100% contingent fee arrangement with service providers The portfolio company pays for broken deal costs
When a deal falls apart, most of our IS respondents bear at
“Funded sponsors rarely pay for costs incurred prior to their
least some of the costs. Thirty-one percent cover costs in all
involvement in a transaction, but they do often share costs once
scenarios. Twenty-six percent cover broken deal costs prior
they are involved,” said Sylvie Gadant, partner, Citrin Cooperman.
partnering with their equity funding source but the equity
“Division of broken deal costs often varies based upon the
funding source covers thereafter. In 19 percent of cases, costs
funding source. Private equity firms are more likely to share or
are shared. These findings do not vary significantly by firm
bear the burden, but others such as family offices don’t want to
longevity.
do a capital call just for transaction costs.”
Most independent sponsors (60 percent) pay for broken deal
“Years ago we asked our independent sponsor partners to pay
costs with their own funds, and in most of these cases, service
travel and their attorney fees, and we picked and paid for the
providers discount their fees.
diligence providers,” explained Evan Gallinson, Merit Capital
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Partners. “But now many independent sponsors are taking a
“We push back on broken deal costs during negotiations if an
more active role in leading diligence and want to pick their
equity funding source wants us to cover them,” said Richard
diligence providers. In those cases, we ask them to share
Baum, Consumer Growth Partners. “As an independent
the costs because we don’t have a relationship with the due
sponsor, we don’t have any funds earmarked for broken
diligence firm and can’t negotiate with them.”
deal costs. However, part of funded sponsors’ annual GP management fee is earmarked for such costs, and, as such,
However, some independent sponsors take a hard line on
we think they should pay most, if not all, of them.”
broken deal costs. “Broken deal costs are important to us,” said Zubin Avari, Charter Oak Equity. “We ask our capital partners to foot the preponderance of them. If we do share them, we argue that we should pay a small share because, if we split them 50/50, then the incentive is for us to do a deal regardless of diligence issues. That doesn’t align anyone’s interests.”
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Deal Economics In prior years of this Report, we noted the variation in deal
interest – in greater detail than ever before, with the hope
economics, in terms of how fees and carried interest are
of providing additional benchmarks and guidance to both
determined, as well as what percentages and absolute
independent sponsors and capital providers.
numbers are at play. In the area of closing fees, we found the greatest This variation was – and is still – driven by several factors,
standardization (typically two percent of enterprise value),
including the fact that economics are negotiated on a deal-
with some variation in whether those fees are rolled into equity.
by-deal basis, the type of capital providers involved in a
Management fees have greater variation, often dictated by the
transaction (and how many) and the size of the investment.
type of capital provider. Carry remains the “Wild West” of IS
In addition, many respondents and contributors noted that
economics, with considerable variation in percentages, basis
proprietary deals, specialized expertise and solid track
for hurdles and catch-up provisions.
records can also improve independent sponsors’ economics. This year, we examine the three types of independent sponsor compensation – closing fees, management fees and carried
“Over a decade ago, we spent the majority of our time convincing capital providers of the independent sponsor business model. And then we used to have a long negotiation about each aspect of economics. Now there’s more standardization and the market has a better idea what to expect.” – Zubin Avari, Managing Partner, Charter Oak Equity
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Equity Contributions: A Snapshot EQUITY CONTRIBUTIONS
CONTRIBUTED CAPITAL SOURCE
61+35+4B 49+5+406B 12+24+27101314B 57++201B22
Are you typically required to contribute equity by your capital
When you contribute capital, where does the money come from?
provider?
6%
4%
40%
35%
49%
61%
5%
Yes, always
Yes, sometimes
Contribute own funds
Raise equity from other investors
No, never
Roll closing fees into equity
Other
EQUITY PARTICIPATION AT CLOSE
EQUITY VESTING PERIOD
What is your firmâ&#x20AC;&#x2122;s typical equity participation on the closing date?
14%
When does your equity vest?
12%
1%
20%
1 3%
24%
57%
22%
10%
27%
2-5%
100% upon closing
6-10%
11-15%
Tiered vesting based on
16-20%
>20%
the performance
<2%
After equity sponsors receive predetermined return
Other
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Closing Fees Closing fees are most often a percentage of transaction value,
firms may really need this cash. We’re happy to roll over
typically two percent of enterprise value, for the majority of IS
a portion of our closing fee but reluctant to roll all of it,
respondents. As a dollar amount, nearly half of IS respondents
especially if it’s a proprietary deal.”
receive $251,000 to $500,000. ORIX USA Corporation expects its independent sponsor Thirty-eight percent of IS respondents always roll a portion
partners to bring some amount of outside capital and roll
of their closing fee into equity. Twenty-six percent always roll
closing fees into equity. “Independent sponsors should want
their full closing fee into equity. There were no substantial
to put their own capital into the deals they say they believe in,”
variations in these percentages based upon firm longevity.
explained Brian Kerr, managing director.
“If independent sponsors fully roll their closing fee into equity, they are giving up an important bucket of cash compensation,” noted Richard Baum, Consumer Growth Partners. “Younger
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CITRIN COOPERMAN
2019 INDEPENDENT SPONSOR REPORT
CLOSING FEE CALCULATION
21+66+265B 7+30+4815B 1+10+539324B 26++19143B38
How is your closing fee typically calculated?
2%
TYPICAL CLOSING FEE
6% 5%
How much is your typical closing fee?
15%
21%
7%
30%
48%
66%
Flat number
% of transaction value
No closing fee, but greater management fee in year 1
<$100,000
$101,000-$250,000
$251,000-$500,000
>$500,000
Other
No closing fee
ENTERPRISE VALUE PERCENTAGE
If your closing fee is a percentage of enterprise value, what is it?
ROLLING CLOSE FEE INTO EQUITY
Do you typically roll your closing fee into equity?
1%
24%
3%
10%
14%
3%
26%
19%
9%
53%
38%
<1% 2% >3%
1%
Always in full
Always a portion
3%
Sometimes
Never
N/A
Other
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Management Fees For over 40 percent of IS respondents, their annual management
“I believe independent sponsors should get closing and
fee is typically a percentage of EBITDA (five percent for nearly
management fees,” advised Brian Kerr, managing director.
half of respondents) with a floor and a cap. As a dollar amount,
ORIX USA Corporation. “We expect our independent sponsor
the fee typically ranges between $101,000 to $500,000.
partners to act as private equity groups, with that level of
Variation in management fees tends to be driven by the type of capital provider. Family offices, high net worth individuals,
professionalism. We want them to commit their resources and spend significant time managing the investment.”
mezz funds, SBICs and other passive LPs typically allow
“We don’t want an independent sponsor diverting its focus
independent sponsors to take a full management fee but may
from our investment team because they aren’t earning enough
include a floor and a cap.
in a management fee,” added Mr. Kerr. “Even in instances
For private equity funds that take management fees themselves, they often require independent sponsors to split the management fees. “Management fee negotiations with private equity groups can be more contentious because they often take a management fee themselves and view it as a fixed pie to split with an independent sponsor,” explained Dean Emmerton, Emko Capital.
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where we are very involved, we have never sought to share the management fee.” After years of LP pressure, some private equity firms no longer take management fees at the portfolio company level and therefore do not want independent sponsors to take such fees either.
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2019 INDEPENDENT SPONSOR REPORT
MANAGEMENT FEE CALCULATION
4 2%
18%
15%
EBITDA PERCENTAGE
11%
Flat number with escalations
% of EBITDA with no floor and no cap
Other
Flat number
% of EBITDA with floor and cap
% of EBITDA with floor but no cap
How is your annual management fee typically calculated?
9%
5%
TYPICAL MANAGEMENT FEE
7+6+491220B 5+46+432B
If your annual management fee is typically a percentage of EBITDA, what is that percentage?
20%
What is your typical management fee?
2%
7%
5%
6%
6%
12%
43%
49%
0% at 1% or less
2% 4% 6%
46%
3%
<$100,000
$101,000-$250,000
5%
$251,000-$500,000
>$500,000
N/A
N/A (have not closed deals)
N/A (no management fee)
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Carried Interest Independent sponsor economics are like the Wild West. Terms often vary based upon type of capital provider, but in terms of carry, in many cases, there are significant variations with no rhyme or reason.” – Dean Emmerton, Managing Partner, Emko Capital
Carried interest is the area of IS compensation with the
Several contributors and respondents noted that philosophies
greatest variability. Its range varies, with minimum carried
on carry have changed over the years.
interest most often between 10 and 24.9 percent and maximum most often at 20 percent or more. Sixty-one percent use full catch up provisions, and twenty-two percent do not use catch ups. IS respondents are somewhat more likely to use IRR (internal rate of return) than MOIC (multiple on invested capital) as the basis for a hurdle rate, which is most often between 8 to 9.9 percent. For those IS transactions with potentially longer hold periods, a MOIC hurdle can allow more flexibility.
“Years ago, it was somewhat normal course to get 20% carry after a return of capital and a modest 8% preferred, but, in today’s market, on the size deals we are looking at, the carry is likely to step up as return thresholds are realized,” noted Mr. Kerr. “Some independent sponsors are pushing for additional carry, but there are limitations to what the market will bear,” he added. Gretchen Perkins of Huron Capital agrees. “I think there is a cap on what independent sponsors can expect to earn in
“If we are not in a control position on the investment and
transactions. There’s only so much equity to go around. For
want to stay in a deal longer, it’s harder to hit our hurdles if
most private equity firms and family offices, we want the
we are using IRR and so we prefer using an MOIC structure,”
actual managers of the business to get most of the extra
explained Greg Robinson, RLG Capital.
equity because we want to align incentives so they benefit
Dean Emmerton of Emko Capital agrees. “We want to be based more on cash on cash returns and not IRR because the latter creates time pressures that may not fit the types of deals we do. We want the economics on the back end to be worth it.” ORIX USA Corporation’s Mezzanine and Private Equity Group builds its economics around MOIC and not IRR, says Brian Kerr. “IRR matters, but we’ve always structured the IS carry thresholds based on MOIC.” Merit Capital tends to use IRR but takes into account the time factor so they also use a combination of both IRR and MOIC, explained Evan Gallinson.
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from the equity value they create,” she advised. “We hope the additional skills and experience of the independent sponsor create an opportunity to drive above-market performance, and so we tier the economics to increase as performance increases. Said another way, they can get a bigger percentage of the pie as they help us grow the size of the pie.” “I think independent sponsors have a meaningfully larger percentage of the pie today than they have had in the past as the market has become more professionalized and evolved, and the sponsors themselves have become much more additive,” Ms. Perkins stated. “I think all of these developments are good for the market and good for the underlying companies.”
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2019 INDEPENDENT SPONSOR REPORT
MINIMUM CARRIED INTEREST
MAXIMUM CARRIED INTEREST
5+10+33182923B 1+3+114537B 12+39+27166B 8++1958536B1
What is the minimum amount of carried interest you can receive
What is the maximum amount of carried interest you can receive
on a typical deal?
on a typical deal?
3%
2%
1%
3% 3%
5%
11%
9%
37%
29%
33%
0% at <5%
18%
<5%
45%
5-9.9%
5-9.9%
10-14.9%
10-14.9%
15-19.9%
15-19.9%
20-24.9%
20-24.9%
25% or more
25% or more
N/A
N/A
HURDLE BASIS
HURDLE RATE
Which basis do you use as your hurdle?
What is the typical hurdle rate before carried interest kicks in?
3%
6%
16%
12%
5%
6%
1%
8%
19%
40%
27%
58%
No hurdle
IRR
No hurdle rate
>5%
MOIC
Combination: IRR & MOIC
5-7.9%
8-9.9%
10-11.9%
12% or more
Other
N/A 29
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2019 INDEPENDENT SPONSOR REPORT
CATCH UP PROVISIONS
61+17+22B Do you typically use catch up provisions?
22%
17%
Yes, in full Yes, in part No
61%
Sample Independent Sponsor Carried Interest Below are some of the most common carried interest arrangements used by our IS respondents: IRR - BASED
IRR & MOIC-BASED
•
10% carry after 8% preferred return
•
•
13% carry after 8% preferred return with full catchup
•
15% carry with 8% preferred return
•
20% carry with 5% minimum return
•
20% carry with 8% preferred return, then 50-80% catchup for sponsor, then 20% carry
10% carry after 8% IRR, additional 5% after 2.5x MOIC and additional 5% after 3x MOIC
•
10% after 8% preferred return, 15% after 2x MOIC, 17.5 after 2.5x, 20% after 3x with full catchup at each hurdle
•
10% after 8% preferred return, 20% after 2x MOIC, 25% after 3x MOIC, 30% after 5x MOIC
•
20% for 3x, 25% for 3-4x, 30% for 4x+, with 8% hurdle with a catchup
•
25% carried interest, subject to preferred return equal to the greater of 15% IRR or 2x MOIC
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Looking Forward Near-Term Outlook for Deal Environment
35+17+48B 17+42+41B
CAPITAL SOURCING
EXIT ENVIRONMENT
Over the next 18 months, I believe capital sourcing will be:
Over the next 18 months, I believe the exit environment will be:
17%
35%
41%
48%
28+29+43+B
42%
17%
More competitive for independent sponsors
More favorable for portfolio companies
Less competitive for independent sponsors
Less favorable for portfolio companies
About the same
About the same
TARGET COMPANY VALUATION
Over the next 18 months, I believe target company valuations will be:
44%
28 %
32
29%
More attractive for independent sponsors Less attractive for independent sponsors About the same
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2019 INDEPENDENT SPONSOR REPORT
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2019 INDEPENDENT SPONSOR REPORT
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Outlook: Anticipating an Eventual Recession
“An eventual recession will undoubtedly impact independent sponsors, causing deal flow, increased competition and perhaps a winnowing out of less experienced or less successful independent sponsors.” – Sylvie Gadant, Partner, Citrin Cooperman
Nearly half (47 percent) of our independent sponsor respondents
In addition, the dwindling supply of companies will have a
expect the next recession will happen in the United States after
significant impact on the deal market.
2020. Thirty-one percent expect it will happen in 2020.
“Many businesses will decline or stagnate because of economic
Regardless of the exact timing, independent sponsors are
conditions and business owners will not want to sell at lower
currently entering transactions with this prospect in mind.
multiples,” advised Gretchen Perkins, Huron Capital. “The
As one independent sponsor respondent noted, as the “risk of recession steadily increase[s], deals done in this window will be very risky because of the high purchase price right before entering a downturn.” Several respondents and contributors noted they expect valuations will continue to remain high, even after a market correction and tightening of credit markets, given the amount of dry powder that will need to be deployed. Greg Robinson of RLG Capital anticipates that a frothy market will cause funds to take a break for a year or two which will
number of companies for sale or seeking capital will decline and therefore deal flow, deals done and dollars deployed will also decline.” “Less supply of deals is not good for independent sponsors because it is much harder to compete for deals when there are fewer around,” added Richard Baum, Consumer Growth Partners. However, for those independent sponsors with a good track record and strong relationships with capital providers, some believe the landscape will not change significantly.
mean fewer capital sources available. “We’re seeing it even
“Keep in mind the IS model wasn’t as prominent in the last
now, with some funds avoiding new platform investments
major recession,” stated Brian Kerr. “As it pertains to new
because they don’t want to overpay and instead just doing add-
investments, there may be some bias from lenders to work with
ons,” he observed.
funded groups, but I believe an IS with right capital partner
Other forces will also be at work. “With the exception of distressed opportunities, in a recession, good deals become scarcer and need more equity because the lending market contracts. Funded groups may come down-market since they have to deploy capital and that can also increase competition for traditionally marketed deals. I expect during these times independent sponsors that have been sourcing deals outside of processes will continue to find opportunities,” said Brian Kerr, ORIX USA Corporation.
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can mitigate that. Operationally I’d like to think that with fewer portfolio companies, independent sponsors will be able to move nimbly and work closely with the company management teams.”
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2019 INDEPENDENT SPONSOR REPORT
“In a recession, deal volume will go down, but I think independent sponsors will still do okay. When there’s a bit of chaos out there, independent sponsors can find unique opportunities.” - Evan Gallinson, Managing Director, Merit Capital Partners
“Even in a recession, there will be opportunities well-suited to independent sponsors. Many small and mid-sized companies will continue to have room for growth and increased profitability. Others will tap out at certain levels of sales and not know how to scale. These needs won’t disappear in a recession. And for these types of companies, independent sponsors can bring the expertise, strategy and oversight needed to grow and scale.” – Sylvie Gadant, Partner, Citrin Cooperman
“Given the proliferation of independent sponsor firms, the flexibility the model offers investors and increased professionalization of the field, I believe capital will be targeting this business model, even in a recession. I think the independent sponsor model will endure.” – Brian Kerr, Managing Director, Mezzanine and Private Equity, ORIX USA Corporation
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2019 INDEPENDENT SPONSOR REPORT
Closing Thoughts The goal of our first Independent Sponsor Report in 2017 was to shed a light on a sector which, as one of our external contributors described, was the “Wild West” of private equity. Back then, the independent sponsor space was a largely unchartered landscape, one without a playbook. In the years since, the sector has continued to evolve, with the model increasing in popularity and sponsors becoming more accepted by company owners and capital providers. There has been greater standardization in certain economic terms, such as closing and management fees, and less in areas like broken deal costs and carried interest. We have been happy to witness this evolution, both through our own dealings in the space and through this Report. And it is our hope that this Report will continue to serve as a playbook for those transacting business in the space, whether they are new entrants or established players. As we’ve seen through the years, independent sponsors are highly adaptable, cleverly opportunistic and often fearless. The independent sponsor model is here to stay, and we think its future is bright.
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About our Contributors Sylvie Gadant, Partner, Citrin Cooperman | (O) 973-218-0500 | sgadant@citrincooperman.com Sylvie Gadant is a partner with Citrin Cooperman’s Private Equity and Capital Markets Practice and is the Transaction Advisory Services (TAS) practice leader. She coordinates and leads buy and sell-side due diligence engagements for private equity firms, independent sponsors, family offices, and strategic buyers. Prior to joining Citrin Cooperman, Sylvie was the principal-in-charge of the TAS practice at a Top 20 national accounting firm, where she also spent more than 10 years in its audit and advisory practices. Learn more at: www.citrincooperman.com Zubin Avari, Managing Partner, Charter Oak Equity | (O) 203.221.4752 | zavari@charteroak-equity.com Zubin Avari has been with Charter Oak Equity and its predecessor fund since 1998. He serves on the boards of Seaboard Folding Box and Licaplast, and is a member of the Financial Accounting Standards Board’s Private Company Council. In his tenure at Charter Oak Equity, Zubin has served various operational roles at portfolio companies including executive chairman and interim CFO. Prior to joining Charter Oak Equity, he spent three years at Crowe Chizek (now Crowe Horwath). Learn more at: www.charteroak-equity.com
INDEPENDENT SPONSORS
Richard Baum, Managing Partner, Consumer Growth Partners | (O) 914-220-8337 | rbaum@consumergrowth.com Richard Baum co-founded Consumer Growth Partners (CGP) in 2005 as an investment and advisory firm with an exclusive focus on the retail and branded consumer products sectors. CGP is typically the first institutional investor in a company, but also serves as a primary business advisor to companies contemplating a capital transaction over a one- to three-year timeframe. Prior to co-founding CGP, Richard spent many years as one of Wall Street’s leading equity research analysts covering specialty retail. Learn more at: www.consumergrowth.com Dean Emmerton, Managing Partner, Emko Capital | (O) 215.356.4003 | dean.emmerton@emkocapital.com Dean Emmerton is a co-founder of Emko Capital, an industrial-focused private equity group where he leads the industrial investment efforts. Previously, he was an associate partner at McKinsey & Company focused on B2B Sales & Marketing in Industrials and Aerospace, and a manufacturing engineer for specialty chemicals and plastics at Milliken & Company and Celgard, LLC. Dean holds an MBA from Harvard Business School and a BS in Chemical Engineering from the University of South Carolina. Learn more at: www.emkocapital.com Josh Kowitt, Managing Partner, Emko Capital | (O) 215.356.4003 | josh.kowitt@emkocapital.com Josh Kowitt is a co-founder of Emko Capital, an industrial-focused private equity group. Prior to founding Emko Capital, he was an associate partner at McKinsey & Company where he led aviation, airports, and aerospace client service. Before McKinsey, Josh founded and sold multiple businesses, including Collegeboxes which is now owned by U-Haul. Josh holds an MBA from The Wharton School, and a BA from Washington University in St. Louis. Learn more at: www.emkocapital.com
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Greg Robinson, Managing Partner, RLG Capital | (O) 435.565.1272 | greg@rlgcap.com Greg Robinson has over 30 years of business experience as a management consultant, entrepreneur/CEO, wealth advisor, and private equity investor. As a management consultant at Bain & Company, McKinsey & Company, Price Waterhouse and EHS Partners, he advised corporate clients on matters of strategic and operational significance to improve business performance and profitability. Greg co-founded RLG Capital in November 2013, where he and his partners have closed on investments in 16 companies. Learn more at: www.rlgcap.com .citrincooperman.com Evan R. Gallinson, Managing Director, Merit Capital Partners | (O) 312.592.6114 | egallinson@meritcapital.com Evan Gallinson joined Merit in 2005. Evan previously worked in investment banking with BMO Capital, William Blair & Company, and PriceWaterhouseCoopers, where he focused on mergers and acquisitions advisor work for middle market companies in a variety of industries. Evan received an M.B.A. from Northwestern University’s Kellogg
CAPITAL PROVIDERS
School of Management in 2002 with a concentration in finance. In 1997, he received a B.B.A. from the University of Michigan with a concentration in finance and accounting. Learn more at: www.meritcapital.com Brian Kerr, Managing Director, ORIX Mezzanine & Private equity | (O) 610.937.0443 | bkerr@orix.com Brian Kerr has spent 19 years working with lower middle market corporations and entrepreneurs on financial and strategic projects, including balance sheet recapitalizations, debt and equity alternatives, leveraged buyouts, and mergers and acquisitions. Prior to joining ORIX USA, Brian was the founder of Clairemont Capital Group, a lower middle market private investment firm. Before forming Clairemont Capital Group, Brian was a managing director at Cornerstone Capital Holdings and Penn Mezzanine. Learn more at: www.orix.com Gretchen Perkins, Partner, Huron Capital | (D) 313-962-5806 | gperkins@huroncapital.com Gretchen Perkins has over 30 years’ experience in the finance and business development sectors serving a variety of capital market participants. Prior to joining Huron Capital, Gretchen led the acquisition sourcing efforts at Long Point Capital, a middle market private equity fund. Gretchen also served as Vice President – Business Development for IRN, Inc., a market research firm, and has held senior business development positions at Fleet Capital Corporation and GE Capital Corporation. Learn more at www.huroncapital.com ABOUT THE WRITER: Melissa McClenaghan Martin President, M3 Strategic Alliances | (O) 917-715-8909 | melissa@m3strategicalliances.com Melissa advises firms on the creation of business development, thought leadership and women’s initiative opportunities that increase firms’ visibility, reach and revenue. Melissa has 20 years of experience working with financial services firms, and her thought leadership and consulting span various sectors including private equity, hedge funds, venture capital and real estate. Learn more at: www.m3strategicalliances.com
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Thank You Thank you for taking the time to read through this report. We hope that you found the information valuable and insightful. If there is anything you would like us to include in next year’s report or if you have any questions, please contact Sylvie at sgadant@citrincooperman.com.
REPORT ISSUED BY
CONTACT INFO
SYLVIE GADANT
T: 973.218.0500
Partner – Transaction Advisory Services
E: sgadant@citrincooperman.com