There are more and more cases of business owners who are not ready to sell their businesses, yet would like to take some risk and liquidity off the table. The good news is that there are ways to achieve this objective without giving up control of your company.
If your company has a rock solid balance sheet, you may be able to fully accomplish this goal with senior debt. If the company is not levered and maintains a lot of equity, many banks will allow owners to lever the business and take out the funds. There are other issues to consider with this strategy, mostly involving the shareholders’ tax basis and the ability to distribute funds without tax friction. So as long as your company has plenty of room to service the debt, this can be a viable strategy.
You can also consider selling a minority stake in the company to an outside investor such as a private equity group (PEG) or a business development company (BDC). In recent years, these types of minority investments have become more prevalent. The amount of private funding available has ballooned while the number of opportunities to deploy the capital has decreased. As a result, there are far more investors willing to take minority positons in well-run businesses. The key with this strategy is to find an investor who fits well with your company and will be a good partner. This is a critical issue because choosing the wrong partner can wreak havoc on your business and the lives of its shareholders. This option will also come at a much higher cost of capital than senior debt.
There are a few differences between a PEG and a BDC. A PEG is a private fund that has raised money from investors and has a finite life. It has to return the capital to its investors, so it has a specific window of time to make investments and cash them out. Therefore, a PEG has a short- to medium-term time horizon for its investment. In contrast, a BDC is usually a publicly-traded company that has permanent capital. It typically has a longer time horizon, as long as the invested capital is providing a rate of return commensurate with the risk that allows it to meet its earnings objectives.
No matter which course you choose, senior debt and minority equity can be very complex strategies and they require thoughtful planning and consideration. You also need to be sure your chosen strategy fits into the bigger picture of your exit and transfer plan.