Quick Question for Experienced PE Investors!
If I receive a term sheet from an investor in which they are offering 20M growth capital in exchange for 49% ownership .
- 20M sponsor check 49% ownership
- 21M rollover equity 51% ownership
- Post-Money Valuation = 41M
- Pre-Money Valuation = 21M (20M cash to BS)
Now, if the term sheet states that the investor will bear its own expenses, including attorneys, diligence advisors, etc. Then, shouldn't the investor's transaction expenses have no impact on the deal? What I mean by that is...when it comes time to do the funds flow and sources & uses......if the investor has 2M of buyer transaction expenses, and that requires them to fund 22M to close the deal instead of 20M .....isn't it negatively impacting the seller in the deal if you allow the investor's transaction expenses to affect the pro forma ownership (where now the investor has 51% instead of 49%)??
Further, I've seen in some cases where equity check gets held constant, and then the cash to the balance sheet gets reduced by the amount of the investor's transaction expenses, but this, too, seems like the seller is still feeling the burden.
What's the right treatment? Related to this, we know that an equity fundraising event should not impact the valuation of a company. Cash goes up, equity goes up, but EV should remain unchanged. With that spirit in mind, if a buyer's transaction expense in the S&U causes Equity Value to increase via increase in the sponsor check size......how do I think about where the offset is so that EV remains unchanged....since in the case outlined above...MV of Equity +22 while cash is still only +20 ....EV increases theoretically.......I know on the balance sheet buyer's transaction expenses would lower RE and therefore in an LBO the BS would be balanced...should i just think of it the same where theres an adjustment to EV for buyer's transaction expenses....?
I'm trying to understand when it comes time for some lawyer to do the paperwork and to make sure that the legal documents accurately reflect whose got what amount of ownership in the business (or how many shares need to be issued to each person, at what price, etc...).......is the investor getting more shares because of their diligence expenses? Isn't that technically not correct? What truly happens
bump
This question makes no sense at all. If they are acquiring 49% of the company for $20M, then that's it. The fees and other things flow through the funds flow, but the funds flow by itself does not determine anything besides where the money goes to.
Great, so you must then agree with me that this term sheet makes no fucking sense, right? I'll try it again....I received a term sheet stating that they will give my client "20M in growth capital at a 41M post-money valuation."
So I calculate 20M growth investment / 41M post-money = 49% ownership they should have
But then I look at their proposed Sources and Uses Table and I see that they are including their personal buyer transaction expenses in the fucking sources and uses, driving up their equity check from 20M to 22M ...and off to the right they have a capitalization table where they are now stating the pro forma capitalization is 51%. To which I then say to myself , what the fuck? Why are they getting 2% ownership more than the deal was contemplated. So I then go read the description of "Expenses" in the term sheet....and it clearly states that the investor will pay for its own diligence expenses. So, do you agree that this fucking PE firm is stupid?
And let me be clear....Ive done 15 transactions so far in my career and this isn't the first time I've seen PE firms present a term sheet where their own transaction expenses result in them writing a bigger equity check, to which then I see the pro forma capitalization being larger than what it should be based on dividing their growth investment by the post-money valuation......so that's why I'm finally taking to this forum to ask if all PE investors are stupid, or what's the deal.
Confirming we are stupid
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