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Considering a Sale in an Economic Downturn
Considering a Sale in an Economic Downturn
Written By: Gerald O’Dwyer III
The PE Guru — Blackmore Partners, Inc | June 20, 2024
As the owner of a lower-middle market company with $38 million in sales and a 10% EBITDA margin, you face significant economic headwinds. The USA appears to be headed towards a crisis reminiscent of 2008-09, with inflation exceeding 10%. The middle class, the backbone of the nation, is struggling significantly. Given these conditions, you are contemplating selling your company, likely to a private equity (PE) firm. However, the potential challenges include not achieving your desired multiple and being required to roll over 20-30% of the equity. Delaying the sale could expose you to further risks as economic conditions deteriorate and the middle class continues to be squeezed.
Economic Context
Middle Class Struggles:
- 40% of Americans are unable to plan beyond their next paycheck.
- 46% don’t have $500 saved for emergencies.
- Housing Costs: A quarter of those earning $75,000 per year spend over 50% of their budget on housing.
- Debt Management: The majority of those making under $60,000 per year find their debt difficult to manage.
Income Disparities:
- The growth in income for the middle class has not kept pace with the growth in income for the upper-income tier.
- The share of total U.S. household income held by the middle class has decreased significantly.
Inflation and Interest Rates:
- Middle-class Americans are squeezed between high inflation (3.6% core CPI) and high interest rates (5.33% Effective Federal Funds Rate).
- Prices for necessities have risen significantly, creating financial stress.
Job Market:
- The middle-class job market is sluggish, with hiring rates for high-income workers at the lowest since 2014 (excluding a major drop during the pandemic).
Key Considerations for Selling Now
- Market Timing:
- Given the current economic climate, selling now could prevent potential losses from a further downturn. Waiting might lead to a lower valuation and increased financial strain.
2. Private Equity Dynamics:
- PE firms might demand a lower purchase multiple due to economic uncertainty.
- There may be a requirement to roll over a significant portion of equity (20-30%), which could be risky if the economic situation worsens.
3. Impact on Operations:
- Employee morale and productivity might decline as financial pressures increase, affecting your company’s performance.
- Increased operational costs due to inflation could squeeze margins further.
4. Consumer Spending:
- Reduced spending by the middle and upper middle class could impact your revenue. The shrinking purchasing power and increased cost of living may lead to decreased demand for your products or services.
5. Diversification and Risk Mitigation:
- Diversifying your assets by selling now and investing in recession-resistant assets (e.g., precious metals like gold and silver) might provide a safety net.
Potential Outcomes
- Selling Now:
- Secure a stable exit despite potentially lower multiples.
- Hedge against the risk of further economic decline.
- Provide liquidity to reinvest in more stable or diversified assets.
2. Waiting to Sell:
- Potentially higher sale price if the economy stabilizes.
- Increased risk if the economic downturn continues or worsens.
- Greater financial strain on the company and employees.
Conclusion
Given the current economic uncertainties and the struggles of the middle class, selling your company now to a PE firm might be the prudent choice. This would allow you to mitigate risks associated with the deteriorating economic environment and protect your financial interests. While the sale might require compromises, such as rolling over equity, the alternative of holding on amidst worsening conditions poses significant risks to your company’s valuation and operational stability. Diversifying your investments post-sale could also provide a buffer against future economic volatility.
