The Lower Middle Market: 3Q22
Happy Monday and welcome to this quarter’s edition of The Lower Middle Market. We’re the only news source tracking lower middle market M&A. Our goal is to keep you up to date on what’s happening in the market by highlighting the latest news, transactions, and activity.
Revisiting Search Funds in the Lower-Mid Market
We recently came across an article on search funds from Timothy Goddard of Corum Group. Timothy provides a good sell-side perspective on both the benefits and downsides of dealing with search funds.
The Good:
Lots of capital in the market with approximately $6.9B of equity value that was generated through search funds since 1984
Search funds tend to be fast responders and more flexible than other buyer types
For founders and CEOs concerned with legacy and the future of their business a search fund can be a great match
The key metric in the success of a search fund is a fit between the company and the searcher
The Bad:
The proliferation of search funds has added to the signal-to-noise ratio when it comes to managing the M&A process
They can lack the industry expertise, ready capital, and clean structure to make a deal feasible
You tend to have to sell the company twice - first, the searcher, then their investors
The Ugly:
A longer and more complex due diligence process with the search fund and their loan partners needing time to diligence the agreement and the company
Search funds only have to do one deal meaning there are fewer incentives for bad behavior versus a private equity group that can’t afford a bad reputation
The article closes by mentioning that on net, it is worth including search funds in the M&A process. A search fund that matches the owner’s vision for their company can be a great fit, especially if they also bring sector experience, technical expertise and ready access to capital. On the ready access to capital part, we’d recommend looking into the difference between a self-funded search fund and a traditional search fund, as they are often conflated.
You can read the full article by clicking here.
Compounding Capital with Will Thorndike
Will Thorndike, founder of Housatonic Partners and author of The Outsiders was recently on the Invest Like the Best podcast with Patrick O-Shaughnessy. It’s a great listen if you’re interested in the intersection of search funds, long-term holding periods, and lower middle market private equity opportunities.
Some of the highlights worth sharing:
Over the last 10 years, software has become the single most popular industry for search funds
There’s disproportionate power in truly low churn businesses (defined as <2% customer churn)
Search for businesses with high returns on tangible capital
Defined as EBITA(1-tax rate)/(Net Working Capital +PP&E); looking for 20% or better
Retaining the ability to do small acquisitions really well instead of solely focusing on larger deals turns out to be a common thread across really long-term serial acquirers
The Rule of 10 for serial acquirers
Defined as Gross (Logo) Churn + EV/EBITDA; The lower the better and ideally under 10
You can find out more about Will by checking out his new podcast 50x or by visiting Compounding Labs, his new firm.
Transactions Happened
LLR Partners was the most active investor in the quarter. The firm participated in 12 investments ranging from its medical practice platforms to software and financial services. Investments included:
Medical Practices 🩺
WellNow Urgent Care scooped up Physicians Immediate Care Link
Eye Health America acquired Bradenton Eye Clinic and West Georgia Eye Care Center Link
Hospitals & Health Care 🏥
Revecore acquired revenue cycle management companies Kemberton and Cura Link
Financial Services 💰
Software 💻
DaySmart acquired TeamUp Link
Edlio added on SchoolInfoApp Link
Growth investment in AI-driven transportation management platform, PCS Link
Construction isn’t the first industry that comes to mind when thinking about lower middle market private equity as it’s often driven by cyclicality and high cap-ex requirements. However, construction-related deals led the way in our 3Q22 deal tracker.
Construction-related deals for the quarter include:
Huron Capital’s Pueblo Mechanical acquired ProCraft Mechanical Link
Copley Equity Partners invested in Roof Depot Link
Mill Point Capital acquired Construction Resources Link
Gladstone invested in Viva Railings Link
Northstar and Soundcore invested in ACI Asphalt & Concrete Link
O2 Investment Partners-backed Capital Construction added on Linear Roofing & General Contractors Link
Compass Group Equity Partners invested in Florida Energy, Water, & Air Link
Southfield-backed Milrose acquired Masterplan Link
Argyle and Celina Capital Corp acquired TRS Components Link
Fundraising
Peterson Search Partners Raised $100 Million for Fund II Link
Twin Bridge Capital Partners Closed 5th Fund at $880 Million Link
Shore Capital Partners Closes Over $290 Million for Food & Beverage Fund II Link
Crossplane Capital Closed Fund II to Target LMM Industrial Companies Link
Argosy Private Equity Closed 6th Fund at $422 Million Link
Resolute Capital Partners Announced Close of Fifth Fund at $405 Million Link
McNally Capital Raised $150 Million for Fund II Link
Kayne Capital Closed $600 Million in Latest Growth Equity Fund Link
Bow River Capital Raised $590 Million for Fund III Link
Turning Rock Partners Closed Fund II Link
RiverGlade Capital Raised $453 Million Fund II Link
HCAP Partners Announced Final Close of New $353 Million SBIC Fund Link
Other Stuff
Inside Eastman Kodak’s Private Equity Program, Where Lower Middle Markets Reign Supreme Link
Franklin Foster on Essex Bay Capital’s Launch Link
Emerging Manager Spotlight: Jack Waterstreet of Sky Island Capital Link
Emotions Run High In M&A, But Effective Communication Keeps Deals On Track Link
When To Leave Leadership Behind Link
Sell-Side M&A Reaches New Heights as Buyers Remain Picky Link
Pitchbook’s 2Q22 Middle Market Report Link
Private Equity Q&A with Altera Private Equity Link
The Intersection of Boring and Complex as an Investment Guide:
