Middle Market Deals and how to buy, sell and raise capital from $5 to $500 million

One of the most frequently unasked questions, but one that everyone wants to understand, is what is a fair M&A advisory fee?

To be clear, for a firm that genuinely plays the role of a broker-dealer or investment bank, operating under the requisite legal framework, the answer falls into a fairly narrow band. 

Ignoring the costs of any required fund raising (see my post on fees for raising capital) the fees for advising the buyer or seller in the middle market arena, tend to follow the 5-4-3-2-1 "Lehman Formula."

The Lehman Formula provides that the advisors get 5% of the first million, 4% of the second, 3% of the third, 2% of the fourth and 1% of all the consideration above four million. 

Investment Bank:  As an investment banker, I've learned that most people in the middle market world don't have a clear understanding about what an investment bank does.

Most people do understand that large investment banks help take companies public, but may not appreciate what else they do or how they might help a company that is not seeking to go public.

Ultimately, a public offering (IPO) is means of accomplishing two objectives: 1)  create liquidity for owners and investors, and 2) raise capital to facilitate growth or reduce debt.

Middle market companies often seek to accomplish these objectives without an IPO.  Middle market investment banks can help to accomplish both by using private offerings to raise capital or mergers and acquisitions to help create liquidity.

Today, many private equity firms--who generally rely on intermediaries, including investment banks for deal flow--are willing to allow entrepreneurs to take money off the table at the time of an investment, accomplishing both of the objectives of the IPO without a public offering.

Investment banking firms are typically registered with the NASD.

How an entrepreneur chooses an intermediary to help with a transaction depends on a variety of factors.

There is not a bright line between what makes a middle market financial adviser a business broker or an investment bank.  Those monikers are typically self-selected.

Here are some considerations.

*The lower the transaction value, the more likely that a self-described business broker rather than a self-described investment bank is to tackle your deal.  To be clear, however, there is no line of demarcation and some self-described business brokers effect larger middle market transactions, while some self-described investment banks execute smaller middle market transactions, but this information is a fair guide as a rule of thumb.

Business Broker:  A business broker is a business intermediary who facilitates transactions between buyers and sellers of small and middle-market businesses.  Most frequently, business brokers are retained by the sellers.

The traditional model operates much like a real estate brokerage, with a focus on creating a portfolio of listings, if you will, of businesses for sale.   Depending on the firm, these listings range from small mom and pop businesses up to businesses with millions in revenue.  Such listings are typically provided in proprietary or in shared databases.

The model works well for entrepreneurs who are sellers of small businesses and for sellers who are interested in exposing their properties to the market to see what the traffic will bear. 

Generally, business brokers are not registered with the NASD.

Today, I begin a new routine of posting short definitions of key words and phrases that represent jargon or industry-speak.  Generally speaking, these are my own explanations of a word or phrase, rather than a formal definition.

Middle Market:  Middle market or mid-market typically refers to companies of between $5 and $500 million in sales.  Definitions vary, for instance, Barlow Research suggests that the range is $10 to $500 million.  Using their definition, they identify 92,973 companies of this size using Dun & Bradstreet data.

Generally speaking, I will try to write for the audience of entrepreneurs and executives who work in and run companies of this size.