Private Equity >

Cross-Border Deals in the U.S. Middle Market, an Interview with Sheon Karol of The Dak Group

Nora Zhou Axial | January 10, 2018

The US middle market is viewed as a very attractive and stable market by many foreign investors. Despite market fragmentation and high valuations, the market saw a healthy level of foreign capital flowing into the US middle market in recent years.

Axial recently spoke to Sheon Karol, a Managing Director of The DAK Group who specializes in cross-border transactions, to hear his view on the rise of foreign appetite in the US middle market.

Nora: What is the impact of having foreign buyers coming to the US market?

Sheon: The participation of foreign buyers in a sales process certainly drives up the price, but there are other advantages.  Among the reasons to sell is an acceptance that the company needs to be “taken to the next level” or concern that the company is about to face disruption in its sector. Some foreign buyers bring unique capabilities or access to global markets for the selling company.

In my experience, foreign buyers are also likely to retain a higher percentage of management and employees. Many business owners want to “take money off the table” but do not want to retire.  They still have a passion for the business and feel they have much to contribute. A business owner recently told me that he does not want to spend every day shopping with his spouse, but he wants to set up trust funds for his wife, children, and grandchildren. Some foreign owners would welcome the opportunity to retain the services of the seller and may in some circumstance provide for the seller to maintain some equity for a defined period.

Sheon Karol

What makes the US middle market attractive to foreign buyers?

The US middle market offers foreign buyers the opportunity to enter a large market without “betting the farm.” Also, investors in many countries are eager to diversify their holdings by investing in a politically stable country.

There are valuable opportunities in the US middle market, which The National Center for the Middle Market defined as companies with revenues between $10 million and $1 billion per year. In the third quarter of 2017, middle market companies showed steady 7% year-over-year revenue growth and 6.4% growth in employment.

Even if the foreign buyer has a proven concept that has succeeded in its home market, it is time and cost efficient to acquire an established vehicle in the US rather than start from scratch. Acquisition targets in a multitude of sectors are available: there are approximately 25,000 companies with annual revenues between $100 million and $500 million and around 350,000 firms with annual revenues between $5 million and $100 million.

We expect the Trump Administration’s tax overhaul and easing of the regulatory burden on US companies to enhance the attractiveness of middle market companies for foreign buyers and increase divestments and acquisition opportunities.

How challenging is it to come to the US middle market?

Owners and managers desire proximity to supervise their business.  Distance, therefore, is often a concern for foreign buyers.  Also, every country has its mores and characteristics. What “works” in an overseas market may not necessarily succeed in the US.

The US middle market is opaque, so foreign buyers often do not know whom to approach to find the appropriate target acquisition. A foreign CEO recently said to me that potential acquirers “do not even know whom to call.”

What advice do you have for foreign buyers who want to come to invest in the US?

Foreign buyers need to decide at the outset whether they wish to duplicate their formula in the US or whether they want to buy a business that already has a niche and which they can enhance. They also need to find advisors who are familiar both with their concerns and goals as well as with the US middle market.

What advice do you have for US middle market business owners?

US sellers need to be sensitive to the issues that you and I have already discussed.  They should try to anticipate these concerns.

  • Middle market business owners need to work with advisors who are experienced in cross-border transactions and can access appropriate buyers. You don’t want to leave money on the table because your advisor doesn’t have the contacts or the requisite knowledge.
  • Build a risk profile for every buyer – foreign and domestic. There are horror stories of advisors who have failed to consider execution risk, and their clients wait months, and sometimes in vain, for the purchase price. Model a “risk premium” to weigh the value of bids.
  •  Develop in advance a management structure and succession plan that address the foreign buyer’s concern about distance.
  •  Be sensitive to foreign fears about the litigious nature of US law and business. Get ahead of the buyer by detailing any litigation risk and provide a clear litigation strategy.
  • Recognize that foreign buyers may have different cultural sensitivities and understandings of negotiation points and etiquette. Engage advisors who can help you navigate these negotiation subtleties.
  • Determine the value of foreign tax treatment so that you understand, and increase, the value of the acquisition to the foreign buyer. For example, in certain jurisdictions, the buyer may be able to write off the investment at a rate higher than in the US.
  • Be aware that the importance and prevalence of cross-border transactions will continue to grow. Take advantage of this trend so that you can maximize your proceeds in the sale and post-sale.

Sheon Karol is a Managing Director of The DAK Group, an investment bank specializing in middle-market, privately-held companies, advising business owners on sell-side and buy-side transactions and financial restructuring. He has extensive experience working with clients both domestically and internationally.

Click here to down The CEO’s Guide to Types of Growth Capital +

Axial is the deal network for the middle market.

Request Information