Middle Market Companies
Middle market companies are vital contributors to most developed countries’ GDP, and providing more support for such companies in the US is both a significant challenge and a compelling opportunity. The National Center for the Middle Market at the Ohio State University Fisher College of Business as well as Dun & Bradstreet’s proprietary database of commercially-active U.S. firms define middle market businesses as those companies with revenues between $10 million and $1 billion per year. The definition is defined in reference to small businesses, which earn less than $10 million in annual revenue, and big business, which earn at least $1 billion in revenues and are generally the smallest eligible for a credit rating by one of the “major” credit-rating agencies.
US Mid-market Segment
The 200,000 plus US-based mid-market companies are essential to America’s economic success. They account for $10 trillion annually of the $30 trillion U.S. private sector gross receipts and 30 million jobs. Middle market businesses should be recognized by investors and policy makers for what they truly are – powerful engines of the US economy – and more can and should be done to help these businesses thrive and grow through the application of capital, operational expertise and a sharp strategic focus.
The economic impact of middle market companies must not be underestimated. There are roughly 200,000 companies in the U.S. with revenues from $10 million to $1 billion, most of which are closely held or family controlled. Such businesses produce roughly one-third of US GDP. They are also strong drivers of economic opportunity; even in the years spanning the financial crisis, from 2007 to 2010, such companies added some 2 million jobs. And while they may be small in comparison to the better known mega-caps, middle market companies invest heavily in innovation, devoting 8% of revenue to R&D.
Growth Capital- To Fuel Growth Engine
As a boutique investment banking firm, we advise Lower Mid Market companies to raise growth capital to fuel their growth plan. Such companies can avail financing facilities where traditional capital sources cannot finance their plans. These facilities include cash flow based financing solutions, asset based financing solutions and enterprise value based financing solutions. We have an extensive network of institutional lenders, non- traditional debt capital sources, debt/ equity fund managers, private equity funds, private debt funds etc to provide customized and innovative capital solutions to our clients. Our typical advisory services include facilitating the following financing solutions to Lower Middle Market Companies in US, Canada, Europe, Middle East and India to meet their growth requirements:
|· Private Equity||· Private Debt|
|· Senior Revolving and Term Loans||· Bridge Finance|
|· Assets Based Loans||· Dividend Recapitalizations|
|· Restructuring/ Refinancing||· Mezzanine Finance|
|· Preferred Equity Capital||· Unitranche Financing|
|· Senior Debt/ Senior Stretch||· Private Placements|
|· Equity Co-investments||· Add-on Acquisitions|
|· Leveraged Buyouts||· Distressed/ Special Situation/ Turnaround|
Let’s discuss more about US Lower Middle Segment, its growth trend and future opportunities for growth.
Lower Middle Market Companies
The middle market firms are further classified as:
- Lower middle market
- Middle middle market
- Upper middle market
Lower middle market is the lower end of the middle market segment of the economy, as measured in terms of annual revenue of the firms. Firms with annual revenue in the range of $5 million to $50 million are grouped under the lower middle market category. These firms are ranked just above the small and medium enterprises (SME) or Main Street firms with revenue lower than $5 million.
Lower mid-market firms play a significant role in the national as well as global economy. The classification helps investors to weigh the high growth potential of the category against the risk involved in order to arrive at the judicious valuations. While the commonly used criteria for this classification is the annual revenue, other metrics, such as number of employees and the tangible capital assets employed, could be more appropriate in many cases. Both in the Euro zone as well as in U.S., the lower mid-market firms significantly contribute to the gross domestic product as well as employment generation in the respective national economies.
Some boutique investment banks and private equity firms focus on this specific segment of the middle market, and develop expertise in doing deals in this space. Many potential buyers are searching for acquisition targets in the lower middle market because valuation multiples tend to be lower. Also, operational improvements in lower middle market businesses can be more easily obtained by experienced business buyers.
Buy-and-Built Growth Strategies
US middle market companies and their private equity sponsors are focusing on growing through ‘buy and build’ strategies, rather than transformative acquisitions despite a surge in global merger and acquisition (M&A) activity, as they prepare for a possible macroeconomic downturn.
Despite a generally benign economic climate now, toppy purchase prices and high debt multiples are encouraging sponsors to focus on smaller add-on acquisitions for mid-sized portfolio investments as they brace for a less favorable trade environment or a possible downturn in the economic cycle.
US Private Equity Middle Market- Performance Indicators- Q2 2018
The US middle market continues to outpace the country’s broader private equity industry.
- PE firms invested in 1,358 US middle market deals worth a combined $ 178.50 billion during the first half of 2018, registering 16% increase in deal numbers and 5% increase in combined deal value.
- The MM has accounted for nearly 70% of all capital invested in PE year-to-date.
- The trend of increasing PE deal sizes is expected to continue and that the MM will represent a larger portion of total PE deal flow.
- The median MM buyout size rose to $177.5 million in 1H, a slight increase over the $182.5 million median for full-year 2017.
- The year-to-date median Core Middle Market (CMM) deal size was $245.0 million, a 18% increase over the $207.6 million seen in full-year 2017.
- As of Q2 2018 roughly half of all buyouts globally and more than two-thirds of all buyouts in the U.S. are add-ons. In the first quarter alone add-ons accounted for 70 percent of all buyout activity.
Source: PitchBook Data (US PE Middle Market 2Q 2018)
Understanding challenges and providing solutions
Supporting middle market companies is not only about providing capital, but also about affording access to much-needed operational and strategic resources. Family-controlled businesses, especially, may face challenges such as training the next generation of leadership, attracting talented executives beyond the founding family, and responding to changes in customer demands, markets and supply chains. The fact that an estimated $30 to 40 trillion in wealth will be passed on from the baby boomer generation to their millennial heirs over the next 25 to 30 years in the US alone suggests that many family-owned mid-market businesses will need assistance coping with management transitions and other strategic issues.
A particular need of middle market companies is to identify and execute growth strategies. Outside investors can add real value by engaging actively with the management of middle market companies in which they have invested, in order to provide guidance on strategic actions such as: geographic, channel or product expansion; partnerships and joint ventures; and capital planning. Merger and acquisition opportunities – which may have been beyond the reach of management previously – represent another area in which investors in middle market companies can positively impact growth.
(Source curtsey: PitchBook Data, Reuters, World Economic Forum)
Dileep K Nair
(Investment Banker, Capital Advisory and Corporate Finance expert)
Unifinn Global Capital