Independent Sponsors often ask, “How do I get paid?”
Becoming an Independent Sponsor can be incredibly lucrative. There are multiple ways that an Independent Sponsor typically benefits financially from a transaction. Some of these ways produce short term immediate financial benefits and others are more long term. Nevertheless, for an Independent Sponsor to get paid, there are two things that must happen. First and most obvious, an Independent Sponsor must have a Letter of Intent (LOI) with a “good” purchase price (usually based on a reasonable multiple of EBITDA) to buy a company. This exclusive LOI gives the Independent Sponsor leverage to negotiate fees and equity for himself with capital partners looking to fund his transaction. The second thing that must happen is a successful closing of the transaction. The Independent Sponsor does not receive any monies during the process. However, with an LOI in place and a successful closing, the Independent Sponsor can then begin to benefit financially for their hard work of finding and acquiring the company.
Recently, Frisch Capital helped an Independent Sponsor successfully raise the capital for their deal. At closing, the Independent Sponsor received a $320,000 closing fee plus 37% of the equity of the company, as well as, a seat on the board. In addition, he would be paid annually a management fee of $250,000 payable quarterly. An Independent Sponsor may or may not take an active role in running the “day to day” operations of the company. In this case the Independent Sponsor chose to play a more strategic role, advising the CEO and CFO. While no two transactions are exactly the same (the numbers above are always different depending on the transaction), this is somewhat typical of how Independent Sponsors benefit financially from buying a company.
There are three main ways that Independent Sponsors benefit financially from a deal.
Closing or Acquisition Fee
The closing or acquisition fee is a fee paid to the Independent Sponsor at closing. The closing fee is usually a percentage of total deal price. The percentage usually ranges between 2-3% depending on the transaction size.
A management fee is a fee paid to the Independent Sponsor for being involved in the company after closing. However, this fee is not contingent upon them having to have a “day to day” role in the company. In fact, many Independent Sponsors do not. Most Independent Sponsors operate more as a strategic advisor with a board seat(s), assisting the management team. Management fees can be either a fixed amount or a percentage of EBITDA, whichever is greater. Depending on the EBITDA of the company, the fixed amounts depend upon the size of the deal and the percentage of EBITDA can range between 2-6% annually. Sometimes if an Independent Sponsor is going to have an active role in the “day to day” operations of the company he may get paid a salary and forgo his management fee.
Equity, or ownership, in the company usually comes in the form of a promote or carried interest. A promote or carry, in simple terms, is equity based on performance of the company. This means that if the company increases in value by a certain amount (determined at the time of eventual sale down the road) then the independent sponsor will receive a certain percentage of equity. This can be a flat equity amount or a tiered promote. A typical flat equity amount for an Independent Sponsor might be 10% or 20% depending on the involvement of the Independent Sponsor. In a tiered promote, the numbers that often drive the promote are either Internal Rate of Return (IRR) or Cash on Cash (CoC).
In a recent transaction that Frisch Capital closed, the promote was a simple tier:
10% IRR achieved by the outside Equity provider = a 10% promote for the Independent Sponsor
20% IRR achieved by the outside Equity provider = a 20% promote for the Independent Sponsor
30% IRR achieved by the outside Equity provider = a 35% promote for the Independent Sponsor
While these are a few examples, the equity and promote structure varies from deal to deal. While this promote equity is essentially free for the Independent Sponsor for having the LOI and his ongoing involvement an Independent Sponsor may choose to buy additional equity by investing further dollars usually alongside the outside equity investors in the deal.
In addition to the fees and promote equity an Independent Sponsor receives in a transaction, they almost always get a board seat or two. However rarely, if ever, do they have control of the Board. This is a result of the fact that they are usually a minority shareholder after closing even if they put in additional equity dollars to go with their promote. Nevertheless, a transaction is usually very beneficial to the Independent Sponsors and we have tried to provide some ranges and examples above. If you are trying to determine what the potential financial benefit might be for your specific transition, please reach out to us here at Frisch Capital. We have 20 plus years of working exclusively with Independent Sponsors and have helped them raise over $1 Billion for their transactions. There is no cost associated with having us look at your transaction, and the benefit of an outside firm's perspective can be invaluable (and very lucrative).