Q: How would you think about equity vs. debt and how to structure transactions for these [middle-market] companies?
DS: The cost of debt is typically lower than the cost of equity so if you have stability and predictability, using that debt is a good tool for us as investors and a good way for a seller to make sure they are getting full value, but if you put too much debt on a business and you’re not able to pursue a strategy to grow it that’s consistent with the plan we and management have developed, we’re never going to get the company to the point where we want it to be, which isn’t good for any of the people involved.
MC: A lot of times, companies go into this process and they don’t have that long-term objective laid out so...they oftentimes try to maximize value on the front end as opposed to understanding that on a longer-term basis, they’ll take some of their value off the table during the initial transaction. Most often they are going to have an equity interest in the business.
They don’t want it overleveraged. They want to have a capital structure that will allow them to not only complete the initial deal but grow their business…and that then will translate back into the equity ownership.