Getting the most value
Speed and attention to detail save millions in private equity
When two private equity firms saw an opportunity last year to invest in a wholesale distribution division being carved out of its parent corporation, the investors felt that success would hinge on certain fundamentals: getting the value right, closing the deal quickly, and operating effectively as a stand alone entity immediately upon close.
One significant deal issue was to transition the division's captive insurance capability from seller to buyer. The seller had placed an unusual requirement on the private equity investors: the seller wanted to retroactively terminate liability insurance policies provided through their captive insurance company — an action that would have forced the investors to absorb more than $100 million dollars of self-insured liabilities and would have required coverage replacement costing millions of dollars. This was clearly an area of concern for the buyers.
The private equity investors recognized that the insurance question would have to be fully understood and successfully negotiated. They also saw a need to smoothly transition the company's day-to-day operations from the large corporate environment to that of a stand-alone entity. To accomplish these goals, the private equity fund investors looked to PwC for assistance.
In addition to advising their clients through a renegotiation that saved them $5 million, PwC's insurance risk management specialists were able to determine that the seller had overestimated the transferred liabilities by $17 million.
Tom Butler, partner in PwC's Private Company Services (PCS) practice, explained, "Both the private equity fund and management felt comfortable that we'd been through this a number of times. Not all of these transitions go well. What this company needed to do was to get through the transition comfortably and get to a normal run-rate state as quickly as possible."
Both investors and company management felt that the company would benefit from more robust tax, treasury, and insurance functions. But the private equity funds were concerned about the company's ability to immediately provide the banks with regulatory -compliant pro forma financial information needed to sell the bonds and close the deal.
The PwC team brought the expertise needed to accelerate the close process and keep the company compliant with its new regulatory financial reporting requirements.
As the deal negotiations progressed, PwC's insurance, merger & acquisition, and actuarial valuation specialists helped the private equity investors understand the magnitude of the insurance question and provided guidance to negotiate an equivalent dollar-for-dollar value. PwC's independent calculations also helped identify a possible overstatement in the loss reserves shown on the seller's original balance sheet.
These actions not only helped the private equity investors save over $22 million when the deal was brought to a close, but also helped the new company begin operations in an improved cash position.
PwC aided the new company extensively with its tax operations, including providing an interim outsourced tax department function. Our firm also helped the new company arrange for cost-effective portfolio insurance during the transition period and, after the close, PwC's insurance specialists continued to work with the new company to help save millions annually in reduced loss expenses through internal process improvements.
From a people standpoint, both during and after the close, PwC professionals worked comfortably with the private equity investors and the new company's management and staff. One important task was to keep the dialog flowing in a continuous and forthright manner.
"We didn't hesitate to tell both management and the private equity fund where we saw problems or issues at the company, or where we anticipated there might be problems and issues," said Butler. "You've got to anticipate and resolve issues before they become a crisis."
Today, the company functions as a fully operational stand-alone entity. It operates conservatively within the parameters set by the private equity investors, who continue to anticipate a strong return on their investment.
Although the credit markets began to tighten at the time of the deal, the investors were nonetheless able to negotiate the transaction, close it, maintain regulatory compliance, and selectively gain efficiencies. And, because it effectively transitioned its tax, treasury, and insurance functions while also developing effective internal structures and capabilities, the company continues to be well positioned to meet its debt service and achieve its future growth plans.
"When it comes to a carve-out, the transition can be tough," said Butler, reflecting on the new company's challenges, "It can be very tough. But we've been through it so often, and we have the depth and breadth of services to get them through the transition in a very comfortable, safe manner. Our whole culture, philosophy, and approach are designed to manage the service delivery from the point of initial deal inquiry through the exit of the deal, including the highly sensitive transition period. We just define our role a lot more broadly than many others do.