Middle-Market M&A Snapshot: Healthy and Distressed Perspectives

When selecting an investment banking and advisory firm, finding one that has a comprehensive and in-depth understanding of all aspects of an M&A engagement could make or break your deal. Our unique process combines our expertise in both healthy and distressed M&A to create an approach that fits the challenges of your business. Our goal is to find the best solution for our clients by utilizing all the resources available to us.


Ken Mann is a Managing Director of SC&H Capital, our Investment Banking and Advisory practice, where he provides distressed M&A advisory to private company business owners. With more than 25 years of experience, Mann leads the team’s go-to-market strategy, lender and attorney interface, offer and purchase agreement negotiation, and everything in between.

Greg Hogan is a Managing Director of SC&H Capital where he leads the team’s ESOP practice, provides M&A transaction guidance to business owners and boards, and maximizes results in sell-side representation, recapitalizations, management buyouts, and divestitures. With 20 years of M&A and investment banking experience, he’s advised on deals valued at over billions of dollars.


Video Transcription

Ken Mann: Greg, tell me what’s going on in the healthy M&A world right now. What does the market look like? What has Covid-19 meant for healthy M&A business?

Greg Hogan: It’s been a very interesting time since last March (2020). Obviously, the second quarter of last year was very quiet. A lot of the deals that we were working on took a pause during the initial phase of Covid. But really, ever since the third quarter of last year, the market’s heated up substantially.

What we’re seeing now is that deal activity and valuations are certainly back to pre-Covid levels, if not above for certain industries. I think that’s a function of the amount of capital that’s in the market, and there is a substantial overhang, especially with private equity buyers looking to put capital to work in good deals. So, there is a very favorable dynamic from a supply-and-demand perspective for sellers in today’s market.

What are you seeing on the distressed side?

Ken Mann: Just the inverse, I think for the same reasons. There’s a lot of liquidity in the market. Everybody has a place to turn and right now that includes to Uncle Sam. We saw a surge at the beginning of Covid as people anticipated problems. Then, as government money began to flow and people chasing yields, that they couldn’t get anywhere else, started to develop into any kind of company that had a chance for survival, it really slowed down. So, Q3 and Q4 (of 2020) were slow on the distressed M&A side, and it’s beginning to turn back up right now.

The only thing that seems consistent is that valuations remained really high, just like you saw on your side of the business.

Greg Hogan: Absolutely. We expect more of the same for the balance of this year on the healthy side of the business, especially with looming changes in capital gains rates. This is pushing a lot of sellers into the market, maybe a bit earlier than they otherwise would have considered, in combination with healthy valuations that are available. I think it’s going to be an exceptionally busy second half of the year in 2021 as people try to get in under the current capital gains tax rates.

Ken Mann: Yeah, if you’re even thinking about selling in the next three years, it’s kind of incumbent upon you to take a hard look now, while capital gains are favorable.

On the distressed side, I think the economy is poised to do quite well for the rest of the year. But I think there are many companies who were ready to go-to-market in 2019 because they needed to bring in new capital, whether that was an equity raise, refinancing debt, or looking at a sale of the business to make it stronger. They skated by through 2020 because banks were very generous with their forbearance and PPP money was available. I think both of those are starting to wane. So, while the economy is going to do well, and that will lift a lot of boats, there are companies that were probably springing leaks in 2019 that now need some work.

Let’s jump to what is unique about SC&H Capital’s approach to healthy M&A. What are the things that you do differently that really drive value? Maybe that’ll lead us to a discussion about what’s different in our processes.

Greg Hogan: Our value proposition to the market and to our clients as a boutique investment bank is to bring a higher level of sophistication, like that you might find from larger investment banks, down into the lower middle-market to your average family founder-owned business but with the senior-level touch that many of those clients like and need from a boutique investment bank.

What that means for our clients is that we’re very thoughtful in our approach to how we design a process. That process needs to be designed with a focus on what the client is trying to achieve. The best way to do that is to design and execute a process that maximizes the chance of a successful outcome for the client. Process design is a big part of what we spend time on upfront with the client, understanding their objectives and then thinking critically about how best to achieve those in a go-to-market strategy.

The second piece that I think comes into play is having deep knowledge and an understanding of the industry and what is driving value in that industry from a buyer’s perspective. Understanding the buyer pool and what they’re looking for is key to designing a process. A lot of the time, the proper selection of the right buyers to include in that process is a really important component to achieving your strategic objective. That focus on the right portion of the market and buyers allows you to achieve the best outcome but do it in a fashion that is efficient. Clients want to get in and out of these processes as quickly as they can once they’ve made the decision to sell the company.

I think the combination of industry knowledge, buyer understanding with effective and thoughtful process design leads you to a point where you can execute LOIs (letters of intent) with buyers that are favorable to clients.

Then, the last piece is being prepared from an execution perspective to get through the due diligence process as efficiently as possible and to get to the closing table with the terms that you agreed upon. Those three areas are what we focus on the healthy side to drive value and better outcomes for our clients.

Ken Mann: It’s not that dissimilar to our approach, the same things drive value; but I think how we would define them is probably a bit different in the distressed world.

A deep understanding of the industry and the buyer database is probably a bit shallower than what you shared and what I’ve seen our healthy team do in their execution. Obviously, the primary reason for that is simply speed. If we’re selling a “melting ice cube”, if you will, taking more time to understand the buyer set might mean there’s nothing left to sell by the time you’ve got a nice CIM put together and you’re ready to go-to-market. So, we have to be able to balance the need for speed with making sure we capture value.

Probably on our side, a broader approach is required because we need to satisfy our creditor body or a judge or a trustee that our process is commercially reasonable, that anybody and everybody who could bid has an opportunity to do so. Also, I think where it’s not so easy and clear cut on our side is showing EBITDA (earnings before interest, taxes, depreciation, and amortization)—here’s an industry multiple, we don’t have EBITDA, 100 multiplied by zero is zero in many of our cases.

What’s going to drive value in those cases is competition, which demands a broader process and going to market quickly. It has been interesting. It’s been great, over the last year and a half, to see how those two concepts and methodologies can come together.

Greg Hogan: Yes. I think one of the things that we’ve really enjoyed about having you and the Special Situations team onboard and offering distressed M&A is having the ability to bring some of our knowledge and relationships, in particular on the private equity side, to bear in your processes. Including some of those folks as buyers that maybe the distressed world doesn’t typically focus on, based on the nature of how private equity firms function in transactions. I think that’s an area certainly where the healthy side of our M&A practice can support the distressed practice in expanding the buyers list and driving better outcomes for your clients as well.

Ken Mann: Yeah, that’s a great point. I think very few distressed M&A shops have any reason to have relationships with many of the private equity groups that you know very well. You pick up the phone, you know somebody on a first-name basis, you know why they might be interested in a particular target, what other things they hold, what other platform companies they have—and most distressed shops just wouldn’t have that because those private equity groups aren’t going to look at their deals. I’ve found that very useful.

We certainly have a pool of private equity or family offices that, like the distressed space, they are easy for us to get to. But it has become even easier to get to other private equity groups where your healthy team has had relationships with and deep understandings of those groups.

A couple of other things I like about our hybrid model…

When a business is a “melting ice cube”, we need to run the same process we’ve always run, which is very broad, quick, effective, and maximizes value; but not everything is a “melting ice cube”. I think most distressed M&A shops tend to view every troubled deal in that way, where we’ve learned to look at them on a spectrum. Some cases really aren’t “melting ice cubes”, they’re “diamonds in the rough” and that means there’s a little bit of runway. The bank is patient. People see the value.

So, we’re taking some of the things from your healthy practice and incorporating them into our distressed practice and we are doing a deeper dive on buyers and understanding what the leverage points might be for them.

  • Is that a private equity group that needs to get money to work in the next few months?
  • Is that a strategic buyer who can pay more because they have synergies and where they have a sponsor with deep pockets that’s been acquisitive?

Using tools like CAP IQ and PitchBook that you’ve always use, and introduced us to, has been very helpful.

The other thing is, if you hire a distressed-only M&A shop, there’s a certain stigma that might come with that, right? Nobody’s in a rush to get to their country club and say, “hey, I hired this investment bank that’s an expert in distressed companies”. Sometimes owners have a fear that that is going to set the stage for what the valuation should be. One great thing that I’ve noticed in joining forces with a healthy firm is that stigma is gone. SC&H Capital does all kinds of things—including selling healthy, growing companies—and so there is no stigma by putting the (healthy and distressed) names together.

Those are a couple of the things where I’ve seen a big difference in running a hybrid process where time allows, it has helped us to maximize value.

Greg Hogan: You are right. You mentioned the word spectrum, and that’s a great description because companies don’t always fit nicely into either the healthy or distressed bucket. There’s a gray area in between there and so the ability to have the best of both worlds and processes from both a healthy and distressed side can be very valuable. Sometimes your client or prospect relationships may start on one end of the spectrum and end up on the other. So, the ability to have two different teams that specialize in both of those types of processes has been extremely valuable for us as a practice and for our clients.

Ken Mann: If I can give an example, we represented Gaspari Nutrition and the day I went to meet with Rich Gaspari, the founder, we weren’t even under an engagement letter yet, he dialed a phone number and handed me a cell phone. I said, what are we doing here? He said, I need you to talk to my protein supplier, they won’t ship any protein. Well, that’s a “melting ice cube”. If you don’t do something soon, you’re going to lose that brand value, you’re going to lose that shelf space, and so we jumped into the market with a teaser and a CIM (Confidential Information Memorandum) probably in less than a week. In four weeks, we were able to get a going concern bid. What that did is allow us to then go to the lender and say, hey, we’ve proven to you there’s value here, we need you to put in a million dollars so that we can get some raw material and retailers don’t kick them off the shelf. That speed there was critical, there’d be nothing left to sell. By day 60 we were sitting around a conference table with bidders from four different continents and in a very competitive process. We saw the price more than double in the last hour of a 60-day process. By the way, in a bankruptcy, Rich Gaspari was able to keep 30% of the company. That was a great result for a melting ice cube.

Conversely, in a different bankruptcy case, Gourmet Express, I would call that the “diamond in the rough”. The company actually was quite profitable, but hung up in some litigation, landed in a bankruptcy case. We took that more intentional approach. We talked about private equity groups that had platform companies, people who could bring different distribution to the product, and so forth. We had a little bit more time and were able to generate bids that paid 100% of the debt in the bankruptcy case and provided $18 million for shareholders, and the shareholders got to stay involved and continue to run the company. Totally different approaches and I believe most people would have just looked at them and said it’s bankruptcy, it’s a distressed sale, here’s the process. We were able to shift gears and customize the process and make it better.

Greg Hogan: Well, it’s interesting because a lot of those dynamics and nuances to the bankruptcy process, and to distressed sales in general, are things that SC&H Capital traditionally hasn’t really had our arms around. When we would come across distressed opportunities in the past, we passed on them for the most part because we didn’t feel like we had the relevant experience to bring to bear to achieve a successful outcome for the client. There are things that—whether it be 363 sales or bankruptcy processes or working through court-required auctions—that we just weren’t familiar with, and so having that capability now for opportunities that we come across is wonderful.

Ken Mann: I think there’s a couple of reasons why healthy M&A shops fail in the distressed space. You touched on a couple of them. If you haven’t run 363 processes, we’ve run more than 300 of them, you don’t quite understand the dynamics and the pressure points and the timing.

For healthy M&A guys, if I said to you, “Greg, you have to tell everybody in the process that it’s going to be an auction.” How many of your buyers would stick around for an auction?

  • We’re adept at getting people to understand why they might want to be a stalking horse and let other people bid against them.
  • We understand what the appropriate bid protections would be in that situation.
  • We know what it takes to—again, I use the phrase commercially reasonable—prove to a court and make sure that nobody gets sued after a process.

For example, in Article 9 or assignment for the benefit of creditors, what are some of the boxes you have to check? How do you get people to bid in a non-exclusive environment? Everybody wants time to due diligence on an exclusive basis. We understand that we can’t usually do that, and we know how to explain that to people, get them interested, get them to put up a good faith deposit.

I’d imagine in your deals, if you ask for that, people will scratch their heads and/or laugh at you.

Greg Hogan: Mostly they would laugh, yes.

Ken Mann: So, there’s just some nuance to that process. The big thing is people in your shoes are not used to getting people to act so quickly—getting a CIM and a teaser to market in 10 days and then getting people to show up for a site visit two weeks later and make an offer 10 days later.

Twenty-five plus years of doing that have given us a skill set that’s a bit different than what a classic M&A shop is going to offer. It’s been great to combine the two areas of expertise and I think it’s producing good results for our clients on both sides.

Greg Hogan: Blending that experience with our approach on the healthy side, for those companies that may be in the middle of that spectrum, I think is a really great solution and a unique solution in the market. To have the capabilities to move quickly if the situation demands it or to take the time and be more thoughtful from a process, design, and buyer outreach perspective than maybe some bankruptcy proceedings allow for is advantageous. That combination of skills to apply to the situation as necessary is a great option to have.