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28th July 2021Search Funds Q&A with Simon Webster

To gain more insight into the world of search funds, from someone who has been involved in search funds for many years and has experience from both sides (of being a searcher and an investor), we spoke to Simon Webster. Simon was the first person outside North America to create a search fund. Having learnt about search funds on his MBA at London Business School, Simon went on to acquire a prosthetic limb supplier which he grew from £3.5m turnover to £30m turnover in 10 years, delivering an IRR to his investors of 20% over the period. Simon now focuses on investing in search funds and acts as a mentor and investor to several search fund entrepreneurs as well as being a part-time lecturer at Judge Business School and London Business School, and he is Entrepreneur in Residence at INSEAD specialising in teaching would-be entrepreneurs about search funds.

Why are search funds appealing for investors?

First of all, search funds have attractive financial returns. The most recent Stanford study1 found that the overall return on investment was 5.5x on average. Even when you exclude the top 5 ROIs, this figure is still an impressive 2.9x.

Search funds also offer investors portfolio diversification. Searchers look for companies that meet a set of criteria (see below) but are typically industry agnostic.

Additionally, investors also mentor searchers, who tend to be young, motivated and ambitious entrepreneurs. Investors have the opportunity to use their SME knowledge and experience to help the searcher succeed.  This is often a fun and rewarding experience.

Why are search funds only just becoming popular in the UK? Is now the time right for a search fund?

In my view there is a correlation between how widely search funds are taught at business school and the number of graduates taking up search funds.  I teach at London Business School and Cambridge Judge Business School but this is relatively recent whereas IESE and INSEAD have been teaching search funds for a longer period.

Are there key industry/company characteristics that searchers normally look for?

Overall, search funds acquire businesses that are profitable and doing well. They do not seek out specific industries or turnarounds! Businesses have been acquired in B2B services, software, tech-enabled services, healthcare services, education, and manufacturing, to name a few.  While the industries will vary most search fund entrepreneurs will stick to a defensive set of criteria.  Note that the criteria are defensive for the searcher because they give him or her the time to learn the business and for the investor:

  1. Revenue growth above country GDP
  2. A high proportion of recurring revenue (e.g., contracted sales or subscription sales models)
  3. Cash generative, so therefore asset and capex light business models
  4. Healthy gross margins and EBITDA margins
  5. A sustainable market position
  6. A motivated seller who is looking to transition out of the business (often for retirement)

What key tips do you have for people starting out on their search fund?

It is important for searchers to both understand the model and the lifestyle. Stanford has an excellent primer2 for aspiring entrepreneurs new to search funds. Stanford1 and IESE3 have both conducted studies on search funds, for the US and non-US respectively.  Search the web and read everything that is available and watch the various conference videos.

Understanding the lifestyle is also key. Being a searcher is not just a job, it is a career. Make sure you want to do it! This is a great path to becoming a CEO with a meaningful equity stake.  You can end up as the largest shareholder in a company, but it is not a path for everyone. To find out if it is right for you, do your research and talk to as many ex-searchers and investors as possible. Make sure to speak to some searchers who have not managed to acquire a business, or who have acquired a business and then the company has failed. You should understand what you are getting yourself into, both the upside and the risks.

How important is the due diligence process in the context of a search fund?

Very.  A typical searcher has never bought a business before.  They are committing a key part of their career to the company.  Similarly, investors and any debt lender will want to know the business is sound and the plan sensible.

A searcher only has to do one acquisition but they need to do it right. The due diligence process is critical to help make the decision on whether to acquire the business and what opportunities exist for value creation. You need to understand what the risks in the transaction are and how they can be mitigated.

Note that it is also easy to do too much DD – don’t let it get in the way of a good deal! Both the searcher and likely the vendor are going through this for the first time. For the vendor, generating all the information needed for DD is a significant time commitment. Therefore, it is important to ask for the appropriate information. The entrepreneur should be guided through the process, and this is where their investors (mentors) can help but the advisor can and should play a key role.


How can HW Fisher assist with your search fund acquisition?

When completing an acquisition within a search fund it’s vitally important to know where expert assistance is needed. HW Fisher’s Transaction Services team have years of experience in undertaking financial due diligence on acquisitions and in supporting acquiring companies or management teams in making acquisitions.

All our work is tailored to the specific requirements of our client, bearing in mind the size and strategic objectives of the transaction, the client’s own knowledge of the industry and business to be acquired and level of risk associated with the transaction. By targeting our work based on the risk and objectives we are able to keep costs proportionate to the deal, whilst still providing the key information required. This means that when acting for a search fund we are able to take into account any commercial due diligence already undertaken and any risk areas already identified to ensure that our due diligence is as efficient and cost effective as possible.

Please do get in touch if we can assist with a transaction.

References

  1. Stanford 2020 Search Fund Study: Selected Observations (www.gsb.stanford.edu/faculty-research/case-studies/2020-search-fund-study-selected-observations)
  2. Stanford Search Fund Primer (www.gsb.stanford.edu/faculty-research/centers-initiatives/ces/research/search-funds/primer)
  3. IESE International Search Funds 2020: Selected Observations (https://www.iese.edu/entrepreneurship/search-funds/)

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