What Is a Platform Company in Private Equity?

If you’re planning to sell a business doing more than $1M in EBITDA, then you may have considered selling to a private equity group.

You may have even been approached by a private equity group looking to purchase your company as one of its “platforms.”

If that term doesn't resonate with you, don’t worry.  

In this blog, we'll describe what a platform company is, discuss the pros and cons of being a platform company in private equity, and explain how mergers and acquisitions are used to grow them.   

What Is a Platform Company?  

A private equity platform is a company that is purchased by a private equity group who intends to grow that company using capital from limited partners (or investors). The private equity group will grow that platform by using it to acquire other companies, or “add-ons,” in a related industry.  

As the platform acquires its add-ons (also referred to as "roll-ups"), its value will increase. After 3-7 years have passed and several acquisitions have been made under the platform, the private equity group will sell the platform at a higher value.

Once it's sold, the limited partners who pledged capital to the original purchase of the company receive a return on their investment. 

Simply put, the purpose of a platform company is rapid growth. The singular goal of a private equity group is to provide the max amount of return to its partners, which can only be done by growing its platforms. 

There are several ways that a platform can be grown, whether it’s organic or through mergers and acquisitions, although mergers and acquisitions far outperform organic growth.   

Platform Mergers and Acquisitions  

Mergers and Acquisitions refer to a platform company’s ability to absorb other businesses in order to fill strategic needs, increase density in a current operating area, or expand the geography of operating areas (sometimes all three).

Each of these allow a platform company to grow in both scale and earnings, providing a higher Internal Rate of Return (IRR) for its investors.    

Strategic Needs  

One of the best ways that a private equity group can grow a platform is through acquiring businesses that fulfill its strategic needs.    

For example, if you own a medical company, private equity may use your company as a platform to acquire a manufacturer of certain medical equipment, like imaging parts.

This acquisition would help fulfill the needs of technicians within your medical company who are servicing the imaging equipment, and eliminate certain costs that would come with purchasing those parts from another company.

This can also create opportunities for the platform to expand even further by acquiring businesses that lend themselves to the functions of the imaging parts company, and so on.   

Increased Density

Another way for a platform company to grow is by increasing the density of their operations in a given geographical location.  

For example, if you own a roofing company that serves a 100-mile radius, there is likely a lot of competition within that radius. Your employees may also spend a lot of time on the road going back and forth to jobs, which wastes valuable time and resources.

If your roofing company becomes a platform, it can start to buy up other roofers in the area, which will reduce both competition and costs associated with employee travel time (fuel, wear and tear, etc).   

With these reductions in competition and costs, your roofing company's value will begin to increase.

Geographic Expansion  

A platform company can also grow by simply expanding its existing service area.

Using the previous example of a roofing company, once you’ve packed out a particular service area, you can start to expand beyond that radius by acquiring the predominant roofers in new territories.  

As you can imagine, this kind of expansion is an extremely efficient way for private equity to increase your business’s earnings in a relatively short amount of time. 

Pros of Being a Platform Company  

Now that you know a little more about how a platform company increases its value, let’s take a look at some pros of being acquired as a private equity platform.

Perhaps the biggest positive that comes from being bought as a platform company is that you will have the option to execute an equity rollover.

When you roll over a portion of the proceeds from the sale of your business, it gives you an opportunity to take a second (possibly larger) payday when the business sells again in 3-7 years.    

For example, let’s say a private equity group approaches you to buy your company as a platform. You are doing 2 million in EBITDA, and sell for a 5X multiple, giving you a purchase price of $10 million.

You decide to pocket $8 million and roll over the remaining $2 million into the buyer’s company. You stay on as CEO for the next 6 years, during which time the private equity group’s money combined with your industry expertise raises the value of the company to $25 million.   

Since you own 20% of the company (remember your $2 million investment), you will have earned an additional $5 million upon the second sale.   

You could have accepted the original offer of $10 million and walked away, but since you continued to run the company with a private equity group financing it, you now exit six years later with $13 million in hand ($10 million original sale - $2 million rollover + $5 million second sale = $16 million).  

An extra $3 million doesn't sound too bad, does it? 

Another pro of being bought as a platform company is that you could have the opportunity to step into a larger role within the organization that buys your business.

Since the buyer realizes that your industry experience helped them grow the business, they may want to continue working with you, and offer you a permanent leadership role within their team.

Cons of Being a Platform Company 

Although being bought as a platform company has lots of upside, there are some drawbacks to consider. Most of these drawbacks, however, depend entirely on what your goals are after a sale.  

One potential downside to becoming a platform is that you will lose your majority stake in the company, and therefore your ability to control operations the way you always have.

If you’ll have a problem seeing things change from the way they've always been done, you should take this into consideration when selling to a private equity buyer. 

With the right group, changes could be minimal. But there's always a chance they will want to make changes that don't sit right with you. The best way to prevent this is to share your preferences for a buyer with your business broker

Something else to consider is that the small-business feel that you may have grown accustomed to will undoubtedly change to a more corporate atmosphere. Processes and procedures will become more systemized as a result, so if this doesn’t sound like an appealing environment for you, then you may want to go in a different direction when it’s time to sell.  

Deciding on a Buyer 

Now that you know more about platform companies and private equity, you will have a better idea of what to expect if you are approached by a financial buyer.  

It all boils down to what your goals are after selling. If you’re nearing retirement and would prefer to walk away after a sale, or if you’ll have a problem with adhering to a private equity group’s new set of standards and operations, then becoming a platform may not be for you.  

If your goals are more financially based and you don’t mind sticking with the business for 3-7 years after selling, then it could be a great opportunity for you.   

At MidStreet, we’ve worked with several business owners who have sold to private equity groups, so we know what to expect if one is interested in turning your business into a platform.  

If you’d like to learn more about selling to private equity, or have any other questions, contact us today!