Search Funds

Bishop & Sewell’s corporate lawyers regularly advise search funds on:

raising capital from investors (both search and acquisition rounds)
debt finance
acquiring the target business

What is a Search Fund?

A search fund is an investment vehicle set up by an entrepreneur (or “searcher”) to raise funds to acquire a trading business.

Traditional search fund model

Under the traditional search fund model, the searcher will raise an initial round of investment (the “search round”) and use the funds raised to financially support their search for a business to acquire. The search phase, on average, lasts 1-2 years.

Once a target business is identified, the searcher will normally raise further funds (usually by equity (the “acquisition round”) and debt financing) to cover the purchase price and deal costs.

Under the traditional model, the searcher will typically end up owning 25% of the business (or, in the case of two searchers working in partnership, the searchers typically own 30% (15% each).

The equity held by the searcher normally vests as follows:

acquisition vesting– 1/3rd vests upon the acquisition of the target business
time vesting– 1/3rd vests monthly/quarterly provided the searcher remains employed by the target (usually over a 3–5 year period)
performance vesting– 1/3rd vests based on internal rate of return (IRR) targets achieved by the investors
Self-funded search model

Under the self-funded search model, the searcher does not raise a search round and will use their own funds to financially support the search for a business to acquire. Once a business is identified, as with the traditional searcher, the self-funded searcher will raise funds (normally through both equity and debt financing) to acquire the business.

Unlike the traditional search model where the equity split is relatively standard, there is no standard split between a self-funded searcher and their investors. The common methodology applied to determine the equity split on a self-funded deal is to multiply the investors contribution to the total acquisition costs by an agreed step up multiple (usually between 1.5x and 2.5x). This is best illustrated by an example:

The search fund proposes to acquire a company for £4.9m.
Anticipated deal costs (legal, accounting etc..) are £100k
Total acquisition costs are, therefore, £5m.
The £5m acquisition costs will be funded as follows:
- £3m from a bank loan;
- £1m vendor financing (deferred consideration/loan note); and
- £1m from an investor.
The investor has contributed 20% of the total acquisition costs (£1m/£5m)
The step-up agreed between investor and searcher is then applied. If a 2x step up is agreed, the investor would be issued 40% of the equity.
Typically, the investor would also receive a 1x liquidation preference (meaning their initial investment is repaid first when calculating the distribution waterfall on the occurrence of a liquidity event) and a preferred dividend (normally around 8% per annum).