When Private Equity Calls

Indeed, solution providers, who found themselves scorned by investors in the wake of the dot-com meltdown, now are thrilled at the unprecedented amount of cash being pumped into the channel by seasoned private equity investors. Solution providers point out that Madison Dearborn Partners' recent eye- popping $7.3 billion cash offer for CDW translates to roughly one dollar for each dollar of revenue for CDW, which recorded 2006 sales of about $6.8 billion. For VARs seeking some payback for years of hard work, it's a heady time. But hold on. Just how well prepared VARs are before they pick up the phone could determine whether they and the business go boom or bust in the years ahead.

Top solution providers say it's not wise to take just any private equity player's phone call or to enter into such conversations lightly. They say a private equity deal is better done by seeking input up front from trusted financial advisers and colleagues who have had experience with such transactions. What's more, they say, before even considering a deal, owners must do some soul-searching about their personal and company goals. That means answering difficult questions like whether they are emotionally ready to take on debt and give up some control to investors looking for a significant return.

The top U.S. solution providers, including some who have taken the plunge, say they wouldn't even dream of taking a cold call from a private equity investor. "I turn them away," says John Marks, CEO of JDM Infrastructure, a Chicago solution provider ranked No. 231 on the VARBusiness 500 list. "If you were looking at putting a new deck on the back of your house and someone telemarketed you while you were eating dinner with your family, telling you they do decks, is that the company you really want to build your deck? Or are you going to do your due diligence and ask neighbors, friends, business acquaintances about who is reputable and will do the job right? It's the same thing with a private equity transaction. If I am going to take private equity, I'm going to get a referral from someone I trust."

First And Foremost: What Are Your Goals?
Marks and other channel veterans say the first order of business is to look seriously at the goals for both you and your company. That means spelling them out on paper and in detail. It's no five-minute gut check. It's a serious examination of where you see yourself financially, personally and professionally one, three, five and 10 years out. It means looking at whether you have the stomach to enter into a financial marriage that requires taking on debt and sharing decision-making with someone looking for a significant rate of return. "You have to be totally honest from the get-go, because the deal could end up being bad for one side—typically yours—because these private equity guys know what they are doing," Marks says.

Next: The Temptation

The Temptation
Solution providers say the current sizzling private equity market will lead to more than a few bad deals. Think about it. Many VARs are enamored with being the object of financial affection, and private equity players with cash to spare are hot to make deals. But just because you can do a deal doesn't mean you should. "These private equity guys get paid by doing deals," says Ron Dupler, CEO of GreenPages, a Kittery, Maine, solution provider ranked No. 246 on the VARBusiness 500 list. "Right now, there is money on the sidelines that they need to invest to drive forward. When you get those calls and you are making the decision, it all comes down to investor goals. At the end of the day, it's all about what your objectives are. I don't think there is any magic formula. It comes down to the financial metrics each company has and what the game plan is over the next two or three years."

Dupler, who receives two or three calls a quarter, says he and Greenpages investors are happy and not looking for a private equity infusion. "We have the financial wherewithal to drive this company forward," he says. "We're not looking to monetize it, and we are very bullish on the industry as a whole and our company in particular."

Private Equity Ups Their Game
Jim Simpson, president and CEO of MSI Systems Integrators, a $330 million IT solution company ranked No. 143 on the VARBusiness 500 list, says he is looking at the private equity equation more closely than ever given all the recent activity. What's changed over the past year is the size and quality of the firms looking to invest in well-respected solution providers, he says.

Simpson, who heads what is considered one of the most respected IBM-centric regional solution providers in the country, says he is getting about one call, e-mail or letter a week vs. the two or three a month he was receiving two years ago. What's more, those calls two years ago were usually from smaller private equity companies fishing for owners looking for an exit strategy. Now, the players are larger, higher-quality companies coming to the table with deep industry knowledge and are looking to keep management in place to take a larger chunk of market share with higher returns. "The game has been raised," Simpson says.

"We have been on an organic self-funding path," he says. "So we have largely ignored the [private equity] shots over the bow over the last few years. But clearly we are paying attention now. My shareholders and employees would be looking at me funny if I wasn't looking out for them with everything going on in the industry now."

Next: Take The Plunge?

Take The Plunge?
That ability to take advantage of rapidly changing market dynamics is what propelled Sirius Computer Solutions, the top IBM solution provider in the country and ranked No. 77 on the VARBusiness 500 list, to seek out a private equity partner. Last November, Sirius finalized a recapitalization, with private equity investor Thoma Cressey Equity partners taking a stake in the San Antonio solution provider.

Harvey Najim, president and CEO of Sirius, and his partner, Joe Mertens, executive vice president, made a decision 16 months ago that the solution provider landscape was entering a period of hyperconsolidation. "We made the decision we wanted to be a consolidator vs. a consolidate. If you're going to be a consolidator, then you have to have access to capital markets and cash," Najim says. "We decided at the time the financial markets were attractive."

Najim says he never took any cold calls from the frequent private equity players knocking on Sirius' door, deciding instead to hire a top international investment bank and adviser, Houlihan Lokey HowardZukin. Najim says he chose that firm because of its methodology, which was more exacting than the usual process of putting out a prospectuslike book to a large number of prospects. "We requested that no books go out," Najim says. "They proactively picked up the phone, based upon knowing us, and tried to see if there was anyone interested in having conversations with us." Ultimately, Houlihan Lokey selected about 25 firms, which were then narrowed down to about 12 after preliminary calls, then to three before Thoma Cressey was selected. What particularly impressed the Sirius team was Thoma Cressey's corporate culture, which included a fair amount of autonomy. And, of course, being attracted to the corporate culture also means liking the people that are your partners. "This is like a marriage," Mertens says.

Benefits And Warnings
Beyond the benefits of the capital necessary to fund growth or acquisitions, a private equity deal brings a wealth of intellectual capital that management can tap for improving financial discipline and managing and completing M&As.

Jim Dixon, who was named CEO of CompuCom Systems after Platinum Equity acquired the company in October 2004, says the benefits of teaming with Platinum have propelled CompuCom to new heights. "These [private equity] guys have strengths, and you've got to use their strengths and yours so one plus one equals three. Their strengths are on the financial side, including cash management, raising cash, cutting costs and M&A." Two months after the CompuCom acquisition, Platinum bought General Electric's IT Solutions Company. That M&A expertise allowed for a seamless integration of the two companies and a stronger, more profitable joint company. "Our operating profits have gone up, and our costs as a percent of revenue have gone down," Dixon says.

JDM Infrastructure's Marks says the cash windfall coming into the channel ultimately could open the door to either financial paradise or ruin. "This is the most significant period I have ever seen of intelligent investing in this business," says the 47-year-old Marks. "Keep in mind, the Internet boom and bust was unintelligent investing. The upside is, with the right deal, you get an infusion of cash to grow the company to levels you couldn't without the money. The downside is, you give up a small or significant piece of your business and you have partners. And if you do the wrong deal, you could end up losing your business."

JOSEPH F. KOVAR contributed to this story.