Search funds have become an increasingly popular investment model for entrepreneurs and investors who aim to acquire and lead established businesses. With various models of search fund existing, understanding the nuances between different types of search funds is crucial for anyone considering launching a search fund or investing in a search fund. In this guide post, we’ll delve into the most common types of search fund.
To start with, let’s look at the three main models of search fund:
1) Traditional Search Funds
Overview
A traditional search fund is typically established by one (or sometimes more) aspiring entrepreneurs who seek investment from institutional investors or high-net-worth individuals to fund their search for a business to acquire. These investors provide capital not only for the search process but also for the eventual acquisition of a target company.
Structure
- Search Phase: The entrepreneurs, known as “searchers,” raise an initial fund to cover their salaries and search-related expenses, such as travel, legal fees, and due diligence costs. This phase usually lasts 18-24 months.
- Acquisition Phase: Once the searchers identify a target company, they secure additional capital from their initial investors to finance the acquisition and any necessary operational improvements.
Pros and Cons
- Pros: Access to a network of experienced investors, potentially easier sourcing of an acquisition company, lower financial risk for the searchers, and often better terms for both parties due to established relationships.
- Cons: Searchers may have less control over the investment decisions, more defined timelines and have to share more equity with their investors.
2) Self-Funded Search Funds
Overview
In a self-funded search fund, the searcher finances the search phase independently, relying on personal savings or small loans rather than raising capital from external investors. This approach provides greater autonomy and can result in higher equity stakes for the searcher in the acquired company.
Structure
- Search Phase: The searcher uses personal funds to cover the costs of the search process. This often means a leaner and more efficient search.
- Acquisition Phase: Once a target company is identified, the searcher raises capital from investors solely for the acquisition, retaining a larger ownership percentage than in traditional search funds.
Pros and Cons
- Pros: Greater control and ownership, flexibility in decision-making, and potentially higher returns.
- Cons: Higher financial risk for the searcher and less support from experienced investors during the search phase, potential difficulties in raising acquisition capital without a track record or substantial network.
Single Sponsor Search Funds
Overview
Single sponsor search funds work in a very similar way to the traditional search fund model above, except there is only one investor or ‘sponsor’. In this case the searcher will form a partnership with a single investor that may be a family office, private equity firm or another type of individual investor. This is really the only key difference from the traditional search fund model.
Structure
- Search Phase: The searcher is usually backed by their sponsor to cover the costs of the search process.
- Acquisition Phase: Once a target company is identified, the searcher presents the deal to their sponsor who will then put forward the acquisition equity capital needed to complete the acquisition.
Pros and Cons
- Pros: Very close collaboration, support and guidance from the sponsor and an investor that is motivated and aligned, possibly resulting in less risk to the searcher.
- Cons: Less control or freedom in terms of the acquisition, potentially less integration into the wider search fund community or the benefit of insights/support from a greater mix of investors.
The three search fund models described above are the main types of search fund. Each can also then come with their own twists in terms of whether they have a geographic or industry focus – these are important considerations when thinking about launching a search fund that will work best for you. Here are some more details:
Geographic Search Funds
Overview
Geographic search funds focus on acquiring businesses within a specific geographic region. This type of fund appeals to searchers who have a strong understanding of and connection to a particular area, leveraging local insights and relationships.
Structure
- Search Phase: The searcher raises funds or self-funds the search within the designated geographic area.
- Acquisition Phase: The searcher seeks companies within the target region, which can streamline due diligence and integration processes due to local familiarity.
Pros and Cons
- Pros: Localised knowledge and relationships can lead to better deal sourcing and integration, potentially lower competition from other searchers.
- Cons: Limited geographic area may restrict the number of available quality targets, potential over-reliance on the economic conditions of a specific region.
Industry-Focused Search Funds
Overview
Industry-focused search funds concentrate on acquiring businesses within a specific industry. This approach is ideal for searchers with substantial experience or a strong interest in that industry, allowing them to leverage their expertise to identify and improve target companies.
Structure
- Search Phase: The searcher raises funds with a defined industry focus, which can attract investors with shared interests in that industry.
- Acquisition Phase: The searcher pinpoints companies within the targeted industry, often looking for synergies or opportunities to apply their industry knowledge.
Pros and Cons
- Pros: Enhanced expertise and credibility in the chosen industry, potentially better synergies and operational improvements post-acquisition.
- Cons: Limited industry focus may reduce the number of available targets, potential industry-specific risks.
Other Variations of Search Funds
Corporate Search Funds
Corporate search funds involve established corporations supporting searchers in acquiring businesses that complement their existing operations. This type of search fund allows corporations to diversify their investments and access entrepreneurial talent.
Family Office Search Funds
Family office search funds are backed by family offices, which manage the investments of wealthy families. These funds provide patient capital and often a high degree of stability and support for the searcher.
Search Fund Accelerators and Mentoring
Some searchers may receive backing and mentorship from experienced entrepreneurs, investors (such as private equity firms), accelerator or incubator models. This support can include financial investment, strategic guidance, and access to valuable networks along with structured educational programs that increase the chances of a successful acquisition.
Sources, citations and recommended reading:
- M&A Source provide a good overview of the main search fund models here: https://masource.org/education/articles/search-funds-101/
- Investors GTEntrepreneurs provide a good investor perspective on self funded vs traditional search models: https://www.gtentrepreneurs.com/blog-posts/self-funded-vs-traditional-search-funds-whats-the-difference
