Search-fund investors get their hands dirty

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A new buyout vehicle is making its way north of the border, steered by a crop of young acquirers who have their eyes set on Canadian small businesses.

Search funds have been deployed in the United States for years. Unlike a typical private equity fund that buys a big company, gets a seat on its board and then restructures the firm, search funds acquire small businesses and assume control. Board seats aren't enough. The acquirers become the chief executive officers, and these new CEOS are often fresh-faced business school graduates.

A typical seller might have revenue between $10-million and $50-million, and a history of stable profits. While search funds have been popular in Harvard and Stanford MBA circles for years, they have never gained traction in Canada. Now they're popping up because few baby boomers with family businesses have succession plans, which means they have to sell to retire comfortably. Plus, Canada's economy has been a safe haven throughout the financial crisis.

The newest Canadian search fund, which launched Monday, is Toronto-based High Park Capital, run by Josh LeBrun and Adrian Bartha. The two men are not MBA grads, but they are young, they have undergraduate business degrees, and they come from the private equity world. Until July, both worked for OPTrust, the $5-billion private equity arm of the pension fund for Ontario government employees.

Mr. Bartha and Mr. LeBrun say they were drawn to search funds because they got tired of buying big companies and only getting a board seat in return. The process was very detached from day-to-day business operations, and the pair wanted to get their hands dirty.

To start their fund, they went on a U.S. road show to market themselves and amassed a respectable list of investors, including Bill Egan – a U.S. search fund veteran – and Gerald Risk, a Canadian who is president of Asurion, a technology insurer and one of the biggest search-fund success stories. These investors, along with 18 others, put up enough cash to cover High Park's overhead for two years, and when a takeover candidate is identified, they will be invited put money into the deal.

But having credible names on a marketing document only gets you so far. Just ask Rob Cherun and Erik Mikkelsen, who started Toronto-based search fund Auxo Management last year and bought their first company, UCIT Online Security Inc., in April.

"I think a lot of people can raise money," says Mr. Mikkelsen, noting Auxo also had an impressive list of investors behind it. "It really comes down to 'can you convince somebody that you're the best partner to come into a business?'

"In the first month we saw all the fluff. There are a lot of deals out there, but there are few good deals."

Auxo had to network furiously with its contacts at accounting firms and private equity funds to find business owners who were looking to sell venerable companies. Then they had to actually take over a business. Mr. Cherun and Mr. Mikkelsen say they prepared a 100-day strategy, and conveyed it to the senior management at UCIT that would soon report to them. On the first day at their new office, the two men hosted a town hall to let all of the company's employees know that they envisioned growth and had no interest in cutting jobs.

That sort of responsibility can be tough for young business people, but age has never scared away search fund investors. Mr. Risk says the people he invests in are often trained at the best business schools or they have worked in investment banking and private equity, which offers a solid footing. Plus, he says, starting out young doesn't mean you don't know anything.

Mr. Egan feels the same way. "In American football, all of the [new] quarterbacks are young, but they become great if they have a mentor or if there's someone who can help them go through the season."

Despite their impressive roster of investors, Mr. LeBrun and Mr. Bartha know the trying times are ahead. "When we closed the fund, all of our investors said, 'That's great. Good news. Congratulations.'

"But this is when the real work starts," Mr. LeBrun said.

High Park Capital doesn't have the luxury of being a first mover, something Auxo enjoyed at its launch. High Park faces competition from a number of new search funds, including Mont Vista Partners, run by Rehmann Rayani, a recent Wharton MBA graduate who has come back to Canada.

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