Equity rolls are a critical component of many Managed Service Provider (MSP) M&A deals, allowing sellers to retain a stake in the business post-transaction. For MSP owners considering a sale, understanding how an equity roll works—and the implications of different structuring choices—can significantly impact their financial outcomes.
What Is an Equity Roll?
An equity roll refers to the seller reinvesting a portion of their sale proceeds into the newly structured business, rather than taking all cash at closing. This structure aligns the seller’s interests with the buyer’s, creating a shared incentive for the company’s continued success under new ownership.
Buyers often require an equity roll as a way to ensure continuity and to motivate the seller to contribute to future growth. In MSP transactions, this is particularly common when private equity (PE) firms or strategic buyers are involved.
Rolling X% of Proceeds vs. Retaining X% Equity Ownership
A crucial distinction in equity rolls is the difference between rolling X% of proceeds versus receiving X% ownership—a difference that stems from the use of leverage in acquisitions.
Rolling X% of proceeds: If a seller agrees to roll 20% of their proceeds, they are reinvesting a portion of their after-debt cash into the business. The ownership percentage they retain will depend on the deal structure, particularly the leverage (debt) used to finance the transaction.
Receiving X% equity ownership: If the agreement specifies that the seller will receive X% equity ownership, the calculation occurs after accounting for debt.
Sellers need to be clear on whether their roll % is based on pre- or post-debt valuation, as this significantly impacts the true dollar amount rolled forward.
Pari Passu Treatment
Another key concept in equity rolls is pari passu treatment, which means “on equal footing.” This principle ensures that rolled equity is treated the same as the buyer’s investment in terms of future returns and liquidity preferences.
Key Takeaways for MSP Owners
- Clarify Whether You Are Rolling a Percentage of Proceeds or Retaining a Percentage of Equity – These are not the same and can lead to vastly different financial outcomes.
- Understand the Impact of Leverage – A leveraged transaction can significantly reduce the effective ownership stake you retain when rolling equity.
- Consider the Long-Term Strategy – Rolling equity aligns incentives but also ties your wealth to the company’s future performance. Make sure this aligns with your risk tolerance and financial goals.
For MSP owners contemplating a sale, structuring the equity roll correctly can make the difference between simply cashing out and participating in meaningful upside growth. If done right, it can provide a second bite at the apple—but only if the terms are well understood and negotiated appropriately.
