From time to time, middle-market companies face growth inflection points in terms of building a new plant, launching a new product or expanding into new geographies. For companies with less than $100MM in revenues in the United States, the capital markets on both the equity and debt side have become severely dislocated. Lateral addresses this opportunity by engaging with businesses that seek a value-added capital partner to help them navigate growth transitions without giving up control of their long-term future.
The middle market is a large and important segment of the US economy. It consists of 350,000 companies which employ 25% of the US workforce and collectively generate $6 trillion in gross revenues. Despite increased borrowing levels by consumers and large companies in recent years, middle-market companies have seen a structural reduction in access to both debt and equity capital, for systemic reasons unrelated to individual corporate credit risk.
In the US, the supply of credit for the lower middle market has unraveled. Banks have shuttered or downsized commercial lending operations in favor of structured financial products like levered loans and consumer mortgages that can be sold off quickly. In some states, the number of banks is down by 40% in the past decade. The 2007 financial crisis disproportionately affected regional banks with commercial lending operations and weakened commercial finance companies. Regulation such as Basel III and Dodd-Frank have institutionalized this shift of banks and finance companies away from private company loans toward liquid rated securities.
Access to the equity markets for middle market companies has also deteriorated in the past decade for different reasons. The public equity markets have been challenging, because of volatility and increased hedge fund trading, reduced research coverage and Sarbanes-Oxley. The IPO markets have been virtually closed for middle-market companies. And most significantly, private equity funds have moved upmarket as fund sizes have grown tenfold during this period turning traditional growth equity investors into buyout firms with minimum deal sizes of $50 million and above. For a successful manufacturing business in the United States with $5MM in EBITDA, the most likely source of equity funding is a lower middle market buyout firm which requires the owner to sell control to a financial player rather than to build a larger independent company benefiting his or her family and employees.