Creo Capital Partners helped close its leveraged buyout of frozen food company National Harvest recently by offering the sellers royalty payments tied to the company’s performance.
The idea is similar to an earnout, a contractual provision in which the seller gets future compensation based on profits. Royalties, however, are tied to revenues. Both methods intend to alleviate uncertainty in the buyer. The arrangement offers the seller upside profit while lowering Creo’s risk.
Terms of the deal were not disclosed. The Los Angeles buyout shop typically invests in companies generating revenues of $15 million to $150 million and with enterprise values of $10 million to $100 million.
Creo partner Nick Sternberg said the royalty structure allowed Creo to put up a quarter of what the seller, Plaza Belmont Management Group, initially asked for. Creo will pay Plaza, a private equity firm in Kansas, a percentage of National Harvest’s revenues monthly for three years. If the company is successful, Plaza will have made more money than it initially asked for, Sternberg conceded. But Creo also has a buyout option, so it can pay a lump some at any time, ending the royalties.
Creo was unwilling to pay Plaza what it initially wanted because National Harvest has one major retail customer, Costco, and because some of its products are seasonal. Sternberg declined to comment on how much Plaza wanted.
Sternberg believes Creo will see a return on its investment in 18 months because it can tap distribution from First Street Food Group, its L.A.-based platform company in food services. But they wanted to lower risk anyway. “If the company goes down, we’ll lose, but we’ll lose way less,” he said. “It protects us.”