Florida bank targets first-mover advantage in research fund financing
Professional Holding in Coral Gables, Florida is taking the road less traveled as it seeks to increase revenue amid the pandemic.
The parent company of Professional Bank’s $ 2.1 billion in assets plans to open a loan production office in Bedford, NH, an hour north of Boston, to target research funds, where a CEO in grass, often a recent business school graduate, identifies and purchases a small business.
Professional entered the distant Boston market after hiring Zach Duprey, who previously worked at Provident Bancorp in Amesbury, Massachusetts. The South Florida bank had been looking to get into research fund lending for over a year.
“Duprey’s background in space played an important role in his decision to enter this field,” said Daniel Sheehan, President and CEO of Professional, who first learned of the existence of funds from researched by a friend who actively invests in start-up companies.
“You have to have a team with reputation capital within the ecosystem to generate business flows,” Sheehan said. “I pitched the idea of different ways to enter the market, finding the right entry point. “
Professional joins a list of banks entering or expanding into narrow niches at a time when traditional businesses have become overcrowded and lending opportunities have become scarce.
BOK Financial is financing of private investors looking to purchase senior housing from real estate investment trusts. Another increasingly popular area is homeowners’ associations.
Live Oak Bancshares in Wilmington, NC, constantly assesses niche industries as part of its Small Business Administration lending platform. Live Oak, an asset of $ 8.1 billion, has been involved in research fund loans since 2017.
These efforts often require hiring the right person to oversee an expansion. The pro tapped Duprey, who spent nearly seven years as director of Provident’s Search Fund Lending Center, where he helped fund $ 250 million related to more than 60 acquisitions.
Duprey said he was impressed with Professional’s digital platform, as well as Sheehan’s understanding of the business.
“I liked that Dan was in tune with the community, so I wasn’t trying to explain what research funds were,” Duprey said. “I found Professional Bank to be a fantastic alignment and Dan was the CEO I wanted to work with to continue building this.”
Sheehan, who sees Professional emerging as an “active capital provider” to the research fund community, declined to disclose any lending goals.
The research funds were started in the mid-1980s by Irving Grousbeck, a cable television executive who went on to teach at Harvard and Stanford business schools, which became incubators for the industry.
Depending on how traditional research funds operate, a newly graduated professional will form a pool of investors, often including professors and other academics. The goal is to raise capital, identify and buy a small business where the professional can become a CEO. Members of the investor group then join the board of directors to provide advice and oversight.
Variants of this model have developed in recent years, including some where the potential CEO is largely self-financing a deal, often relying on SBA loans. The deep involvement of academics and investors is a common thread.
“Obviously, this gives a young CEO a support system and a better chance for success,” Duprey said.
Research fund loans require extensive due diligence on the part of the lender to reduce the risk.
“These are light asset transactions,” said Lisa Forrest, director of sponsor finance at Live Oak, with $ 8 billion in assets.
“There aren’t a lot of guarantees. … You have to be very comfortable and knowledgeable with cash loans, ”Forrest added. “It’s important that we spend time and actually get to know [a potential CEO] before having an agreement on the table. The investor and administrator sides are also critical. This oversight is part of what makes the formula work.
Lender risk is mitigated by the oversight provided by the boards of directors of research fund companies, said Chuck Withee, president and chief loan officer at Provident, which continues to operate in the space. Withee said Provident has built a strong team to assess and underwrite deals.
“We have a full team and we’ve built it over time,” said Withee. “It had been three years since we launched nationally,” he added. “We have sea legs. … I would advise any peer if they are exploring [search funds] to take their time, to get it right, to study, to talk to their regulators. If you do it right, it’s a great loan.
A total of 88 traditional research funds were launched in 2018 and 2019, including a record 51 last year, according to an August 2020 study published by Stanford University.
Among the deals made in those two years, the median revenue of the targeted companies was $ 6.7 million, while the median acquisition price was $ 10 million. The pre-tax aggregate internal rate of return on research fund transactions has exceeded 30% over the past three decades, the to study find.
“It’s a very interesting niche,” Withee said. “We feel really good about it. “
Most of the capital raised for research fund acquisitions comes from private sources. Only a handful of banks were involved, including Provident, Live Oak – and now Professional.
“There is maybe a group of 200 to 300 people who are serial investors” in research fund acquisitions, said Heather Endresen, another director of sponsor funding at Live Oak.
“A traditional bank lending person might perceive this as a very high risk,” Endresen added. “You take a small bank and say, ‘How would you like to lend to these young entrepreneurs on a leveraged buyout? Most will think you are crazy.
Counterintuitive movements are commonplace for professionals. The company raised its eyebrows in May 2019 when it was revealed that it made a loan to President Trump. In November 2018, Professional opened a digital lab in Cleveland to enhance its virtual banking platform. This acquired its crosstown rival, Marquis Bank, in March.
The company is currently fixing an issue with a loan it shares with other banks, including Amerant Bancorp, for Coex Coffee International, which is in orderly liquidation. Professional recorded a third quarter depreciation of $ 7.6 million related to its share of the loan.
While the research fund industry is a small niche in absolute terms, it is growing. The flow of transactions has increased over the nearly seven years in Provident’s business, Withee said, while Endresen said she expects the growth highlighted in the Stanford study to continue. continues.
“Macroeconomics doesn’t just suggest, it sort of screams that [search funds are] a great place, ”Endresen said. “There are more companies that have to change hands than there are qualified people to take them over. “