The Shotgun Fund


Shotgun showdown: Merchant bank ventures where traditional financing hesitates to go

Shotgun showdown: Merchant bank ventures where traditional financing hesitates to go

By Jim Middlemiss
Financial Post, October 7, 2003

Michael Desnoyers had come to a crossroads with his partner in the spring of 2000 and was ready to toss in the towel on Etratech, the successful electronic design and manufacturing company they had built in Burlington, Ont.

"I was comfortable with my view of the strategic direction the company should take. My partner wanted to go in a different direction, which in my opinion was damaging the company overall," he explains. So he approached his partner with a plan that would move Mr. Desnoyers out of the company. However, things rapidly deteriorated and it became like a "bad divorce."

Fortunately, his shareholder agreement included a shotgun clause, designed to allow business partners to settle their disputes once and for all. Under the agreement, one partner could put a price on the table for the value of the business and it was up to the other partner to take the money or match the offer. His partner pulled the shotgun and rather than take the money, Mr. Desnoyers decided to stay and fight for what he had helped build. The challenge, however, was finding someone with the capital to allow him to buy out his partner's share of the business within the 30-day deadline stipulated in the shotgun -- no easy task.

While he had approached GE Capital, officials there told him it would take 60 to 90 days for a decision. Luckily for Mr. Desnoyers, his accounting firm had recently attended a seminar where shotgun clauses and financing options were discussed. He was quickly put in touch with his private equity white knight, Argosy Partners Ltd., a Toronto merchant bank run by Richard Reid and Jim Ambrose.

Within 48 hours, Mr. Desnoyers had a financing commitment that allowed him to buy out his partner.

Today, the firm is prospering. There are 130 employees and more than $28-million in sales, "up substantially from when Argosy and I became partners."

"We present a solution," says Richard Reid, the founding partner of Argosy and a former partner of Gordon Capital.

The firm has three funds designed to help entrepreneurs facing challenging situations. The Shotgun Fund is set up for corporate disputes. The Succession Fund helps businesses that want to move to new owners without taking on new debt. The Bridge Fund provides short-term financing, from $2- to $5-million over six months to two years. It is for businesses that have exhausted conventional loan possibilities and do not want to turn to venture capitalists (VC) or public markets because they might be too expensive or time-consuming.

It was the Shotgun Fund that financed Mr. Desnoyers. Mr. Reid got the idea for the fund while at Gordon, when a client who had a prosperous business had a shotgun clause pulled on him. The bank that had agreed to finance the owner got cold feet at the last minute, leaving the owner scrambling to find funds.

At the time, Mr. Reid managed Gordon's $50-million Canadian Mezzanine Fund, which invested in firms that had a few rounds of venture capital funding, but before they went public. He was able to secure financing and that deal later provided a template for the Shotgun Fund.

"Shareholders in private companies have very little option as far as how they are going to get out of those companies once they are in them," he notes. They can borrow money, which simply adds debt and can cripple a company, sell the business outright or turn to venture capitalists, who will often take a larger chunk of the company and impose stringent conditions on the owners that remain standing.

That's not Argosy's style. It takes the silent partner approach, sitting back, watching the financials carefully, providing support and contacts where it can, and letting management work its magic.

Mr. Desnoyers says the reason that Etratech has been able to flourish is because "Argosy has sat back and allowed us to take our vision of what Etratech can be and allowed us to turn it into reality." While Argosy officials sit on the board and provide "tremendous advice and guidance," they have been investors not operators, he says. This distinguishes the merchant bank from many of the VC funds, which take a more hands-on approach.

Mr. Ambrose, Argosy's finance partner, says the firm differs from venture capital funds, because VCs usually take treasury stock and finance research and development or expansion. "We consider ourselves private equity and take out the existing shareholder."

Mr. Ambrose, whose tenure in the investment industry dates back to 1977, says his firm likes to write cheques in the $2- to $5-million range.

The principals have their personal fortunes tied up in the funds, as well as other investors' money. The Shotgun and Succession funds have a total of $20-million tied up in six businesses. It recently closed another round of equity financing that raised $22-million to invest in similar companies and it has another eight million in equity financing pending.

Mr. Ambrose says the Succession Fund is suitable for about 65% of the family businesses that traditionally can't make the transition to the next generation and are forced to sell.

What's attractive about the Shotgun Fund is the speed at which Argosy responds to the deals brought to them. Using a due diligence template, which the principals keep a closely guarded secret, the fund is able to respond within 48 hours. It is the due diligence process that normally slows deals.

Mr. Reid says he learned a long time ago that 85% of the information he needs in order to decide upon a deal is readily available; It is the final 15% that firms can spend six months deciding about.

As well, it's a streamlined process. "We don't engage in a month-long exchange of term sheets. We get an oral agreement to go forward," he says. This is followed by written agreements. As well, there's not much dickering. They simply ask the partner-to-be what he or she thinks the shares are worth and take it from there. That says a lot about a partner, he notes. "If you've got something for sale, you have to be brave enough to put a price on it."

Argosy requires an exit to be built into the contract. The investment is usually a minimum of four years and the firm shoots for a 20% return on its investment.






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