Management fee in M&A

Management fees play an important role in many medium-sized companies, especially within group structures or in companies controlled by a holding company or shareholder. In day-to-day operations, these fees are often logically structured.

In a M&A transaction However, management fees take on a different meaning. During a sale or acquisition, they regularly prove decisive in discussions about EBITDA normalisations, net working capital and deal mechanics.

For buyers, sellers and investors, proper analysis of management fees is therefore essential within the Financial Due Diligence process.

What is a management fee?

A management fee is a fee paid by an operating company to a shareholder, holding company or group company for services rendered. This can cover:

• Strategic steering
• Management support
• Central services such as finance, HR or IT
• Use of shared services within the group

In practice, we see that management fees vary widely in:

• Size and frequency
• Contractual commitment
• Substantiation and specification
• Relation to actual services provided

Often these fees have grown historically and are not always sharply aligned with market rates or the company's future stand-alone position.

Why are management fees important in an acquisition?

For buyers, a business acquisition is all about the sustained profitability of the company. Management fees influence this profitability directly, particularly through:

1. EBITDA and normalisations

Are management fees structural and market-based?
Or should they be (partially) corrected if add-back in EBITDA?

Too aggressive normalisation can lead to an overestimation of earnings capacity. Conversely, incorrect estimation can destroy value in negotiations.

2. Net working capital (NWK)

Does the management fee refer to an operational obligation or a shareholder position?
Open intercompany positions may affect the net working capital position at closing.

3. Deal mechanics and leakage

In locked-box transactions, a management fee may qualify as either permitted or unpermitted leakage.
In closing accounts structures, the treatment of management fees plays a role in final pricing.

The role of Financial Due Diligence in management fees

Within a Financial Due Diligence in the Netherlands we analyse management fees not only in accounting terms, but also economically. In doing so, we look at, among other things:

• Which services are actually provided
• Whether these services will continue to be needed post-transaction
• What a realistic market replacement would cost
• Whether there are shareholder costs that are not operational

Based on this analysis, we determine whether a management fee:

• Fully normalisable (full EBITDA add-back)
• Partially to be replaced by market-based costing
• Representative of the future situation

Crucial here is consistency between EBITDA normalisation and treatment of the associated balance sheet position. An adjustment in the income statement should be logically consistent with the treatment in working capital and transaction arrangements.

Common pitfalls in management fees in M&A

In practice, we regularly see that:

• A full add-back is proposed, while external management fees still have to be sourced after closing
• Management fees insufficiently contractualised
• Intercompany positions lead to discussion at closing
• The economic reality does not match the tax or accounting treatment

An incorrectly interpreted management fee can lead to:

• A distorted view of EBITDA
• Discussion on appropriate net working capital position
• Price adjustments at closing
• Post-closing disputes

Management fee and carve-outs

In carve-outs or family businesses in particular, the analysis of management fees is crucial. Here, cost structures are often intertwined with the group and it is not obvious which costs remain independent after an acquisition.

Thorough Financial Due Diligence prevents management fees from becoming a negotiating tactic rather than an economic reality.

Conclusion: management fees are not a standard add-back

Within an M&A transaction, management fees are not an administrative formality. They have a direct impact on:

• EBITDA
• Rating
• Net working capital
• Deal mechanics

A thorough Financial Due Diligence charts the economic reality behind the management fee and avoids surprises at a later stage of the transaction process.