At the bottom of this post you’ll get a quick round up on who’s taking the CFO seat at PE-backed companies. Scroll down for the latest from Crusoe, Universal Background Screening, and MoneyGram.

The origin of the term “stalking horse” comes from hunting, where in the 16th century hunters realized that fowl (birds) were spooked by humans, but you could get much closer if you hid your head and torso behind a horse. It became a clever way to sneak up on your prey (Source: Docket).

The term is used most commonly in bankruptcy proceedings. It’s the opening bid to set a reasonable floor and prevent a “naked” auction from occurring where someone walks away with a total steal. Ideally it gets the auction process moving and attracts other qualified buyers.

In return for throwing the first number out there, the stocking horse bidder gets extra incentives, like a promise of breakup fees and deal expenses paid back if it doesn’t go through.

To make that more real, imagine a debtor selling a used car where the stalking horse bidder offers $3,000 below the blue book market value, but requests a $4,000 breakup fee. Pretty good business if you win or lose.

While the whole idea is to encourage competition, it doesn’t always result in the intended outcome. One example that comes to mind is the sale of Bed Bath and Beyond. To kick off the bankruptcy proceedings, Overstock.com threw a bid in… but no on else showed up. As a result, they won the auction with their low ball offer. Woops.

While the term is traditionally used in bankruptcy proceedings, the same concept can be more loosely applied in non bankruptcy M&A situations.

The term is being throw around right now with the Warner Brothers - Netflix acquisition, with some analysts calling Paramount’s takeover bid merely a stalking offer. While I don’t fully buy it, as Parmount’’s bid seems like a true hostile takeover attempt, it forces Netflix to reach deeper into their pockets to ensure they win the deal.

If we tie this back to middle market private equity deals, when a company decides to run a process (or the always believable “non-process process”) bankers will try to get someone to throw a non binding offer (IOI) in, even if the company never intends to end up with that party. On one hand, yes, the number they write down is important, but past a certain threshold, it’s secondary. The real value is the FOMO it generates, and the forward momentum it unlocks.

This usually takes the form of bankers quietly floating the idea to friendly biz dev teams they know are hungry to spend some money and look busy.

Once they have an IOI in hand, they’ll take it to companies whom they want to jolt into action, framing it as if the target wasn’t even in market, but received a compelling offer that will, in the interst of shareholders, necessitate the need to kick off a more formal process.

To put it in banker speak, they may communicate something like:

Even better if the stalking horse is a well known competitor.

There are some real risks of running this playbook, of course. The biggest is burning a good partner. If you go to someone in your ecosystem who currently helps you make money, and they find out they were essentially used to drum up interest, there could be bad blood. And that could hurt your revenue potential down the line for when you do actually line up a qualified buyer.

The other risk is simply appearing like you are in market too much. You don’t want to be doing this every six months. It will come across as less of an opportunistic situation for real buyers, and more the desperate boy who cried wolf.

Be careful which narratives you promote, and which wolf (or horse) you feed.

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