Outside Stanford's Graduate School of Business home to Stanford’s Centre for Entrepreneurial Studies which is researching search funds

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Growing up in Ireland during an era of double-digit unemployment in the 1980s sparked a desire in Ciaran Power to become a different type of business person.

“I’m not the entrepreneur who needed to be in technology or make tons of money. I just wanted to build something,” he says. But he quickly hit a dead end when he realised he lacked both novel ideas and practical experience.

His fortunes changed while attending business school at Stanford, where he latched on to the idea of launching a search fund — a vehicle by which an individual “searcher” raises money from investors to look for and ultimately acquire an existing company instead of starting one from scratch.

After raising $450,000 at the onset to pay himself a $65,000 salary and cover the expenses incurred during his 21 month search for the right company, he came across Discovia — a document management company. Seeing the potential to revamp the company by transitioning its services to the cloud, he raised another $3.75m to acquire it outright and built it into a leading ediscovery provider.

As Mr Power’s case illustrates, being an entrepreneur does not necessarily mean building a start-up from the ground up. Acquiring a small to medium-sized company through the search fund model has become a popular manoeuvre to bypass the start-up phase altogether. It is particularly appealing to those who feel they have an entrepreneur’s talent for growing an established business but do not feel they have the skills to start something from scratch.

Rich Kelley, co-founder of Search Fund Partners, a Silicon Valley firm that invests in search funds, says: “A lot of our guys come to us because they have this vague idea they want to run a business. They think hard about start-up ideas, but then come to the realisation that they don’t have any. They’re saying: ‘I don’t want to be the smartest guy in the room, I just want to run a business’.”

In 12 years, Mr Kelley’s company has invested in close to 50 companies and is currently working with 40 searchers who are in either in the process of raising money or looking for the right acquisition.

200 such funds are currently in existence in the US and Canada, with the number growing steadily since the idea first emerged in the 1980s, according to Stanford’s Centre for Entrepreneurial Studies.

Though the search fund ecosystem has largely developed around elite North American business schools, interest has ticked up internationally, as European schools have begun teaching and promoting the model. Currently, several search funds are being raised each year in the UK, Germany, Spain and Switzerland.

Irving Grousbeck, a Stanford professor who has been a central figure in the proliferation of search funds, says that searching can minimise the challenges that face entrepreneurs who are fresh out of business school.

“If you start a company with no experience, you’re laying two huge sources of risk on top of each other. First, you have start-up risk, and second, you have no managerial experience.

“If you buy a company, you’re mitigating both of these,” he says, adding that he frequently recommends the search fund path to students who have backgrounds as analysts or advisers but lack actual operating experience.

But purchasing and revamping an established company via a search fund instead of launching one yourself is no easy feat. There are potential snares at every stage, starting with raising enough money at the outset.

Rob Johnson, founder of the International Search Fund Center at Iese Business School in Barcelona, says: “Overcoming the usual question is a big challenge: ‘Why should I pay you to find a company? Just come see me when you have a deal, and I’ll invest then’.”

Of those searchers who raise the recommended $500,000, roughly a third fail to find a company suitable for purchase because of reluctance of the sellers, poor transparency or just bad luck.

Acquiring a company second-hand can also be like buying a used car, in that the buyer runs a high risk of inheriting somebody else’s problems. The seller may not always be completely transparent, and problems may not emerge until well after the deal has been closed.

Even when the searcher does his homework and finds a company that is making money and has solid fundamentals, being catapulted into the executive suite of an existing firm as a greenhorn is a steep learning curve that requires skills that are not always well-taught at business schools.

Mr Power says he and his team rapidly needed to perfect their leadership, sales and management acumen after they took over Discovia.

“We had nice backgrounds from Stanford and top consulting firms, but the reality was we were stepping into an organisation that had 48 people who needed to have faith in us. We needed to be able to guide and direct them.”

Copyright The Financial Times Limited 2017. All rights reserved.
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