Lower Middle Market

Companies with annual revenues of $5 million to $50 million

What is the Lower Middle Market?

Lower middle market refers to the lower end of the economy’s middle market segment, which is measured in terms of the firms’ annual revenue. Firms that are grouped under the lower middle market category realize an annual revenue that ranges from $5 million to $50 million.


Lower Middle Market Diagram


Lower middle market companies are usually ranked just above small and medium enterprises (SMEs), which report revenues lower than $5 million. Even though the annual revenue is the most common criteria used for such a classification, other metrics used in some cases include the employed capital assets and the number of employees.

The lower middle market is usually the largest segment in most economies in the world by the number of companies and represents more than 90% of all middle-market companies. Firms in the lower middle market usually play a major role in the global, as well as the national economy. They often make a significant contribution to employment generation and the gross domestic product (GDP) in the corresponding national economies.


Investing in and Managing Lower Middle Market Companies

A number of private equity firms and boutique investment banks put their focus on the lower middle market segment and improve proficiency in doing deals in the segment. Investors typically make use of the classification to assess the category’s high growth potential against the involved risk in order to arrive at prudent valuations. Numerous potential buyers tend to search for acquisition targets in the lower middle market since valuation multiples in such a market are usually lower.

Moreover, skilled business buyers can obtain operational improvements more easily for businesses in the lower middle market. Lower middle market companies, which enjoy a higher probability of growing and becoming part of the higher segment, typically command a valuation premium. Therefore, the classification leads to a healthy expansion of a divestment market.

Though not always the case, lower middle market companies are largely family-owned businesses, with most of the senior ranks in management occupied by family members. To be a successful business owner in the lower middle market, you need to learn how to work through well with other people.

The success of your business will depend on how good you can do it. Hiring is generally vital, but it is even more vital in the lower middle market. Since the business owner cannot get involved in every single decision any longer, ensuring that the right people are in the right places will determine the success or failure of the business.


Capital Sources Used by Lower Middle Market Companies

The present economic environment offers numerous sources of capital that middle market companies can use for their growth objectives and working capital needs.


1. Bank Debt

Bank debt is the most common capital source, as well as a trusted line of credit, that is normally available for lower middle market companies that are financially strong. Banks commonly look for an operating history of not less than five years, with the latest years being on a profitable level.


2. Mezzanine Debt

Mezzanine debt refers to a group of debt with equity-like features. Lower middle market companies mostly use mezzanine finance as a capital source for acquisitions, even though it can also be used for growth capital, as well as other financial needs. It offers a number of benefits, such as little to no dilution and a relatively higher funding amount. It makes it an ideal way to finance family-owned businesses.


3. Asset-based Lending

Asset-based lending is a capital source that provides a line of credit financing with the assets of a company being used as security. The asset lending class is typically 60% on inventory and 85% on accounts receivable, with the advancement of some funds also being done against the capital assets.


4. Public or Government-Sponsored Companies

Public entities and government-sponsored entities are a nice place to look for capital sources for recapitalization, growth acquisitions, expansion buyouts, etc.


Key Takeaways

The lower middle market represents small to medium-sized entities in the economy that typically do at least $5 million in sales each year. Although it takes a lot of work to get it, businesses that are in this group usually receive more offers from investors with an interest in purchasing them. Many people often don’t realize how hard it is for a business to get to the lower middle market. It is at the lower middle market where the business increases in complexity.

Upstream movement from a microbusiness to being a middle market entity necessitates that you become a manager and learn how to manage managers. Therefore, management and hiring skills are very important in the lower middle market.

The business owner needs to learn how to manage, set standards, and inspect to ensure that said standards are met. The wide variety of alternative sources of capital sources enable lower middle market companies to enjoy the choice of comparing and selecting the most appropriate capital structure that is favorable to their financial requirements.


More Resources

CFI is the official provider of the Financial Modeling and Valuation Analyst (FMVA)™ certification program, designed to transform anyone into a world-class financial analyst.

To keep learning and developing your knowledge of financial analysis, we highly recommend the additional resources below:

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