Mergers & Acquisitions For Dummies
Overview
Explore M&A, in simple terms
Mergers & Acquisitions For Dummies provides useful techniques and real-world advice for anyone involved with – or thinking of becoming involved with – transactional work. Whether you are a transactions pro, a service provider tangentially involved in transactions, or a student thinking of becoming an investment banker, this book will provide the insights and knowledge that will help you become successful. Business owners and executives will also find this book helpful, not only when they want to buy or sell a company, but if they want to learn more about what improves a company’s value. The evaluation process used by M&A professionals to transact a business sale is often quite different from the processes used by owners and executives to manage those businesses.
In plain English terms that anyone can understand, this book details the step-by-step M&A process, describes different types of transactions, demonstrates various ways to structure a deal, defines methods to identify and contact targets, provides insights on how to finance transactions, reveals what helps and hurts a company’s valuation, offers negotiating tips, explains how to perform due diligence, analyzes the purchase agreement, and discloses methods to help ensure the combined companies are successfully integrated. If you’re getting involved with a merger or an acquisition, this book will help you gain a thorough understanding of what the heck is going on. Updates to this second edition include quality of earnings reports, representation and warranty insurance, how to hire investment bankers, changes to the offering documents, the rise of family offices, and the ubiquity of adjusted EBITDA (earnings before interest, tax, depreciation, and amortization) as a basis for valuation.
- Understand the merger and acquisition process in a simple, easy-to-understand manner
- Learn the nomenclature and terminology needed to talk and act like a player
- Determine how to hire the people who will help you conduct M&A deals
- Discover tips on how to successfully negotiate transactions
Mergers & Acquisitions For Dummies is a great choice for business owners and executives, students, service providers, and anyone interested in M&A transactions.
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About The Author
Bill Snow is a noted authority on mergers and acquisitions who has represented buyers and sellers in a multitude of industries. He speaks regularly at events, panels, professional groups, executive forums, and college classes, and is registered with FINRA as an investment banking representative.
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mergers & acquisitions for dummies
CHEAT SHEET
A merger or acquisition is a huge deal for any business, so you want your mergers and acquisitions (M&A) transaction to be a success from start to finish. Understanding the keys to M&A success helps you see the process through from step one to closing and integration.Keys to successfully completing a M&B dealAn M&A deal is the biggest deal of your life, so completing a successful transaction is key.
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Mergers & Acquisitions
Although no one-size-fits-all approach applies to writing an M&A letter of intent (LOI), the basics include some boilerplate legalese and some detail about the specific deal at hand.
As with all these specific legal documents, speak to your advisors.
M&A LOI: Holdback and escrow
Most deals delineated in an LOI include a holdback, an amount Buyer withholds from Seller for a period of time just in case the company has some sort of problem (usually a breach of a representation or warranty) after the deal closes.
Mergers & Acquisitions
Although the main cost in any M&A transaction is most likely the cost to acquire the company (or assets), both Buyers and Sellers incur other costs. These costs range from the retinue of advisors needed to close deals, paying off debt, adjustments made after the close, and, regrettably, taxes.
Advisors’ fees and other costs
M&A deal-makers can’t do the job alone.
The decision to sell a business means the owner eventually has to tell his banker of the M&A transaction or pending transaction. The first step is to review the loan covenants for any guidance as to when the bank needs notification.
Barring any specific requirements (such as Seller alerting the bank when he hires an intermediary to sell the business), the right time to make the announcement often depends on whether the company in good financial health.
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The indication and its key piece of information, the valuation range, merely set up the next steps for the M&A process: meetings, letters of intent, due diligence, and (cross your fingers) the closing. But those aren’t the only aspects of the indication.
Introduction
The indication starts as most well-written letters start: with some introductory lauding.
Mergers & Acquisitions
Mergers and acquisitions are simply buy-sell transactions. You can’t sell something unless you have a buyer for it. You can’t buy something without a seller. In the vast world of M&A, there’s more than one type of each.
A close up look at buyers in M&A
In documents and contracts and agreements, you usually see Buyer as a defined term, which means it’s capitalized.
Mergers & Acquisitions
The Seller in an M&A deal needs to provide information about every aspect of the company so the Buyer can do her due diligence prior to closing. These are the types of information that Seller will need to provide about company operations:
Listing of all existing products or services and products or services under development.
Mergers & Acquisitions
Make no mistake: Buyers don’t enter into an M&A transaction because of feel-good business-book babble like “the right fit” and “synergy.” They make acquisitions for one simple reason: profit. Besides EBITDA, Buyers measure profitability in various ways. The following presents the main methods.
Return on equity
Return on equity, or ROE for short, is simply the amount of income divided by the total amount of the company’s equity.
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To complete M&A due diligence, a Buyer needs access to information about all aspects of the business. One of those aspects is debt and financing arrangements. This is a comprehensive list of the kinds of things that a Seller will need to provide to the Buyer about the debt and financing instruments of the company.
Mergers & Acquisitions
Once a letter of intent (LOI) has been penned and signed for your M&A deal, the Seller will need to provide information to the Buyer about the company and its status. These are examples of some of the corporate information that Seller will need to provide. Of course, every situation is different and not all will apply.
Mergers & Acquisitions
If you are a selling your business in an M&A deal and are close to signing a letter of intent (LOI), it’s time to get your company documentation in order. The buyer in your deal will need access to information about every aspect of your business to do his due diligence. Since you will be asked for environmental information, here is a list of documents you should provide, if applicable to your company.
Mergers & Acquisitions
Seller financing — why would a Seller do such a thing? Oh, that’s right: to help get am M&A deal done! A Seller willing to provide financing to a Buyer gains the benefit of being able to move on to the next phase of life — retirement, hobbies, charity work, or perhaps starting another business — while receiving consideration as the result of the sale.
Mergers & Acquisitions
The most obvious source of capital for an M&A deal is for Buyer to use his own money. The benefits are obvious: a Buyer using his own money has total control over the situation. A third-party lender usually institutes hoops for the Buyer to jump through; using his own money removes those external limitations.
The downside is that money isn’t a bottomless pit, and a company putting money into an illiquid asset such as an acquisition ties up that capital such that the money can’t go toward other important expenses such as payroll and other operating expenses.
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Sellers, take some time to determine whether a Buyer is a legitimate Buyer and not just dabbling in mergers and acquisitions. If Buyer is a publicly listed company, its financial statements are publicly available. Pay close attention to the balance sheet in particular.
How much cash and how much debt does Buyer have?
Mergers & Acquisitions
The amount of information that the Seller needs to provide to a Buyer in an M&A deal frequently catches Sellers off guard. The Buyer needs access to information about all aspects of the company’s business in order to do her due diligence and the Seller is expected to provide access to that information immediately after the letter of intent (LOI) is signed.
Mergers & Acquisitions
One of the biggest mistakes made by Sellers in an M&A deal is thinking that it is the Buyer’s responsibility to discover any problems with the business. It is not. The Seller is obligated to disclose what she knows about the business to the Buyer. Not doing so creates an atmosphere of mistrust, at the very least, and may be illegal.
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It takes only one. That’s the phrase of the day. It takes only one Buyer or Seller to close your M&A deal. That said, you need to consider the odds of successfully closing a deal when your target list amounts to a random sample of one. Those odds are poor.
Even if you do manage to develop a deal with that one suitor, the terms would likely be less than ideal, especially if you’re the Seller.
Buyers often prefer to negotiate M&A deals without the nuisance of competition. Strike that; Buyers always prefer to negotiate deals without the nuisance of competition. Who can blame them? Removing competition puts Buyer in a stronger position. That’s why Buyers often want to lock Sellers down with an exclusivity clause.
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The number one M&A negotiating tactic to steer clear of is bullying. For some crazy reason, negotiating novices tend to think negotiating is about imposing their will on the other side with a take-no-prisoners approach.
Bullying and cajoling don’t work. Bullying simply gets in the way of getting a deal done. Someone experienced at negotiating M&A transactions either sidesteps the bullying, ignores it, or calls the bully out.
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A failure to communicate can be major problem and even a death knell for the M&A process. Communication problems typically come in one of three flavors:
Purposely communicating incorrect information: You may know this better as lying. Unfortunately, many people conveniently forget the benefits of honesty, which is why due diligence is a necessary part of the M&A process.
Disagreements about the price of the company are sure to pop up in any M&A process. But you have a few options for reaching a valuation agreement, including structuring an earn-out, using a note, accepting stock, and selling only part of the company.
If you’re a Seller thinking about agreeing to any or all of these arrangements, be sure to get some cash at closing.
Mergers & Acquisitions
Your M&A offering document should begin with an executive summary that follows the same rhythm as your high school English papers: Start big, narrow your focus, introduce the thesis, prove the thesis, and conclude by widening narrative.
The executive summary is the big picture overview of the offering document.
Mergers & Acquisitions
Contacting Sellers for an M&A deal is easy. You pick up the phone and call. What’s tricky is having a meaningful conversation with a Seller.
When contacting a Seller, you want to speak with the owner, not an executive (even if it’s the president). A high-ranking executive is only an influencer. You need to speak with the actual owner.
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In days of yore, back when the slide rule and rotary-dial phone ruled, M&A deal-makers conducting due diligence would sit in a room, informally called a data room, with a stack of financial statements, contracts, and all manner of information, and slowly but surely confirm what they needed to confirm.
This task wasn’t fun, but thanks to the invention of the internet, the insanity of the physical data room ended.
Mergers & Acquisitions
At some point or another in an M&A deal, you may find that you need to give the other party a piece of information that gives that party more power over you. These suggestions can help you control all that you can.
Don’t lie. It’s an old adage, but it’s true: Honesty is the best policy.
Deliver the news in a matter-of-fact manner.
After Seller gets over the disappointing shock of a low M&A bid or anticlimactic relief of an acceptable range, the next step is to read the actual indication of interest document. The indication should contain the other important elements of the offer, including the amount of the company Buyer proposes to buy and what kind of deal she’s looking for.
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If a Buyer is interested in seeing more about the proposed M&A deal after reading the teaser, the Seller should execute a confidentiality agreement with the Buyer.
A confidentiality agreement, or CA (also known as a non-disclosure agreement or NDA), is an arrangement where both parties agree to share information with each other but to refrain from sharing the information with outsiders.
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Because contacting every company in this world and beyond for your M&A deal doesn’t make much sense, you need to make sure you have the right type and number of targets on your list.
You do this by initially making the target list larger than it needs to be. To create the initial target list, take all the targets on your and your advisors’ shortlists and then expand that list by applying your search criteria.
Here’s a key point for anyone who wants to get into M&A deal-making: The process isn’t linear. Expect the unexpected. The plan is important, even imperative, but you can’t become a slave to it. As long as you always keep the end goal of closing a deal in your sights, you can successfully navigate the winding M&A road.
An M&A purchase agreement that doesn’t lay out the process of adjudicating a disagreement is almost certainly inviting problems. Breaches (in other words, post-closing disputes between Buyer and Seller), come in three basic flavors: violation of noncompete and non-solicitation agreements, discrepancies with working capital, and breaches of reps and warranties.
Mergers & Acquisitions
Breaching the confidentiality agreement means one party in the M&A deal has not followed the conditions of the agreement, therefore violating the agreement. Breaches are serious occurrences and should be dealt with head on and immediately.
Here are some common types of breaches:
Speaking out of school: Somebody privy to confidential information starts flapping his gums to his golf buddies or at Friday night cocktails or a lunch meeting.
Whether you’re a Buyer or Seller, successfully completing M&A transactions requires a skilled team of advisors who have negotiating experience, the right temperament to deal with many different personalities, and the willingness to listen to you whine and pout.
At the core, a deal is very simple: A Buyer gives a Seller money or some other store of value in exchange for a company.
After you successfully acquire a company, you have to integrate it into your operations. Integrating acquisitions can be challenging; successful integration involves merging several aspects of the companies. Some considerations for successfully combining an acquired company with a parent company include the following:
Product mix: One of the first integration considerations for Buyer is dealing with the product and service offers of the acquired company and the parent company.
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Just because the M&A deal is closed and employees have been informed doesn’t mean all the work is done. You need to announce the deal to the rest of the world. And in most cases, both Buyer and Seller have to continue to interact with each other on some level for some period of time after the close.
After the deal closes, the sale can become public information.
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M&A purchase agreements are lengthy, detailed documents that can make your eyes bleed if you don’t know how to read one properly. Seriously. They’re dreadful.
Knowing how to read a purchase agreement is as important as what’s in the purchase agreement. It’s a two-step process:
Review the document to make sure it accurately represents the main (and major) facets of the deal.
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Negotiating in good faith is a term that you may hear bandied about during the M&A process. Negotiating in good faith is a code of honor. It means you follow through on what you say you’ll do, and that after you agree on an issue, you don’t go back and try to renegotiate that point again.
When someone fails to negotiate in good faith, that person is poisoning the well.
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As Buyer, you should prepare for management meetings by reading the M&A offering document, reviewing the financials and Seller’s website, and conducting research about Seller (to the extent that public information is available). Spending some time researching the industry and getting a handle on other companies and industry trends shows you’re serious.
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Following the executive summary of the M&A offering document, you should include a section of company background. In addition to the company’s history and ownership information, you should include the following information:
The company’s past and present
An accurate assessment of the company’s history (good, bad, or in between) is a necessary part of the offering document.
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Screeners. It can be the name of your own personal horror when calling a potential M&A Buyer or Seller for an M&A deal. Screeners are the people who get in the way of you and your intended target.
Screeners usually come in two distinct flavors: those who are hopelessly clueless and the dedicated doer of evil.
The hopelessly clueless
At big companies, the person answering the general phone line is clueless about who you need to talk to.
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Seller should continue to run the business as if she weren’t in the middle of an M&A deal. The company should buy supplies, pay bills, and make sales calls as before.
However, if Seller is thinking about making big business decisions, such as substantially increasing overhead or hiring new salespeople or executives, she should probably confer with Buyer first because huge changes to the business may affect the company, notably the profits.
Mergers & Acquisitions
Following the close of the M&A deal, the first order of business for many deal-makers is to announce the deal. Make the announcement to employees and the media as soon as possible after confidentiality no longer prevents you from talking about the deal.
Despite the best efforts of all involved in the sale process, rumors of a sale will have undoubtedly spread.
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Trying to determine whether a meeting went well is a difficult proposition. People are usually polite; regardless of whether they’re interested in pursuing an M&A deal, they usually end the meeting by saying something to the effect of, “Thanks for your time; my colleagues and I will confer over the next few days and get back to you with our thoughts.
Mergers & Acquisitions
In theory, due diligence in the M&A process should take no longer than 60 days. When buying or selling a business, you want to close a deal as soon as possible. You should not submit or agree to a letter of intent (LOI) with a longer time frame.
In reality, however, the due diligence phase can take longer than 60 days.
Mergers & Acquisitions
Negotiating an M&A deal is not about forcing your will on the other side. That’s called unconditional surrender. If the other side has other options, they’re not going to agree to your stringent and unbending demands. And if they don’t have other options and instead reluctantly accept your offer, you’re unlikely to find you have a loyal business partner.
Mergers & Acquisitions
Before an M&A deal can close, Buyer has to do due diligence. This means that Seller must provide the volume of company information necessary. To get to the closing table faster, the Seller should be prepared to provide the information immediately following the signing of the M&A Letter of Intent (LOI).
One area that the Buyer will need information about is human resources.
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Like any topic, M&A has a language that you have to get a handle on to understand the field. The following words are part of the basic building blocks of M&A.
The lingua franca of M&A is an amalgam of accounting and banking terms sprinkled with initialisms, acronyms, and words and phrases adjusted and twisted to suit certain needs at certain times.
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Your vertical is the supply chain for your industry. That’s it. If you do an M&A deal with an entity above or below you on that chain, you’re integrating vertically.
For example, if your company is a paint distributor that sells paint to retail stores, the manufacturers are your vendors and the retail stores are your customers.
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A well-written M&A offering document should provide Buyers with information about Seller’s reasons for selling and what type of deal interests the Seller.
As Seller, communicating your motivation is important because doing so helps Buyer determine whether pursuing a deal makes sense. A Buyer who needs the Seller to stay on board to run the business is unlikely to bid if the deal involves the owner’s retirement.
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As a Seller, you want to present the numbers in your M&A offering document in the best light possible. Buyers don’t want to have to do any interpretation, so your numbers should be explained in the financial section of the offering document.
Losses on the books
Companies with losses sometimes keep those losses on the books, applying those net-operating losses (NOLs) against future earnings and thus reducing a future tax liability.
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Sellers, don’t get caught off guard by the amount of information needed for M&A due diligence. Immediately following the signing of the M&A Letter of Intent (LOI), the Buyer will need access to information about all aspects of the company’s business to do her due diligence. So, get started well in advance.
To help you get prepared to provide access to that information, here is a comprehensive list of the information that your Buyer may need regarding intellectual property.
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Depending on the terms of the letter of intent (LOI), informing outsiders about the deal may be a breach of confidentiality. If one or both of the companies is public, disclosure of this insider information may be considered illegal, especially if someone uses it to buy or sell stock. But it’s easily avoidable — just keep your mouth shut.
Negotiating doesn’t only happen during a tidily defined portion of the M&A process. Negotiations occur throughout the entire process, and M&A deal-makers should constantly remember that reality.
M&A negotiation: Bend where you can
Flexibility wins the day. Know what you want. Rank the most important issues as must-haves.
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An M&A deal is the biggest deal of your life, so completing a successful transaction is key. Knowing a few key M&A tips — whether you're merging or acquiring — increases your odds of successfully completing an M&A deal. Secrets to success include the following:
Retain capable and experienced M&A advisors. You can't complete this transaction alone, and a business owner who represents himself in a life-altering deal is asking for trouble.
Mergers & Acquisitions
If you’re thinking about chasing acquisitions or selling your business or merging with another, understanding where your business fits in the market is important. The distinction has to do with size, revenues and profits.
Then you have the issue of critical mass. Critical mass is a subjective term, and it simply means size: Does the company have enough employees, revenues, management depth, clients, and so on to survive a downturn?
Legal issues are always at the forefront of M&A deals. The lawyer is a very important advisor to both Seller and Buyer. Similar to the intermediary, each side has its own lawyer. The lawyer should be someone who is well versed in M&A; only use an attorney who has actually engaged in M&A transactions.
The lawyers for both sides work together and craft the details of the purchase agreement.
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Understanding Seller’s history with lawsuits, both as a defendant and plaintiff, is another must-know M&A due diligence area for any Buyer. The following list lays out some important litigation info:
Schedule of all litigation, arbitration, and other proceedings to which the company is a party or by which its properties are bound and all pleadings and other material papers related thereto existing at any time during the reporting period.
Mergers & Acquisitions
In a typical M&A purchase agreement, Seller provides Buyer with a slew of promises known as representations (reps) and warranties. A breach occurs when Buyer disputes one of those reps or warranties. Essentially, Buyer is claiming, “The business wasn’t as I thought it was.”
Common disputes can include undisclosed pending litigation, financial statements with mistakes or omissions, an undisclosed material liability (such as a large unpaid bill of the company), and illegal immigrant employees.
Mergers & Acquisitions
If you haven’t coordinated with the Seller to make the M&A announcement together, you should get in front of the employees as soon as possible; no more than a few days should elapse between the deal closing and your meeting with the employees.
Before meeting with the employees, take the time to understand the local culture of the company.
For Buyers in M&A deals, the job of creating a target list of businesses you want to buy begins by defining the “whats” of the target:
What type of business do you want to acquire? A product extension? A new product or service? Entrée to new markets? A competitor?
What’s the revenue range? What revenue level does the target need to be worthwhile?
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The following is a basic script that works well in making M&A acquisition search calls. As with the script for selling a business, you should not read this text verbatim. Instead, it sets up the flow of the basic information you want to convey during the initial call. Use this as a model for creating your own script.
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If you immediately come out and say, “We want to buy your firm,” when contacting a potential M&A Seller, your approach is no different than the myriad other Buyers who have approached this owner.
But that’s just the beginning. Here are a few more guidelines that can help you make the most of your call:
’Fess up.
In preparation to take over a company in an M&A deal, you should have a dedicated transition team in place. You should begin assembling this team as early as the due diligence phase. This team generally includes the following members:
A financial person (often the CFO or another high-ranking financial executive) interfaces with the acquired company and answers questions pertaining to banking, payroll, working capital, and so on.
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In addition to considering the nature of the target’s downturn (macro-economic, managerial, or changes in customer preferences, a wise Buyer also looks at a few other key considerations when determining the value, if any, of a troubled company:
Is the target still profitable? If profits are down (perhaps even greatly down) but the target is still break-even or better, a Buyer will be able to ride out the storm (because the acquisition is not burning cash) and wait for the economy to pick up.
After all the necessary agreements have been signed at an M&A closing, Buyer funds the deal by obtaining money from his sources and distributing that money to Seller and any other party that appears on the flow of funds statement.
A typical funding occurs as follows:
Money from Buyer and any other funding source (such as a bank) comes into a Buyer-controlled account.
Mergers & Acquisitions
The flow of funds statement at an M&A closing is a very detailed list of the sources and uses of money — where the money comes from and where it goes. It’s typically created in the days right before the closing and is among the last steps of the process.
Usually Buyer is responsible for compiling this document (usually a spreadsheet).
Mergers & Acquisitions
If you want to maximize the company’s valuation before heading in to an M&A deal, you need to maximize the company’s profits. One way is to reduce and eliminate wasteful expenditures, and because the largest expense of most businesses is personnel, you may have to make some difficult decisions.
Please don’t read this suggestion as a license to be capricious or cruel.
A confidentiality agreement (CA) for an M&A deal is a serious and real legal document, and a Buyer who signs a CA should take every precaution to speak only with those who need to know about the business and are covered by the CA.
Inform employees and advisors of the CA
Generally, a confidentiality agreement allows the signers to speak with employees and advisors about the transaction.
Depending on the M&A deal, contingent payments such as earn-outs, Seller notes, and Buyer stock may be part of the Seller’s proceeds. After the deal is finalized, these contingent payments will require ongoing contact between Buyer and Seller.
As a Seller, stay on top of a Buyer’s obligation to you regarding contingent payments.
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Another cultural difference that could pop up after an M&A deal is in how management communicates with employees. In a very general sense, cultures in Latin America, Asia, and the southern United States tend to use the bypass method, which gets to a point in a roundabout way.
Those who utilize this method often hear simple statements like “Clean up the wording in that contract” to mean something like “You’re worthless; that contract was terribly done.
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For most M&A deals, culture is the biggest issue. No two companies have the same business culture, and geographic differences can exacerbate those cultural discrepancies. A common cultural difference that often pops up as two companies attempt to integrate is urgency — in other words, the speed at which people accomplish tasks.
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Following an M&A deal, you may find that the power structure of the acquired company is very different from the power structure of your own company.
Geert Hofstede is a Dutch researcher who uses the term power distance to describe how members of a society interact with their bosses. (If you’re not familiar with Hofstede’s work, you should check it out.
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Contracts, in other words, the written and oral obligations of the company, are hugely important for any M&A Buyer; she needs to have a clear idea before closing of what contractual commitments her new company has. This information may include
Written description of any oral agreements or arrangements
All
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The expanse of due diligence information is far deeper and wider than the information that the M&A offering document, or deal book, provides. The offering document provides enough information for a Buyer to make an offer. Due diligence provides enough information for that Buyer to be able to close the deal.
Buyers want to pay close attention to a bevy of legal paperwork to make sure Seller actually has the legal right to sell the business to Buyer.
Buyers, unsurprisingly, want to ensure that the finances are as they expected when they proposed the M&A deal. The following are the areas that the Buyer should thoroughly examine as part of due diligence:
M&A due diligence: Debt and financial dealings
A wise Buyer needs to fully understand the Seller’s financial dealings for two basic reasons.
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Environmental concerns are an increasingly important part of due diligence in many M&A deals. A consulting firm or other business service company probably doesn’t have an environmental issue. Important environmental due diligence info may include the following:
Copies of any environmental reviews or inspection reports relating to any of the company’s owned or leased properties
Copies of any notices, complaints, suits, or similar documents sent to, received by, or served upon the company by the U.
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A Buyer wants to purchase a business that is safe from unnecessary risks. During the M&A process of due diligence, he should check on the Seller’s insurance, lawsuit history, and government paperwork filings.
M&A due diligence: Insurance
Insurance — that is to say, risk management — is another important factor for any Buyer.
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In the due diligence process of an M&A deal, Buyer wants to verify both physical and abstract assets that he will be gaining through the purchase of the business.
M&A due diligence: Inventory
Inventory is another key component of a company’s assets and therefore impacts the ability of an owner to obtain financing for the company.
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The due diligence portion of the M&A process provides enough information for the Buyer to be able to close the deal. This often includes mind-numbingly boring details. Yet this information is necessary for the deal to take place.
M&A due diligence: Operations information
A company’s operations are highly important.
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Real estate, facilities, and other fixed assets are important considerations when making an M&A deal. The following information is a critical part of the Buyer’s due diligence:
M&A due diligence: Real estate and facilities info
A business isn’t a business unless it has a place to operate from. Providing Buyer with the following details on the business locations and the nature of those locations is another key responsibility of Seller during due diligence:
Listing of all business locations
Listing of all owned or leased real estate, including locations
Copies of all real estate appraisals, leases, deeds, mortgages, title policies, surveys, zoning approvals, variances, or use permits
Lease terms, including date signed, termination dates and rights, renewal rights, rent amount, and unusual provisions (such as purchase option), as well as any defaults or breaches
Listing of current and pending construction in progress, including date commenced, expected completion date, and any additional financial commitment necessary to complete the project(s)
Who owns the facility, and is it part of the deal?
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Instead of simply responding to request after request from an M&A Buyer who is doing due diligence when selling a company, you should always provide a detailed list of due diligence items and tell the Buyer that you’ll consider adding requests on a case-by-case basis.
Due diligence should focus on confirming material facts: the numbers, the ownership, the customers, the contracts, and so on.
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Sales and marketing information is key to a successful M&A deal. Who are Seller’s customers, and how does she market to them? Who are her competitors? The following are some of the sales and marketing basics any Buyer wants to determine during due diligence:
Complete customer list, including name, address, telephone number and contact name
Listing of any major customers lost
Listing of open orders and copies of all supply or service agreements
Surveys and market research reports
Schedule of the company’s current advertising programs, marketing plans, budgets, and physical marketing materials
Listing of the company’s major competitors
Sellers should provide customer data by major product line and by percentage of sales.
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Buyer should use the time for due diligence in an M&A deal to explore the relationships the company has with other companies and individuals. She should explore information about the company’s suppliers and human resources before finalizing the deal.
M&A due diligence: Supplier info
If a company has inventory, that inventory must come from somewhere.
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One often-overlooked area of M&A is the question of what exactly Buyer is buying. Companies themselves aren’t really sold, per se; instead, Buyer is acquiring either certain assets of the company (in an asset deal) or the company’s stock (in a stock deal).
Buyers prefer asset deals over stock deals because the former are a lot cleaner logistically.
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When Buyers make acquisitions in a mergers and acquisitions (M&A) deal, those purchases can take the form of a complete, 100-percent buyout (mainly for PE firms), a majority investment, or even a minority investment.
As the name suggests, a buyout occurs when 100 percent of a company is sold to another company.
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EBITDA is a key M&A metric. Heck, it’s a key metric in all things business. EBITDA is a measure of a company’s profitability for doing what that company is supposed to do: selling a product or service.
EBITDA effectively removes the profit-distorting effects of taxes, interest income, and expense and eliminates the effects of making capital investments in the firm.
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In certain circumstances, Buyer may want to use stock to pay for all or part of an M&A deal. And in certain circumstances, Seller may be wise to accept that stock, though she should speak with her tax advisor about the tax ramifications of that arrangement.
Issuing stock allows Buyer to make an acquisition without using cash or borrowing money (or by using less cash and borrowing less money).
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A private equity (PE) firm is a pool of money looking to invest in or to buy companies. Not all PE firms in the M&A business are the same. The following will clue you in on a few common types of PE firms.
Traditional (buy and sell)
A traditional PE firm wants to make an acquisition and perhaps fix up the company by streamlining operation, cutting wasteful spending, increasing sales, and maybe making some add-on acquisitions, all on a three- to five-year timeline.
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Most often, Buyers of middle and lower middle market companies in an M&A transaction are institutions (PE firms or strategic Buyers). Individuals can certainly buy these companies, but due to the size of the companies and the amount of money needed to buy them, individuals buying companies in these markets are somewhat rare.
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One possible type of buyer in an M&A transaction is a Private Equity (PE) firm. A private equity firm (sometimes known as a private equity fund) is a pool of money looking to invest in or to buy companies. For all intents and purposes, the firm has no operation other than buying and selling companies, which go into its portfolio.
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Strategic Buyer is simply a fancy term for corporate Buyer. Companies make acquisitions for a slew of reasons: growth, new markets, new products, buying out a competitor, and more. Strategic Buyers often focus their acquisition activity on companies that are a fit for their current (or future) strategic plans, often buying from PE firms.
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From an M&A perspective, private equity (PE) firms differ from their more famous cousins, venture capital (VC) funds, in terms of the types of investment each fund pursues. PE firms typically invest in profitable companies, while VC funds invest in start-ups.
The PE firm usually makes the acquisitions by loaning the company money (and/or arranging the injection of debt in to the company), while a VC fund typically buys equity in the start-up.
Although many things in the M&A world — an indication of interest, a term sheet, a phone call where Buyer says, “We’re interested and we’re willing to pay $10 million” — can be an offer, not all offers are created equal. In the world of offers, the letter of intent (LOI) is in a class of its own; it’s the gold standard of offers.
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Most letters of intent (LOI) contain some info about where Buyer proposes to obtain the dough needed to effect the M&A transaction. Sellers should pay very careful attention to this part of the LOI. The phrase you’re on the lookout for is financing contingency.
A financing contingency is a hedge for Buyer. He’s saying he may not have the money right now and hopes to obtain it before closing, but he wants a way out of the deal in the event that he can’t get the necessary money.
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Valuation is the key number everyone looks for in an M&A deal. Usually the valuation appears in the third or fourth paragraph of the LOI (letter of intent).
Buyers often load up their LOIs with a bunch of boilerplate in hopes of differentiating themselves from other Buyers, but this boilerplate isn’t what’s important; the valuation is.
Although the purpose of the M&A management meeting is for Seller to impart information to Buyer, Seller shouldn’t forget the goal of the meeting: to eventually obtain a letter of intent (LOI) from Buyer.
Before the Buyer and Seller can get to the LOI, they need to go through the song-and-dance routine of the management meeting.
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The greater the number of people who attend a meeting, the greater the odds someone hasn’t actually read the M&A offering document. At the beginning of a management meeting, ask, “Okay, so who has read the book?” If few people raise their hands, you may need to take a few moments recapping the basics of the business.
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After Buyer has reviewed the M&A book (or offering document) and submitted an indication of, the next step is to meet with Seller’s key management and/or ownership. The management meeting (run by Seller) provides a financial update (and any other pertinent updates) and allows a prospective Buyer to interact with Seller.
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M&A deal-making is a lot like playing poker. For example, knowing whether you have a weak or strong hand is important because your hand’s strength helps dictate how you negotiate the deal.
Simply put, a weak hand means you have limited options. Time isn’t your friend. Work as quickly as possible to wrap up a deal (but be wary to not appear too desperate because that tips off the other side to your situation.
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The biggest, most important, and most basic M&A negotiating rule is to make sure you negotiate with the actual decision-maker and not an influencer. Of course, speaking with an influencer isn’t automatically bad. In many cases, the negotiations advance relatively smoothly.
But in some cases, an influencer who inserts himself into the proceedings may or may not have the authority to negotiate the transaction.
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Buying or selling a business can be a messy affair. M&A insiders call it “making sausage” because it’s an ugly process with a tasty end result. (Well, assuming you’re not a vegetarian. In that case, think of a messily prepared falafel.)
As a result, those caught in the throes of a negotiation can lose sight of the end result: a closed deal.
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Bluffing may be a bit Machiavellian, but it can be a useful M&A negotiation tool. M&A negotiating often involves much of the same kind of bluffing (and knowing when the other side is bluffing) as is found in poker.
Bluffing most often happens when one side really wants to do a deal but feigns indifference in the hopes that the other side comes to the table with a better offer.
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When writing an offering document, you need to include an argument for why the M&A deal is a good choice for the Buyer. One of the following thesis options might suit your offer:
Recurring revenue thesis
A company with recurring revenue (revenue that automatically generates, such as that from fees or subscriptions) is often a more-desirable buy than a company where the sales force has to make new sales every year, month, or week.
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One of the most important figures from Seller’s balance sheet for an M&A offering document is the company’s working capital. For the purposes of M&A, working capital commonly means current assets minus current liabilities. Typically,
Current assets = accounts receivable + inventory + prepaid expenses
Current liabilities = accounts payable + short-term debt + current portion of long-term debt + accrued (unpaid) expenses
For the purposes of M&A, you don’t include cash and equivalents in this calculation.
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The M&A offering document should include information about Seller’s customers and competitors. This section, even if not completely thorough in its listing of customers and competitors, should include some information to entice the Buyer.
Customer names
As Seller, should you provide customer names in the offering document?
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Sellers are not shocked to find that Buyer is interested in the M&A deal because of the company’s products or services. With that in mind, the offering document needs to provide plenty of information about products and services, including answering the following questions:
What is the product or service? What does the company sell?
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A company exists to sell a product and/or offer a service, so the M&A offering document should reflect careful attention to the explanation of the selling company’s customers and suppliers, and sales and order processing.
Customers and suppliers
Having products and services without customers to buy them makes no sense, so as Seller, you want to give some information about customers in the offering document.
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Ideally, an M&A offering document should have five years of projections. That’s a lot of work, especially when projections are taken with a grain of salt, but Buyer should be able to get a good sense of where you think the company is headed.
Your projections should include a narrative explaining the assumptions you used to create them.
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Numbers don’t necessarily speak for themselves, and M&A Buyers don’t want to have to translate them, so you as Seller should take care to present your financials in the offering document in the best light possible.
You can’t get around dealing with accounting and financials in the offering document, so make sure whoever is compiling this part of the offering document has strong accounting skills.
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The selling company’s income statement contains lots of important information for the M&A offering document. A Buyer wants to make sure he is aware of all the expense and profit information of the company before proceeding with an offer.
Gross profit, gross margin, and SG&A
Gross profit is the amount of revenue that remains after the cost of producing sales is subtracted.
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Recurring revenue is always a plus for a company, and Sellers are wise to mention the amount of recurring revenue in the M&A offering document because it may increase Buyer interest and therefore the offer price.
Another metric, customer concentration, is the opposite of recurring revenue. If a company has highly concentrated sales (large amounts of sales with one customer or a small number of customers), Buyers may be less inclined to pursue a deal or offer a high price.
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With the contribution margin thesis in an M&A offering document, Seller is essentially telling Buyer, “Pay no attention to the lack of profits behind that curtain.” Instead of focusing on the bottom-line profitability, Buyer considers the effects (that is, benefits) of adding the Seller’s “contribution” to the Buyer’s existing operation.
Very rarely do Buyer and Seller conclude an M&A deal, walk away, and never interact again. Even though Seller has his money and Buyer has her company, the two sides usually have some post-closing issues to conclude.
One of the first items that need wrapping up after the deal closes is the post-closing adjustments.
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The purchase agreement defines certain items the Buyer and Seller may need to physically bring to the closing of the M&A deal (or deliver ahead of time, if the closing is virtual).
Seller’s deliveries may include:
Stock certificates or other documents providing evidence Seller actually owns what she’s selling
Resignations of any or all officers or board members, if Buyer requires that info
Stock books, ledgers, minute books, other corporate records, and corporate seals
Documentation that Seller has complied with all conditions required by the purchase agreement
The company’s articles of incorporation and bylaws
Written documentation that all outstanding options, warrants, or other instruments that can claim ownership in Seller have been extinguished or exercised prior to closing
Written opinions from Seller’s lawyers that all the necessary legal documents are in order
Signatures from both parties for the escrow agreement, confidentiality agreements, noncompetition and non-solicitation agreements, and employment agreements
A closing financial statement (generally as of the close of business from the previous day)
Buyer’s deliveries may involve the following:
The money!
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An owner doesn’t have to sell the entire company; selling a division or a product line is a very common M&A activity. Some of the reasons to divest a division or product line include
A bad acquisition: Here’s a bit of irony: Bad acquisitions are often the reason companies sell businesses, thus fueling a less-than-virtuous cycle (for Buyer’s shareholders) of making acquisitions at high prices and then selling them off at low prices, over and over and over.
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The M&A market is full of owners who choose to sell because they’ve determined that they’ve taken the business as far as they can take it. They may not want to retire, but they also may not want to run the same company anymore. This situation happens for a few reasons:
Capital needs: A growing company, even a highly profitable company, usually requires more capital than the business generates from operating cash flow.
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The problem children of the mergers and acquisitions world are often known as troubled companies, special situations, challenged companies, and turnaround opportunities.
Troubled companies run the gamut from handyman’s specials that just need a little tender loving care to those that should be in bankruptcy. A company that is suffering from poor management decisions but remains a going concern (liquidation is not on the horizon) may make a suitable acquisition for an acquirer well versed in turnaround work.
The M&A process is not an easy one, so you have to be motivated to go through it. Retirement is one of the top motivations of business owners who decide to sell their businesses.
The older some people get, the more they hear the siren call of Florida or Arizona. Or the Carolinas. Or . . . well, any place that doesn’t involve work sounds enticing.
The target list for a Seller in an M&A deal is a bit different than Buyer’s target list due to one key aspect: Seller’s main concern is Buyer’s ability to close a deal. In other words, does Buyer have the dough?
That’s not to say you as Seller should be blasé about who buys the company. Even though you’re selling, you likely still have some sentimental or financial stake in the company’s success.
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M&A involves a generally accepted process that Buyer and Seller follow step by step. But that doesn’t mean the process rockets in a straight path from start to finish. In reality, it can meander to and fro.
The reason is simple: People. People (even acquisitions-minded executives) have a lot of things going on in their minds.
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Finding the right person to receive an M&A proposal at a strategic firm can be a bit trickier than finding the right person at a private equity (PE) firm. After you find that person, your pitch is straightforward: give the prospective buyer a quick run-through of what he needs to know about the company for sale.
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Here’s the skinny on M&A deals: Some companies are sitting by their phones like a high-school girl waiting for an erstwhile date to call, hoping to hear from a company that’s looking to sell.
These waiting-by-the-phone companies come in two types: private equity (PE) firms (which are basically pools of money seeking to buy companies) and strategic buyers.
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Going through an M&A sales process in general, and writing an offering document specifically, can leave Seller feeling extremely exposed. If you’re a Seller or potential Seller, you aren’t alone! And if you’re on the buying side, sensitize yourself to the worries and fears of Sellers.
Sellers feel vulnerable because every decision they’ve made throughout their careers — good, bad, and everything in between — is fodder for discussion.
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Speaking with the right person seems like a basic tenet of making an M&A sales call, but you’d be surprised how many people simply (and often nervously) plow through their script to whoever first picks up the phone. Bad idea; you just waste time.
Finding the right person to speak with at a private equity (PE) firm isn’t difficult.
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When you get the right person for your M&A deal on the phone, you need to be prepared. You should have a script in front of you. It quickly covers the basics: what the company does, its clients, the revenues and profits, and what the company is seeking to do. Get to the facts quickly and leave it at that.
Here’s a standard script for starting a conversation or leaving a voice mail for someone:
[Individual’s name], this is [your name] with [name of investment bank].
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If you want to ensure a smooth M&A process, settle any outstanding lawsuits, to the extent possible, before putting your business on the market. Even if you don’t have legal liabilities, you may want to talk to your tax advisor about the tax consequences of the legal organization of the company at time of sale.
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One of the biggest obstacles to getting a deal done on a merger or acquisition is a messy balance sheet. Now, don’t freak out about the accounting. Accounting is your friend.
One of the key figures on a balance sheet is the current ratio, or the difference between current assets and current liabilities. Anything labeled current on the balance sheet is essentially the same thing as cash.
One of the hurdles to getting an M&A deal done is long-term debt. Many Sellers either “conveniently” forget about the debt or hope/assume that Buyer will simply assume the debt no questions asked. Here’s a little bit of expert advice: That ain’t gonna work! The long-term debt of the business is Seller’s obligation.
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Getting past screeners to propose an M&A deal to someone in charge is akin to fencing. You need to master verbal thrust-and-parry in order to improve your odds of getting past a roadblock.
If you find yourself in the grasp of a roadblock, level with the person. Tell him exactly what you’re going to say to the person you’re trying to reach.
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Like any good salesperson, you want to keep track of your M&A calls. A customer relationship management (CRM) system (a program that keeps track of contact info) coupled with a spreadsheet makes a good system.
The spreadsheet lists the company name, the contact name of the person you’re trying to reach, and a column for “last results.
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A teaser is an aptly named document: Its intent is to give an M&A Buyer just enough information (the product, the customers, the problem the company solves, and some high-level financials) to make him want to learn more. Another aspect of the teaser is that it’s (usually) anonymous. Most often, a Seller’s M&A advisor (investment banker or business broker, usually) is the person who forwards the teaser to a Buyer.
A well-written teaser is important in the M&A process. It keeps the Buyer’s interest and can facilitate continuing the steps to a final deal. Here are some tips for writing a good teaser:
Keep it short and sweet
Brevity is the soul of a well-written teaser, so keep it to one page. The reader needs to quickly understand what the company does.
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Business owners don’t need to sell the whole business and then retire or move on to other pursuits. A substantial amount of M&A work is done with sellers who just want to sell a part of the company. There are a number of reasons a business owner may want to sell a piece of the company.
Need capital for growth
A growing company often needs more cash than it can generate from operations.
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In the minds of most people, especially M&A novices, an investment comes in the form of equity — an investor buying stock in the company. This kind of investment makes the most sense when the company has publicly traded stock and the stock has a large-enough average daily volume to make the investment liquid.
But investments in private companies are highly illiquid because the shares don’t trade on a public stock exchange, so investors are wise to structure the deal in the form of convertible debt, debt that they can convert to equity, usually at the time of their choosing.
Getting off on the right foot is important for building any successful relationship, and this is especially true after an M&A deal for a new owner meeting the employees for the first time.
Injecting a positive culture into an organization isn’t difficult; you simply need to be aware of the power of your words and actions before you step in to the new office.
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Starting on the right foot after an M&A deal is important, obviously. You want to win over the new employees as soon as possible, but if you’ve been unable to do that, you may encounter conflicts that need resolving.
Set a high bar and be consistent
The best lesson about implementing new rules and methods is to set a high bar and be consistent with your own actions and expectations of others.
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As with a company’s products and services, the level of integration with operations between acquired company and parent company after an M&A deal largely depends on how much autonomy you as a Buyer grant to the acquired company.
In some cases, the level of operational integration may be high because you want to realize savings and streamline operations by eliminating duplicate positions and processes, closing extra offices, and moving employees to one office.
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There isn’t a one-size-fits-all guide for combining or culling products and services after an M&A deal. Buyers go through countless considerations when deciding whether and what to combine, cut, or keep.
One of the first steps is often to compare the acquired products to the parent company’s products. Remember your rationale for making the acquisition: If you bought the company in order to pick up new products, you’ll likely keep integration of products to a minimum.
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If your M&A deal is a carve-out (a divestiture from another company), you likely have quite a bit of work to make sure the carved-out company is able to operate as a stand-alone entity. Some of the areas of focus include the following:
Payroll and banking: Making sure employees continue to receive their paychecks is probably the most important immediate consideration of any Buyer.
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One of the most basic questions you face as a Buyer after the M&A deal closes is, “What the heck should I do with what I just bought?” On paper, combining two entities may seem easy, but in reality, that integration is much more complex. Further, the level of integration varies greatly from Buyer to Buyer.
Financial Buyers, such as private equity (PE) firms, usually allow the acquisition to maintain a level of autonomy, especially if they’re not integrating the acquired company into another firm but rather running it as a standalone business.
Firing is an unfortunate side effect of business that is sometimes necessary after an M&A deal. Although you should give people chances to perform and show they’re part of the team, sometimes employees just don’t buy in to the new way of operating.
If you don’t have buy-in from your employees, especially your managers, you may need to ask certain people to do themselves a favor and leave; if they don’t leave on their own, you need to show them the door.
After completing an M&A deal, you should be ready to be a part of the culture of the acquired company. Be willing to partake in local customs, and be sensitive to special events and occurrences in the community. Nothing creates division as much as being (or appearing to be) oblivious and uncaring to someone else’s cherished rituals.
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A new owner often has a challenge with increasing the accountability of the acquired staff after an M&A deal is completed. Many companies face a large shock when they go from being owned by a single owner to being part of a larger company or PE firm with increased and more-exacting standards.
Focus on the customer
Remember where your money comes from: your customers.
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Conflict between the new owner and the acquired company’s employees after the announcement of the M&A deal is an occasional and unfortunate disease that can pop up rather quickly.
Initially, you meet with politeness and deference. However, because the employees are likely in shock and may not have yet digested the consequences of the sale, this politeness and deference may be more the result of the survival instinct than sincerity.
Upon closing an M&A transaction, you probably have some ideas, if not a plan, for making changes to the acquired company. But before you actually make those changes, you need to make sure the newly acquired employees are up to speed on the plan. You don’t need to (nor should you) dump everything on the employees at once.
When closing an M&A deal, you probably expect to make some changes to the acquired company. Some tasks are more urgent than others. You should settle the following tasks and process prior to closing. The moment the deal closes, you need to communicate the following information to the new employees:
Company name, e-mail, phone, and website: Do the employees continue to use the old company name, use the name of the acquirer, or use something else?
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The seller in an M&A deal must make the case for valuation. Lucky for you Sellers, here’s a four-pronged attack that, when executed properly, has fetched a figure higher than the usual upper limit of 6X EBITDA.
But first, keep the following pointers in mind as you consider what you think your company is worth:
Take control of the process.
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Five times EBITDA is an M&A industry standard for company valuation. Nobody knows where 5X came from, but all you need to know is that it’s a de facto standard. In good or bad times, that multiple may be a bit higher or lower.
Although multiples of EBITDA is a typical valuation technique, it’s not the only method to determine a company’s valuation.
Buyers in an M&A process utilize various measurements for their investments, or at least they should. A wise investor weighs the price of the investment against the expected return and then compares that expected return against other uses of that money. Simply put, the more money you pay to acquire a business, the lower the potential return.
Valuation (the price one party will pay another for a business in an M&A transaction) is based on what you can negotiate. And, as with most negotiations, valuation is more art than science. In fact, some call it alchemy because valuation is often subjectivity masquerading as science and logic.
Valuation is really the intersection of cash flow and time.
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Intermediaries for M&A deals come in two flavors: investment bankers and business brokers. An investment banker likely provides a fuller service for a Seller, but that fuller service usually means higher fees.
Investment banking firms are more expensive because they have more overhead. In other words, they have more professionals (including specialized employees such as business development teams, researchers, and a host of analysts) and often fancier offices in fancier buildings.
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Having someone to look at an M&A transaction from a distance, to consider that situation from a detached outsider perspective, can often be the greatest benefit to a person who is buried in the minutiae of day-to-day operations and worries. In other words, an outsider just may be the help an M&A deal-maker needs to successfully complete deals.
The most obvious set of team members for M&A deal-makers is the inside team — that is to say, those employees who already work for the company. Working with inside advisors makes sense because they don’t represent any additional dollar cost for the company. The company is already paying them, so it may as well use them!
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Buyers in M&A deals need to take care not to overdefine their acquisition targets. As Buyer, don’t match your search criteria to the absolute perfect company; you won’t find it. Focus is important, of course, but being too narrow in your search criteria limits your ability to find suitable targets.
Years ago, there was a company whose executives were quite proud of their very thoughtful and narrow search criteria.
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Selling a business through an M&A deal can generate a great deal of personal wealth, and working with a trusted advisor to help manage and shepherd that wealth is an important consideration during the M&A process.
A wealth advisor is a person who manages other people’s money. Most financial services firms have a specific department or division designed to work with wealthy people.
As with many industries, the mergers and acquisitions business is full of errant opinions. People who have never done a deal before can’t possibly know what to expect, and as a result, many people harbor false impressions and incorrect assumptions about M&A. Here are ten of those common errors.
Don’t assume the deal is done after the LOI stage
The letter of intent (LOI) is a key document because it defines the basics of the deal and essentially becomes the foundation of the purchase agreement.
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Moving forward with an M&A deal means that both sides sign a letter of intent (LOI). Although the LOI is an important step, rushing and carelessly signing an LOI without fully understanding it can create plenty of problems. To help you avoid problems and increase the odds of a successful closing, this presents four issues to consider before signing an LOI.
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If you aren’t careful, you can easily give off the wrong signal inadvertently during your M&A proceedings. Failure to follow up quickly, return calls, and give complete answers is an easy way to turn off the other side and kill a deal.
Show interest in doing a deal. If you’re not interested in pursuing a deal, communicate that to the other side.
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All M&A deal-makers need some extra help, so these resources, advisors, and private equity firms may come in handy.M&A groups, associations, and networking organizations
M&A, as with most industries, has some networking and professional associations. If you’re thinking about pursuing a career in M&A, acquaint yourself with the following groups:
Alliance of Merger & Acquisitions Advisors
Association for Corporate Growth
Global M&A Network
Institute of Mergers, Acquisitions, and Alliances
DealStream
M&A virtual data rooms
M&A deal-makers today utilize online data rooms for due diligence.
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A merger or acquisition is a huge deal for any business, so you want your mergers and acquisitions (M&A) transaction to be a success from start to finish. Understanding the keys to M&A success helps you see the process through from step one to closing and integration.Keys to successfully completing a M&B dealAn M&A deal is the biggest deal of your life, so completing a successful transaction is key.
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The world of M&A breaks down into two large camps: negotiated sales and auctions. Although they’re similar, auctions and negotiated sales have a few key differences.
An auction is a business sale process where a group of Buyers makes their final and best bids and the company goes to the best bid. So what does best bid mean?
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Most M&A professionals will tell you that buying a company is more difficult than selling one. Owners of companies are bombarded on an almost daily basis from all sorts of Buyers. These would-be Buyers, be they private equity firms or investment bankers working for a strategic Buyer, are little more than a commodity to the owner of company with $10 million or more in revenue.
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Not all companies go up for sale in the rosiest of circumstances. Sometimes, Sellers need to unload debt-laden or money-losing businesses in an M&A deal. Working out financing for these so-called problem children is trickier than finding financing for healthy companies, but it’s not impossible. The following presents some problem situations and suggest ways you may be able to finance such deals.
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Whether you’re a Buyer or Seller in the M&A process, you want to be able to read your opponent like a poker player. You want to know whether you’re in a strong position or a weak position. The stronger your position, the greater your negotiating leverage.
The four positions are as follows:
You have a strong position and your opponent knows it.
Mergers & Acquisitions
A company thinking about making acquisitions just doesn’t wake up one day and close a deal. Successfully undertaking M&A activity takes some planning and preparation.
Determine the appropriate type of acquisition
How much revenue does the target need to have? Does the target need to have a minimum profitability level, and if so, what is it?
Mergers & Acquisitions
In some situations, you may consider acquiring a company from a private equity (PE) firm, a pool of money that buys companies with the intention of reselling them later for a sizable profit. PE firms can be very motivated Sellers.
But be warned: They’re also extremely crafty deal-makers. After all, buying and selling companies is their industry.
Mergers & Acquisitions
Mergers and acquisitions allow a company to skip the growth stage and buy existing sales and profits. For this reason and those that follow, a company may choose to buy other companies instead of relying on organic growth.
Make more money through M&A
Make no mistake: The pursuit of money is a main reason for making acquisitions.
Mergers & Acquisitions
The most motivated party in an M&A deal is the one most likely to cede power to the other side to make sure the deal goes through. But what exactly provides this motivation? Several factors:
Interest: The side that has the most interest in doing a deal probably has the least power because that party will be most willing to compromise in order to get a deal done.
Mergers & Acquisitions
Typically, Seller has a lot of power early in the M&A process. As the party being courted, Seller controls whether meetings occur and whether information is exchanged.
One way Buyers can get more power early in the process is by submitting a pre-emptive bid, making a bid before other Buyers have made their bids and knocking out all other possible suitors.
Mergers & Acquisitions
M&A is a strange industry because it’s one of the few where the selling functions are in many ways easier than the buying functions. Simply put, quality companies with critical mass are in demand.
After a company gets above a certain revenue level and especially a certain profit level, Buyers of all shapes and sizes start chasing it.
Mergers & Acquisitions
Immediately following the signing of the M&A Letter of Intent (LOI), the Buyer will need access to information about all aspects of the company’s business to do her due diligence. In order to help the Seller get prepared to provide access to that information, here is a comprehensive list of the physical asset documents that could apply to your deal.
Mergers & Acquisitions
Closing a deal really doesn’t mean the deal is completely closed on closing day. That’s a reality of M&A. In most deals, Buyer and Seller have little bit of work to conduct after the deal closes.
Allow time to fully close the books
Although the deal is closed as of the closing date, a company can’t produce an accurate balance sheet on that very day.
Mergers & Acquisitions
In addition to the common advisors like lawyers and accountants, Buyers in M&A deals may need to enlist the services of additional outside advisors including environmental consultants, database/IT consultants, and marketing consultants. However, these consultants are farther down the food chain and aren’t part of every deal.
Company valuation can change during the M&A process. In fact, that occurrence even has a name: renegotiation. Or, as disappointed Sellers may call it, the dreaded renegotiation.
Theoretically, when Buyer and Seller negotiate a valuation, both sides want to see the deal close with that valuation. In practice, however, one side or the other may try to change the sale price before the closing.
Mergers & Acquisitions
To get past the valuation impasse, Buyers are often willing to keep the Seller on as an employee of the company or as a consultant. This arrangement is beneficial for both Buyer and Seller. Buyer receives the benefit of Seller’s expertise and Seller receives a stream of income for that expertise.
Offer a consulting contract to Seller in the M&A deal
Buyers can provide Sellers with added dollars is by including a consulting contract in the purchase agreement.
Mergers & Acquisitions
The Buyer in an M&A deal needs access to information about all aspects of the company’s business. Access to this information allows the Buyer to do her due diligence. The Seller should be prepared to provide access to that information immediately after the letter of intent (LOI) is signed.
This comprehensive list of the sales and marketing documents that could apply to your deal will come in handy.
The letter of intent (LOI) of an M&A deal tells the Seller that the Buyer is interested in going through with the purchase. The LOI lays out the terms for continuing discussions about the deal.
M&A LOI: Non-disclosure and publicity
Both sides simply agree to not tell anyone (outside of those in their respective inner circles) about the proposed deal.
The purchase agreement lays down the terms of an M&A agreement in a binding document. Before this document is finalized, it is important to make sure that it is correct and that you know exactly what the terms of the agreement are.
What to verify in the M&A purchase agreement
You could call this part, which is usually toward the beginning of the document, the “whereas” section because most paragraphs start with the word whereas.
Mergers & Acquisitions
The competitor issue is a tricky one in creating M&A target lists. Companies are wary of divulging proprietary information to competitors for fear that a competitor will use the information against them in the competition for customers. And they’re right for having a healthy amount of hesitation.
That disclaimer aside, contacting competitors usually doesn’t create a problem for Buyers.
If Buyer is unable to close the M&A deal in the time the letter of intent (LOI) allots, you as Seller should confer with your advisors to determine whether Buyer is having problems that may compromise the deal. For example, Buyer may be stalling for time because she doesn’t yet have the money lined up.
If you and your advisors believe Buyer isn’t able to close the deal, you may be better off refusing to grant her continued exclusivity.
Mergers & Acquisitions
Valuation is always the million-dollar question — well, often the multimillion-dollar question — in a merger and acquisition (M&A) negotiation. To get past the valuation impasse, here are a few ideas on ways Buyers and Sellers can settle valuation disagreements and move forward to a closing.
Payments over Time
If Seller wants a certain price for the company, Buyer may be willing to pay that price over a period of time.
Going through an M&A deal can be an intimidating process (for both the mergers and acquisitions teams), but that process thankfully follows some concrete steps. Here's the step-by-step process that nearly every M&A deal follows:
Compile a target list.
You can't buy or sell a business unless you have a list of suitable Sellers or Buyers.
Certain tactics can be helpful in the process of negotiating a successful M&A deal. Remember: Negotiating isn’t about getting everything you want, but about finding a deal that is agreeable for both sides.
M&A negotiation: Offer a conditional if-then agreement
You should refrain from offering up a concession without getting something else in return.
Mergers & Acquisitions
A buyer will need information about the company’s supply chain in order to conduct her M&A due diligence. And a seller needs to be prepared to provide that information (along with information about every aspect of the business) immediately after signing an M&A letter of intent (LOI).
Purchasing and suppliers
Listing of major suppliers and dollar volume of purchases from each for each of the last three fiscal years.
Mergers & Acquisitions
Sellers and buyers in an M&A transaction negotiate a period of time — usually no more than 60 days — to conduct due diligence. As long as Seller is prepared to provide access to all the documents that Buyer will need, the 60-day timeline is quite doable. Buyer will need information about every aspect of the business including taxes and government filings.
Both Buyer and Seller beware when it comes to the tax consequences of any M&A transaction. Taxing corporations is complicated because you have two basic types of entities (C-corps and S-corps/LLCs), two types of business sales (asset or stock), and three types of taxes (corporate, individual, capital gains). Both should consult a tax advisor, but this is a brief overview of the issues.
Taxes are the bane of doing deals. Yeah, they’re a necessary evil, but of all M&A deals that ultimately don’t close, taxes are the number one reason for the failed transaction.
In the not-too-distant past, the U.S. tax code contained more than 4 million words and almost 200,000 lines of rules, regulations, exceptions, exemptions, thinly veiled threats, overt threats, twists, turns, and a writing style that can make your eyes glaze over in massive pronoun confusion.
Mergers & Acquisitions
The letter of intent (LOI) lays the foundation for the M&A deal as it moves forward. Here are some of the sections you should make sure you include in a LOI as part of any deal:
M&A LOI: Due diligence and timing
Due diligence is the inspection period for Buyer. It comprises a short section, perhaps just a single sentence, in the LOI where Buyer indicates how long he needs to complete it.
Mergers & Acquisitions
Once both sides of an M&A deal have negotiated the terms of the deal, they memorialize that understanding by signing a letter of intent (LOI). The LOI is an important step and should be fully understood prior to signing. To increase your chances of a successful closing, consider these things before signing an LOI.
Mergers & Acquisitions
EBITDA (earnings before interest, taxes, depreciation, and amortization) is probably the most common investment thesis used in the M&A offering document. Actually, EBITDA is a de facto default setting in the brains for most business people; you can say it’s hardwired into their brains, and for good reason.
EBITDA is a measure of profitability, and profits are the ultimate measure of a company.
Mergers & Acquisitions
To help create a visual of the importance of the M&A valuation range, imagine a dog. Specifically, a retrieving-mad Labrador retriever. Hold up a tennis ball in front of said retriever and shake your hand to generate enough movement to capture the dog’s attention.
After the dog spies the tennis ball he wants only one thing in the world: THE BALL!
Mergers & Acquisitions
Although an indication of interest isn’t a binding offer for an M&A deal, it’s an important step that shows Buyer is willing to do something. Granted, that “something” is only typing out a page or two of mostly boilerplate text, signing that document, and e-mailing it to the other side, but it’s still action.
Because people often take the path of least resistance, “doing something” means challenging the status quo, so given the choice between risking the wrath of their bosses by trying to break the boss’s stasis (inaction), employees often elect to do nothing.
The goal of due diligence in the M&A process is for Buyer to confirm Seller’s financials, contracts, customers, and all other pertinent information. In other words, the goal is to make Buyer comfortable enough that he goes through with the deal and closes.
Buyers often have other partners (usually banks or private equity firms) who are providing some of the financing and have stricter requirements than the Buyer does.
The M&A Seller should circulate a written agenda. Keep it simple: roughly five to eight items. Although specific agendas vary from deal to deal, a management meeting should generally include the following aspects:
Introductions: The whole point is to get to know the other side, right?
Buyer’s discussion: Buyer introduces himself, talks about his company or fund, his investment strategy, and his reasons for pursuing this particular Seller.
Concurrent with conducting due diligence, Buyer and Seller draft a purchase agreement to memorialize the M&A deal. Although most documents during the M&A process are nonbinding (that is, generally unenforceable in a court of law), the purchase agreement is a final, binding document.
In most cases, the purchase agreement passes the baton from the investment banker, who negotiated the business deal, to the lawyer, who settles all the nits and gnats of the legal issues.
Mergers & Acquisitions
An intermediary is a person who represents Buyer or Seller in an M&A transaction. Commonly called investment bankers or business brokers, this breed of M&A advisors is essentially salespeople, and what they’re selling is a company.
The intermediary is often the quarterback during the M&A process, and Buyers or Sellers thinking about hiring an intermediary should look for deal experience, demeanor, confidence, business understanding, creativity, and accounting skills when hiring that quarterback.
Mergers & Acquisitions
Business appraisers are people who offer the service of valuing a business in preparation for an M&A deal. Sometimes this service is offered as part of another advisor’s product offerings; for example, many investment bankers and business brokers also offer the service of appraising a business and determining valuation.
Mergers & Acquisitions
The presentation deals with Seller: past, present, and future. Because many months (probably three to six) have transpired in the M&A process between finishing the offering document and sitting down with various Buyers in management meetings, Seller should focus on providing Buyer with an update from when the offering document was written.
Mergers & Acquisitions
Your offering document for proposing an M&A deal needs to have a thesis: an argument of the Buyer’s opportunity should he choose to complete the deal. Here are four options you could use for your thesis:
Gross profit thesis
Very simply, the gross profit thesis asks Buyer to value the business based on the gross profit (revenues minus the cost of sales).
Mergers & Acquisitions
Advisors are very important to the M&A process, and while most advisors do a fine job, you may run into one who isn’t doing his best.
As an example, a few years ago an investment banker was representing a Seller during a particularly difficult due diligence process. One of the Buyer’s executives contacted the intermediary to berate him about a problem his plethora of expensive accountants had uncovered with the Seller’s financials.
Debt can help Buyer make an acquisition by leveraging Buyer’s existing capital. The following covers the different types of debt common in M&A, so dig in!
M&A senior lenders
A senior lender is usually a bank that lends a company money, often for the express purpose of financing an acquisition. As the name implies, this lender is senior to all other lenders, which means that the senior lender gets paid before the other lenders in the event the borrower goes bankrupt.
Mergers & Acquisitions
Regardless of whether you’re buying or selling in an M&A transaction, one helpful trick for getting deals done is to assess the personality of your negotiating counterpart. You’re liable to run across the following types of people:
The highly motivated: This person has to get a deal done or he’s doomed. He’s so desperate to do a deal that he may — strike that, will — leave dollars on the table.
Mergers & Acquisitions
The valuation range is the heart of the M&A indication of interest. Because the indication amounts to little more than a “dipping the toe in the water” exercise (Buyer isn’t yet committed to the purchase), the valuation is estimated. Valuation usually appears as a range, largely to allow Buyer to hedge her bets.
Mergers & Acquisitions
In an M&A deal, the venerable earn-out is a favorite deal component for Buyers because it allows the Seller to prove the company’s profitability. If the company achieves the goals Buyer and Seller agree to, Seller gets the earn-out. Keeping the earn-out metric simple and easy to measure reduces the chances of a dispute down the line.
Mergers & Acquisitions
An add back, for the uninitiated in M&A numbers, is an expense that is added back to the profits (most often earnings before interest, taxes, depreciation, and amortization, or EBITDA) of the business for the express purpose of improving the profit situation of the company.
It’s a bit of alchemy; when you toss in enough add backs to the profits of a company, you turn EBITDA into the mythical “adjusted EBITDA.
Mergers and acquisitions (or M&A for short — the M&A world is rife with acronyms and initialisms) is a bit of a catchall phrase. For all intents and purposes, M&A simply means the buying and selling of companies. When you think about it, mergers and acquisitions aren’t different; they’re simply variations on the same theme.
Mergers & Acquisitions
The indication of interest (also known as the indication or IOI) is a key landmark in any M&A deal. This document provided by the Buyer suggests a valuation range that he is willing to pay for a company. Typically, a Seller receives indications from numerous Buyers. If the Buyer’s indication is acceptable, the next step is for her to attend a management meeting and submit a letter of intent.
Mergers & Acquisitions
The disclosure to the outside world that a company is for sale — in other words, a candidate for a merger or an acquisition — can be a devastating bit of news. Competitors may pounce and try to steal customers by implying that the sale may impact product quality or through some other scare tactic.
For this and many other reasons, news of a potential business sale should be a very closely guarded secret known to only a select few until the time is right to make the announcement.
The offering document for an M&A deal is the deal book, the almanac of fact, the atlas of numbers. The offering document is the bible of the company. As with any written document, it becomes dogma. In other words . . . it’s kind of important. Take care to draft a complete, honest, and accurate offering document.
A letter of intent (LOI) is basically an M&A form of a marriage proposal from Buyer. As the name implies, the LOI lays out the intent of both parties: Seller states she is willing to sell for the proposed terms, and Buyer states what he is willing to pay.
They are both agreeing to move forward to close a deal based on the terms in the document.
Before you can have a conversation about selling your company or acquiring someone else’s company in an M&A deal, you need to have someone to speak to! It’s one of those crazy things about mergers and acquisitions. If you want to find a Buyer or Seller, you have to seek it out, and that starts with a target list (list of potential deal partners).
Mergers & Acquisitions
If you segue into a conversation about doing an M&A deal, start asking questions! Ask about the business: what it does, its history, the revenues, the earnings before interest, taxes, depreciation, and amortization (EBITDA), how the company is incorporated.
You can also inquire about customer mix, how the company goes to market, and who its vendors are.
Mergers & Acquisitions
As an aid to successfully negotiating an M&A deal, pick up the phone and have a conversation, especially if the subject is delicate. The flip side to “pick up the phone” is “avoid e-mail.” E-mail is a wonderful tool, but it’s a passive form of communication. A single five-minute phone call often resolves issues that otherwise would play out in five or ten (or more) e-mail exchanges.
Mergers & Acquisitions
Due diligence is the “open the kimono” time of the M&A deal when the Seller reveals intimate details of the business, including (but not limited to) financials, customer information, pricing detail, sales pipeline, contracts, and employee compensation. Buyer and Seller remain separate entities, but they have very close ties.
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