The thought of selling your business which possibly you’ve built up over many years and have invested so much of your time, passion and soul is a daunting one, particularly if it is the only business you’re likely to sell in your lifetime or the sale is to fund your well-earned retirement. It is therefore crucial to prepare, take your time and garner the help of experts who buy and sell businesses for a living. Any costs involved will be recouped many times over through identifying the right buyer, achieving a better price and giving you the reassurance that you’ve got someone in your corner to help you make the right decisions. Selling your business is a stressful, anxious time that invariably takes longer than you think so making the process as smooth and hassle-free reaps benefits. After all, you can only sell your business, which might be your life’s work, once.
The following article outlines a number of considerations surrounding due diligence, financial issues, intellectual property and legal issues and provides an insight into the M&A process. To be successful in navigating the M&A transaction, it’s invaluable to understand these issues and the dynamics that take place.
1. Mergers & Acquisitions valuation is negotiable
The offer price and valuation of a deal is always negotiable; like all other terms in M&A transactions. But, since privately owned shares aren’t publicly traded, the valuation and benchmark may not be immediately clear. It is dependent on a number of key factors to list a few:
- Is the sale being done privately or is there a formal auction/bidding process?
- Market comparables. Are your competitors selling for 1x revenues or 5x EBITDA? Is your business growing faster than the competitors?
- Is your buyer a financial buyer (valuing your business on a multiple of EBITDA) or a strategic buyer (maybe willing to pay a higher price because of synergies/strategic fit)?
- Can your historical financial trends of performance help predict future performance?
- Are there exceptional costs in the historic results that won’t be repeated?
- Are there “personal” costs of the current owner that won’t exist after a transaction?.
- Your company’s projected financial growth for the future.
- The assets and technologies that your business owns/licenses.
- What sector your business operates in.
- Are there multiple bidders or a single interested party?
- Could your business play a part in a buyers IPO strategy?
- Does the buyer already operate in your sector and therefore benefit from synergies post-transaction?
The above list of considerations is far from comprehensive since there will be specific considerations unique to your business and your plans. It’s therefore important to engage with experts to help you navigate what is often called a minefield to ensure you maximise the value of your business and structure a transaction that meets your requirements.
2. M&A can take time to market, negotiate and close
From inception to consummation, M&A can be a painstakingly long process. 4 months to exceeding a year is not uncommon. Timelines are dictated by the length of time it takes to find a suitable buyer, the time to negotiate the Heads of Agreement (the principles of the transaction), and, most importantly, the sellers’ ability to provide the reams of information required during the due diligence process. Negotiating the Sale and Purchase Agreement – the legally binding contract that seals the transaction can often take time too since it addresses both the legal protections for both parties but also enshrines the commercial terms. The latter falling on the seller and their M & A advisors to negotiate and the lawyers to draft.
Specialist M&A and sell-side advisory firms can be revolutionary when devising a process and are able to shorten the time frame by:
- Help the seller prepare their business for sale to position it in the best light and ensure all pertinent information is readily available.
- They can use their networks and skills to identify potential suitors without divulging the seller until genuine interest has been validated and an NDA signed.
- They can prepare the Information Memorandum that is provided to vetted potential suitors.
- They can lead negotiations and guide the seller through what is often “new territory” for them.
Unstructured and unmanaged the sale process often drifts, with the result that the Seller becomes frustrated and fatigued by the length of time the process is taking and it rarely concludes with an optimal transaction for the Seller. Utilising experts, be they seasoned corporate lawyers or M&A specialists, is always money well spent.
3. Sellers need to understand the significant due diligence investigation the buyer will undertake
Due diligence, the verification of information presented by the Seller, is a fundamental element of every transaction since buyers rarely acquire businesses using 100% their own cash and therefore their funders (Banks, Private Equity houses, Venture Capitalists) need confidence that what they are supporting has been accurately and honestly presented. The due diligence process is all the more important for private companies since the selling company has not been subject to the scrutiny of public markets.
Sophisticated strategic and private equity buyers usually follow strict due diligence procedures that provide an extensive investigation of the selling company.
To deal with a due diligence process efficiently and effectively, selling companies should set up online data rooms concerning key material information such as contracts and corporate records. This helps provide confidentiality and clarity to the buyer.
The room should only be accessed to pre-approved individuals. Most online data rooms can show the seller who has accessed the room, how often, what they opened/looked at and also when they were last there.
This information can be very important as it is an indication of the level of interest each potential buyer has for acquiring the selling company whilst also telling the selling company what is most important for the buyer.
Selling companies must understand that this process is lengthy and requires a lot of devotion to complete. Here, experienced M&A advisors can provide companies with detailed lists and types of documents that potential buyers will be interested in. The key to success is to take time to prepare the data room information before launching the Sale process since it provides instant reassurance to the buyer that the Seller has control of their business and expedites the due diligence process.
4. Financial statements & projections will be vetted
Few, if any, transactions can ignore the financial performance of the Seller’s business since it is one of the fundamental ways to validate and quantify value and thus establish and agree on a price to be paid. The metrics used and the weighting placed on other facets of the business (market position, maturity, sector, IP etc) are important but current and potential financial performance usually trumps everything else in defining the price.
Financial reports must present an accurate and complete picture of the trading position of the business and consistently use the same accounting rules. Any material differences between the Management Accounts and the Statutory filed Accounts need to be explained, ideally before the potential buyer asks.
Buyers, through their due diligence process, will want to fully understand the financial performance of the business in some detail and granularity. The presentation of the information in the data room is therefore key to achieving full value for the business and keeping the due diligence process as efficient and therefore as short as possible. Some key areas worthy of addressing include:
- Provision of at least three years Statutory financial statements
- Monthly management Accounts for at least two years
- A breakdown of revenue by the key client (anonymised) to show dependence and concentration
- Current Balance Sheets to show Net Debt / Cash position
- At Least a 12-month forecast
- A schedule of exceptional costs/revenues that should be adjusted from the results to “normalise” them.
- Details of the owners remuneration/costs will not be carried post the transaction.
- A schedule of KPIs used to manage the business: Gross margin %; Net %, EBITDA%, Receivable Days; Inventory Days; Labour costs to turnover
Whilst these are a few areas for inquiry, many more areas exist So acquiring financial advice from experienced advisory firms will always make this part of the process more efficient and stop you from falling into pitfalls.
5. Will multiple bidders help the seller?
Conventional wisdom dictates that competitive pressure from competing bidders will maximise the price achieved. That may well be the case but might not be right for the Seller to achieve the best outcome for them. Most private business Sellers want to keep their anonymity and the fact that they wish to sell their business as secret as they can for as long as they can. A formal overt auction process does not lend itself to that. A private, off-market, transaction may well be the better option. That does not mean to say that only one potential suitor is approached just that through the use of an M&A firm the Seller’s identity can be withheld until one or more potential suitors have provided an indicative offer and have signed a confidentiality agreement.
M&A firms are experts in leveraging your company using its competitive edge to potential buyers, you’ll be able to obtain a higher price & better deal terms if done correctly. By engaging to sell your business to one interested party, possibly on them approaching you, the selling company is instantly at a disadvantage.
6. M&A lawyers
It goes without saying that no acquisition transaction can be completed without significant input and drafting from each sides’ lawyers. Lawyers however comes in many shapes and guises so make sure that you commission one appropriate for the task in hand. They should be seasoned corporate transaction lawyers, ideally from a firm you already know, trust and have a relationship with and of course you should get them to provide a quote for the work. Remember most lawyers charge by the hour rather than provide fixed fee quotes.
Ideally, your lawyer should be familiar with the sector you work in, but that’s not fundamental, it is more important that the are experts in their field, not yours. You can provide the sector expertise if required. What’s more important is that you or your M&A advisor are well placed to debate and negotiate the commercial aspects of the Sale and Purchase agreement rather than leave that to the lawyers. Remember lawyers are there to draft, rarely to negotiate, and they love nothing more than having a technical debate with a counterpart. Ensure you control the process and remind them they are on your clock!
A good lawyer will fight your corner, give you sage advice and propose reasonable compromises when appropriate, a bad one will cost you the transaction. Your M&A advisor, if mandated, will ensure you have the right one and ensure the commercial aspects of the transaction reflect the terms outlined in the Heads of Terms.
7. Intellectual property issues
Not every business relies on Intellectual Property (IP) that it has created however it’s becoming an increasingly frequent element of acquisition transactions as more and more technology-related businesses are bought and sold. If your business does rely on IP then it may well be the key value driver of the business and therefore critical in establishing the price paid by the buyer. Things to consider include:
- Do you have a robust register of all IP – not just Patents but also “know-how”, copyright, trademarks, branding. If you don’t compile it before going to Market.
- Ensure that the IP is held in the name of the business, not the individuals who created it. Make sure your employment contracts are clear on that point.
- Detail any past IP infringements, how they came about, how they were settled and what the status is. Are there any open cases?
- Detail out which territories are covered by your IP registrations.
- Ensure that your IP files are up to date, comprehensive and are ready to be reviewed by the buyers’ expert IP consultants. Poor or incomplete files will materially impact the transaction.
If IP is pivotal to the valuation of the business then make sure that your records are complete, your staff consistently record what they are creating and that the importance and therefore value is self-evident. It will be scrutinised in detail during the due diligence process and can either be your golden ticket or your undoing. For obvious reasons IP “rich” businesses command higher valuations even if revenues and profits have yet to be scaled so you need to clearly justify its potential.
8. Letter of intent/heads of agreement stage
One of the biggest challenges for somebody selling their business is negotiating the Letter of Intent, sometimes called the Heads of Terms or Term Sheet.
In most M&A deals, a buyer will negotiate and sign a non-binding letter of intent with the Seller to outline the key commercial elements of the transaction to be enshrined in the legally binding Sale and Purchase Agreement (SPA). If not drafted with skill this document lacks key details about some terms of the deal-making the subsequent negotiation of the SPA all the more difficult. These documents tend to be the starting point for exclusive negotiations and commencement of the due diligence and legal drafting of the transaction.
Whilst other stages of the deal are important, selling companies’ bargaining power comes prior to signing the letter of intent. Although these documents are non-binding, the terms outlined will dictate the shape of the transaction and define a favorable deal for the seller. Once the letter of intent is signed it can be argued that a degree of power switches into the hands of the buyer, especially if it includes a period of exclusivity to conclude the transaction.
Engaging with M&A experts early in the transaction, and before the Letter of Intent has been signed will give the Seller the best opportunity to negotiate the most favorable terms.
9. Sale & purchase agreements
The SPA, once negotiated, is the formal, legally binding, agreement that details out all the agreed terms of the transaction. As noted above you obviously need a lawyer to draft it and protect your interests but most importantly you need the right sort of lawyer.
Reading a draft SPA for the first time can be daunting since it will regularly run to 60 – 80 pages and include phrases and clauses that you haven’t come across before. It’s your lawyers’ job to demystify the draft, explain the issues or positions taken by the buyer and provide you with guidance and advice on what is “normal”, reasonable, equitable and or fair and appropriate. It’s never a case of accepting everything that the buyer wants or rejecting everything that they want. Like most things’ success is achieved through compromise, however the trick is to know when to stand your ground and when to yield.
A key element of every transaction are the Reps, Warranties and Indemnities these are statements of fact that are included in the SPA to which the buyer is seeking confirmation of and are therefore relying on to complete the transaction. Failure to answer these statements honestly will have consequences, however it’s unlikely that you’ll be able to answer every single one in the positive. For those statements that you can’t confirm the Disclosure Letter is your opportunity to clarify the situation. Full disclosure is your best option to protect your downside risk and limit any clawback of the consideration paid for the business in the future.
Negotiating these terms is where your lawyer will earn their money and so it’s an area that should be reviewed and debated in detail.
10. Understanding negotiation dynamics
M&A transactions require skillful negotiation, patience, compromise and above all preparation and realistic expectations. For many selling their business will be a once in a lifetime event that rewards years of effort, sacrifice and risk-taking. It’s therefore important to give yourself the best chance of success by calling on the skills of an experienced M&A team who have dozens, if not hundreds, of similar transactions behind them.
Regardless of how big or small the business in question is there will be complexities and issues relating to the M&A negotiations that will be novel to the seller and require several compromises. Negotiation can be both strategic and tactical so it’s important to understand the motivations and drivers of each party in order to present the most effective arguments and win the day.
Negotiation can at times be confrontational and may sit outside of the sellers’ comfort zone, particularly if they know they’ll have to work closely with the buyer post Completion. One very effective tactic is for the M&A advisor to present the difficult issues thus distancing the seller and protecting their relationship with the buyer. Having such an advisor at your side for the negotiations will always help you to navigate tricky deal issues.
The above only provides a flavour of the many issues that need to be addressed when seeking to sell your business. The key to a successful transaction is preparation, realistic expectations and utilising the skills of M&A experts who are sympathetic to the sellers wishes, are well placed to identify suitable potential buyers and are seasoned negotiators.
Morphose Capital Partners, have a team of expert M&A specialists who can handle every stage of even the most difficult of transactions to ensure the seller achieves the result which is right for them and their family.