Business owners are often reluctant to enter discussions about the disposal process until they are completely certain that they are ready to exit. There is a natural fear of getting sucked into a commitment they are not yet prepared to make and sometimes an (unfounded) concern that exit implies the business is struggling.
Unfortunately, this can mean that when the time comes to sell their business, shareholders don’t have a clear understanding of the process and that their views of the do’s and don’ts can be disproportionately influenced by the views of friends or even “a man down the pub.”
So, in the interests of balance, here are our top ten “things to know” for potential vendors, based on 30+ years in the M&A business.
The business that approaches you might not be the right buyer
While an initial “cold” approach from a potential suitor is often the catalyst to kick off a disposal process, it is surprising how often that company falls by the wayside once things hot up. Many buyers are only interested in an “off market” acquisition and/or have made assumptions about your business which turn out not to be true. A sensibly run process will be both targeted and widely drawn enough to flush out genuinely interested parties and create competitive tension. There is no price premium because someone comes to you first and not vice versa.
Two (or more) parties are no more work than one
Other than a few more management presentations, it is no more effort to run a competitive multi-party process than to run with a single buyer and the advantages of a competitive process thoroughly outweigh the disadvantages. With a competitive process, not only do you have a properly market tested price and deal structure, but the successful bidder is also aware that they are not the only show in town and will accordingly behave better and co-operate more with your timeframes. If you run with a single buyer from the start, however strategic, they will typically go at their own pace and might put down and pick up the process if they face internal issues or something more interesting comes along.
A well-run business doesn’t need to spend years preparing for an exit process
Much is made in the corporate finance community of “grooming” (terrible word) businesses for exit. The key things to focus on ahead of a process are your ability to back up your historic EBITDA figure and to support the assumptions that you have made in your forecasts. A buyer is likely to ask for more revenue and margin analysis than you would normally produce but there is nothing surprising in what due diligence looks for and most well-run businesses can pull a creditable data room together with a month or two of hard work.
Vendor Due Diligence isn’t always necessary
Until a few years ago, vendor due diligence only featured in the largest and most complex transactions. Investment banks rely on VDD to support the figures in their information memoranda and it can serve to defer exclusivity/accelerate due diligence in a highly competitive process. However, VDD has now routinely slipped into the mid-market and many advisers will tell you that you need to invest in a VDD report if you are going to sell your business. In practice for most straightforward businesses, a well-prepared data pack and a good adviser should preclude the need for formal, and costly, VDD.
You should prepare for the process to be personally time consuming
A typical deal process will take around 9 months from instructing an adviser to completion. Your day-to-day input to that process will ebb and flow depending on what stage the process is at, and at times it will be intense. Particular moments where significant vendor input is required are in determining deal strategy, providing information for the information memorandum, preparing a data room ready to go to market, supporting your adviser to respond to acquirer questions, providing supplementary financial analysis, feeding into negotiations to get to the right heads of terms, supporting responses to due diligence questions, disclosure and providing input to your lawyer regarding legal negotiations. To some extent, advisers can work around holidays and other vendor commitments but it wouldn’t be a great time to take off on a round the world cruise!
The thing that most often goes wrong is trading
A deal will be agreed on the basis of the information and financials provided to a potential acquirer in the IM. If trading falls away during the course of the due diligence process, then it may cause the acquirer to lose faith in the financial information provided and (depending on how competitive your process is) might lead to a price adjustment, pause or even the demise of the deal. For this reason, it is critically important to ensure that the figures reflected in the information memorandum are achievable and that a strong focus on sustaining trading performance is maintained throughout the process. Given that the process itself can be distracting, it is important to ensure that management prioritise achieving their forecasts over answering due diligence questions – a balance that can be hard to strike in practice.
You will need to trust your advisers
In the same way that you need to trust your doctor, there will be times in a deal when you have to rely on the judgement of your advisers even when you don’t entirely have confidence in their views. Entrepreneurs are usually independently minded and self-determining individuals who find it difficult to put their faith in others. In most processes there will be negotiations around multiple points, large and small. Your natural tendency might be to concede nothing, even if ego isn’t an issue. Your advisers will be focused on getting to completion with the best overall result possible for you. This might involve conceding, trading or accepting points on the way through depending on the strength of the arguments and the persuasiveness of the data. At the end of the day if you aren’t happy with where the deal lands, you don’t have to sign the contract!
White lies are an inevitability
Vendors often ask when they should let their wider team know of their plans to sell. With the exception of key individuals whose input will be needed in the process (e.g. your Finance Director), it is always best to leave any communication internally to as late in the day as possible. Announcing that you are planning to sell without being in a position to communicate robustly what is going to happen to people next just creates uncertainty and distraction. Communication to the wider business will ideally only happen once the deal is done and then in conjunction with the acquirer. Since rumors can circulate as a result of site visits, information requests etc., vendors may have to offer a plausible alternative to the truth, such as a refinancing, in order to deflect concerns.
Private Equity are acquirers worth considering
“The man down the pub” has often had a poor experience of private equity and many vendors are reluctant to consider a private equity transaction as an exit route. With a significant amount of cash available to spend and a rational and well-structured approach to process, PE can offer a worthy alternative to trade buyers and have, over recent years, often matched or exceeded trade valuations. If nothing else, they serve to introduce more competition into a deal process which is helpful in driving price and allowing vendors to maintain control of pace. At the very least vendors should be open-minded in considering a dual track approach to buyers.
Earn-outs are not inevitable, but they sometimes serve a purpose
Business valuations are normally based on a demonstrably sustainable and normalized EBITDA multiplied by a market validated multiple. That figure is what the business is worth today. Sometimes where a business is forecasting significant growth or profit improvement which cannot be fully validated through due diligence, an earn-out right (or a deferral of consideration) can be a way to bridge the resulting valuation gap. Earn-outs are difficult to structure practically for everyone and they should be upside for the vendor rather than a core part of the deal, but they do have a place and a blanket refusal to consider one can be self-defeating.
In a nutshell, the process is long and to most vendors feels frustratingly protracted. Prepare intelligently, appoint and listen to good advisers, run a competitive process, be realistic about value and structure and keep focused on business performance throughout and it usually ends happily!