Advisory white papers: Company sale - Foundations of a successful deal

I've worked with many entrepreneurs to sell their company as well as many potential

company buyers. It's never easy completing a deal, but it’s very satisfying when a deal is

concluded and regarded as a win-win by all parties.

There can be many pitfalls and frustrating moments in the path to reaching agreement. However many difficulties can be eliminated or minimized with some foresight and proper planning.

The following observations are based on my own experience. They are deliberately pragmatic and commercial to provide some initial starting thoughts for those who are considering selling a business:

1. Keeping your eye on the main game. More often than not in a company sale scenario, the owner becomes preoccupied with the sale process and loses sight of the critical, day-to-day management issues. The continuation of the current business profile and performance underpins the very value of the business.

2. Proceeding with knowledge and confidence. The sale of your company is a major business transaction. The key is to be well prepared, confident and decisive, and to have clearly defined objectives. The following will help you to maintain an orderly process:

a. Invest some research into the market[s] you are selling to and who your potential buyers might be

b. To prevent a potential buyer from taking charge of the sale and purchase process it is important to have your own methodology with clearly defined steps and known documentation requirements

c. Make sure there are time limits on all agreed activities leading to a Sale and Purchase Agreement so that you have the choice to amicably discontinue negotiations with a reluctant buyer and commence discussions with another interested party

d. Make sure in all negotiations and interim documents [eg Heads of Agreement] that it is understood that at all times the decision of a party or its shareholders as to whether to proceed to a contract of Sale and Purchase remains a free and unfettered decision. Neither party should be able to claim against the other if a contract of Sale and Purchase does not eventuate. Even though one or both of the parties may be unhappy, you don’t need litigation as a result of a curtailed negotiation.

3. Getting the right mergers & acquisitions [M&A] team. Retaining a corporate advisor will enable you to focus on running the business. The corporate advisor will find the acquiring company which represents a strategic fit for your business and coordinate the deal negotiation process to its conclusion. He should provide staged deliverables and progress reports to you as well as enabling full decision-making participation by you and your board. To support the corporate advisor your M&A team should also include your lawyer [with M&A contract preparation skills] and you external accountant [with M&A transaction skills including capital gains tax issues]. Make sure that the members of your team are always reachable, have sufficient time to work on your project and are willing to work in the evenings and weekends when required.

4. Understanding the value drivers of your business. In essence the value of your company today is determined by the market [ie what a willing buyer is prepared to pay for it]. However if you are well prepared and have a reasoned story you are best able to influence the buyer and also achieve your objectives in the negotiations. To achieve the maximum value in today’s market it is important to understand how the market is behaving at present and the factors that can influence the value that you will achieve:

a. Your advisor who understands your business and the industry can advise you what prices are currently being achieved in the market

b. Your business is worth more if it is a strategic fit for a buyer [eg geographic/industry sector, complementary product/service line, new skill set, major clients

c. Most buyers will take a pretty straightforward view of valuing a private company. They may look for a specific payback period on their investment or they may view the expected ongoing profit stream as a return on the investment made in buying the business.

Key inputs in determining the value of your business are your profit history, the predictability of maintaining your profit and the value of your balance sheet. Reaching agreement on future maintainable profits, the value of the balance sheet, and a fair return on investment are therefore invariably fundamental negotiating points

d. While usually the most important determinants of future maintainable profits are past and current profits, there are many other influencing factors. The existence of locked-in long term contracts, royalties, maintenance contracts and earnings from intellectual property, can significantly influence company valuation. In addition intangible factors such as management and employee resources, customer relationships, business longevity and location, a strong sales prospect pipeline and the nature of competition will have a bearing on the stability of the business

e. If you are confident that future earnings will significantly exceed current earnings you may want to structure payment over a number of years [I don’t recommend more than three payments over two years] using an earn-out formula where your payments for the company are increased depending on results achieved

f. If it is important that you and/or some colleagues should stay in the business under the new owner the remuneration levels and conditions of employment should be treated as part of the sale negotiations. An appropriate Employment Agreement should form an addendum to the Sale and Purchase Agreement

g. Beware of purchasers who are only interested in bargains

h. Beware of ‘tyre-kickers, who only want market intelligence.

5. Managing confidentiality. I like to maintain strict confidentiality until a deal is imminent. In my experience there is little to be gained by providing early notification to staff and the market place that you are considering selling the company. To avoid time-wasting staff gossip and to protect your relationship with key customers and suppliers it is best to wait until there is something positive and concrete to talk about. However to provide smooth communication with the external members of the M&A project team it usually makes sense to take your personal assistant and the internal accountant into your confidence.

6. Beware the ‘Deal Killers’. The process of two parties moving towards consummating a deal is based on trust being established between the parties. This is gradually built up throughout the process. Any of the following actions will greatly damage the feeling of trust and are likely to lead to collapse of the negotiations

a. Saving the bad news. Addressing bad news up front can help to establish a strong case and avoid potentially damaging innuendo

b. Changing previously agreed terms. Nothing can damage the credibility of one of the negotiating parties more than if they want to back out of a previously agreed term or condition[ie based on handshake, Terms Sheet or Heads of Agreement] even though a Sale and Purchase Agreement has not been signed

c. Professionals’ hijacking. There is a critical role for competent lawyers and accountants in preparing and reviewing comprehensive documentation to support the deal and advising on effective structuring of the deal. Problems can arise however when they see themselves as business negotiators whose mission is to get the "best deal" for their clients. They can forget that the "best deal" has to be acceptable to both parties, the seller and the buyer. A particular transaction structure may be tax effective for the seller/buyer but actually detrimental for the other party. You and your corporate advisor may need to cut through the technical confrontation between the respective parties’ lawyers and accountants occasionally to refocus on the commercial priorities and benefits of the deal and to guide them to find a compromise.

Disclaimer:

The process of finding the right business partner and leading to a company Sale and

Purchase agreement is a complex one with many steps and options. The observations

made here are a general summary only and should not be relied on as a substitute for

professional advice. Each sale and purchase transaction will have its own unique

characteristics requiring special consideration.