Negotiating the M&A Transaction - The process of negotiating the sale or acquisition of a private company may sound like a simple process, but it can be very complicated. There are numerous parties involved at the negotiating table and behind the scenes of a transaction. And each one wants to win — for themselves and their stakeholders — in negotiating the deal.
The parties involved may include:
On the Seller’s side—the owners and possibly their spouses and families, the M&A advisor, seller’s attorneys, seller’s CPA, key employees and their own attorneys and CPAs.
On the Buyer’s side—the buyer(s) and possibly their spouses and families, the M&A advisor, attorneys, CPA, due diligence team, valuation firm, real estate appraiser, as well as each funding source, their funding officer, and their attorney.
Early negotiations start when the buyer and seller begin to learn about each other, first with conference calls, then face-to-face meetings. The buyers and sellers both may have millions of dollars at stake, and they can become very emotional during the negotiation process. Although most try to respect each other and remain friendly, buffering provided by experienced advisors will help. An adversarial relationship is not productive and is unlikely to result in a closing. Each side is spending tens of thousands of dollars in professional fees, so making it to closing is the best outcome for all involved.
Most transactions over a $1 million don’t go to market with an asking price because the value of the business is ever-changing as the business grows. Plus, every buyer has a different opinion as to the value of the business, and what assets and liabilities should be included. A letter of intent (LOI) is usually the first negotiating document that buyers and sellers develop with their advisors, and negotiating the price and terms requires skill and experience. Price and terms include the total amount of the sale, how much cash the seller will receive at closing, seller notes and terms, earn-outs, working capital amounts, which assets and liabilities will be included in the sale, and any employment agreements.
During due diligence, the buyer’s investigating team seeks to confirm information that has been given to them, but is also looking for inaccuracies not previously disclosed, or hidden gems or opportunities that haven’t been presented. Much of their investigation has to do with the financials, to confirm revenues and expenses, but they can also explore customer and supplier details, inventories, fixed assets, competitive analyses, legal issues, etc. Once the due diligence team finishes, the LOI could be renegotiated depending on findings.
Often each side prefers to write the initial draft of the ensuing purchase agreement. Regardless of who issues the first draft, both sides will need skilled negotiators to guide them. There are dozens of key issues for which each side wants protection and will negotiate. These include representations and warranties, defining financial statement accuracies, materiality provisions, undisclosed liabilities, conditions to closing, post-closing purchase price adjustments, indemnifications, survival time to assert claims, carve outs, types of damages, baskets/deductibles, thresholds, caps, escrows/holdbacks, setoffs, remedies, governing law, venue, ADR, tail insurance, etc.
Negotiating the purchase price allocation has different tax ramifications for each side. The buyer and their CPA will want to get quicker write-offs, so they will want to allocate larger amounts to equipment, vehicles, other fixed assets and consulting agreements. The seller will want to minimize their taxes and get capital gains tax treatment, and have larger amounts allocated to goodwill.
Skilled advisors will also help manage the emotions involved on both sides. The seller typically has significant attachment to the business they built and will want to be paid for the countless hours of starting the business and the risks they had to take. The buyer’s emotions are typically tied to risk. They will be borrowing a great deal of money and most likely personally guaranteeing the loan, perhaps along with their spouse. The buyer needs to be able to pay themselves a workable wage and provide a reasonable ROI. Acknowledgement, awareness and sensitivity to the various emotions of all parties will allow for a smoother process.
The greater your M&A knowledge, the greater your power, and the more successful you will be in selling. Knowing why a buyer is interested in the selling company may help in the negotiations. A seller and their advisors have a great deal of power in negotiations if they have multiple buyers interested in the business. And the opposite of that is true, too. The buyer has more power if they are the only ones involved in seriously looking at the business and the seller is motivated to sell.
Hiring advisors who are experienced with M&A transactions is vital. Having an M&A firm and M&A attorney with the knowledge and experience in dealing with numerous sales and acquisitions will generate a much better price, terms, and management of risk for their respective side. And when one side doesn’t spend the money to hire proper advisors, they could suffer greatly.
There is a finite amount of energy in every transaction. Deals sometimes fall apart because one side runs out of gas. It can’t be assumed that the other side will keep going back and forth for an unlimited amount of time. The buyer shouldn’t be trying to steal the business and the seller shouldn’t expect the buyer to excessively overpay. All parties should negotiate to a win/win to get to a successful a closing.
If O’Keeffe & O’Malley can help you in negotiating the M&A transaction, please call us at 913.648.0185.