Fundamentally, M&A is a vehicle used to create value and enhance investment returns of stakeholders. Successful transactions occur between companies of all sizes and in countless industries, including entertainment and media, tech, healthcare, real estate, consumer products, and retail.
Whether buying or selling, companies are frequently supported by investment bankers, lawyers, and accountants who help sort through the complexities of a proposed transaction. Professionals will, among other things, identify financing sources, advise on the best structure for the transaction, address tax considerations for the company and its principals, and provide advice regarding succession planning.
It has become commonplace to read and hear about corporate combinations and sales and, at times, news stories focus on one company’s loss and another company’s gain. However, in actuality, there are many reasons companies combine or sell and, very often, the result is a win-win for both buyer and seller. For example, imagine a company that wants to add the latest technology to its manufacturing plant, or wants to expand its locally successful brand to a new region of the country or world; also imagine the young company that has engineered the desired technology, or that has a footprint in a desired geographic location, but lacks the desire, resources or ability to fund expansion. These companies may mutually benefit from an M&A deal.
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The M&A market is currently quite active. Sellers are enjoying greater multiples on their EBITDA. What is fueling the M&A activity in the marketplace today? Some suggest that terrorism abroad has created uncertainty and an influx of foreign investment in the U.S. Others point to the dramatic shift in how consumers purchase goods. Think about the impact of Amazon on retail bricks and mortar. This disruption has necessitated new financial strategies, including M&A. Consider also the dramatic rise in the stock market. With increased share prices, stock can provide the currency needed to acquire the assets of another company. Also, private equity funds have significant cash that must be deployed within a defined time period and must begin to generate investor returns. And, of course, some CEOs will see their competitors engaged in M&A activity and want to join in the process for fear of getting left behind. For sellers seeking an exit, multiples and business valuations today are powerful incentives to cash in on all or part of their interest in a company.
While the world of M&A can sound glamorous, we must not forget the hard truth – not all deals close. Deals may fail to close because the parties have valuation disagreements, or because unexpected issues arise during due diligence, or because the vision of combination synergies fades. The good news is that many of these obstacles are foreseeable and, with proper planning and guidance, avoidable. Critical thinking, solid planning, and guidance from trusted and experienced investment bankers, accountants, and lawyers will increase the likelihood of a celebratory closing dinner.
Think about the impact of Amazon on retail bricks and mortar. This disruption has necessitated new financial strategies, including M&A. Consider also the dramatic rise in the stock market.
Pressure Can Lead to Mistakes
Chief executives and senior decision makers are typically under significant pressure to grow their company’s revenues and stakeholder investment returns. Indeed, an executive’s compensation may be directly linked to the number and size of deals closed. Decision makers may look to increase revenues organically, by expanding the brand or its geographic reach or by adjusting pricing strategies. Alternatively, or additionally, they may consider achieving growth by acquiring a competitor or other company with key products, intellectual property, rights and licenses, and human capital.
Before committing to purchase a business, it is critically important to thoroughly evaluate the target as well as its price, financials, and operations. In addition, consider post-closing integration issues such as whether the transaction will have an impact on key employees. This analysis will help ensure that strategic goals are both realized and sustainable over time. It is equally important to stay abreast of changing market conditions and how such conditions may impact agreement terms. In considering all of these factors, one must appreciate their company’s strategic needs both in the short and long term and have a solid, defensible foundation for the proposed acquisition. Much of this seems rather basic. But, when faced with great pressure to show results, decision-making can get clouded and mistakes can be made, including overpaying for a company. To reduce the risk of making a mistake, many executives seek advice and counsel from investment bankers and lawyers.
Investment Bankers
If an M&A transaction is an orchestra, the investment banker is the conductor. The investment banker performs market research and analysis, using complex financial models to help a proposed seller or purchaser determine the value of a company both before and after a proposed acquisition. Among other things, the investment banker helps a proposed seller identify the optimal way to market the company. The experienced investment banker will have his or her finger on the pulse of the marketplace and the ability to effectively structure the proposed transaction. The investment banker prepares the “pitch book” that is circulated to potential buyers, gathers bids from interested parties, negotiates the structure of the transaction to maximize leverage for the seller, finds financing when needed, and coordinates with lawyers to bring the transaction to a successful close. Likewise, if representing a buyer, the investment banker will analyze the “pitch book” and provide strategic guidance and financial information regarding the proposed transaction. Will the value of the company be diluted after an acquisition? What about key employees? How will market conditions affect the purchase price? What terms of the transaction are problematic and can be negotiated? Whether representing a buyer or seller, the experienced investment banker understands the complexities of the proposed transaction and works to ensure that his or her client’s interests are maximized.
If an M&A transaction is an orchestra, the investment banker is the conductor.
Lawyers
Lawyers refine the deal terms, consider legal risks arising out of a transaction, document the transaction, and work to minimize the legal and financial exposure for their client. An experienced lawyer shares knowledge of market deal terms and identifies reasonable and market-driven solutions to hurdles that arise in the transaction, thereby avoiding unnecessary controversy and delays. Lawyers are also critical to the fact-finding or “due diligence” process. Due diligence is a process where attorneys make a detailed evaluation of all facts and company documents to, among other things, develop an understanding of the company, its competitive position in its industry, and the potential synergies of combining the businesses. An attorney will test assumptions and otherwise determine whether the parties should proceed with a transaction and whether the price makes sense.
[For more on Carlton Fields’ approach to M&A click here]
For example, consider a company that has products reliant on patents and trademarks. Prior to any sale, it is critical to ensure that all governmental intellectual property registrations are in order. Flawed registrations adversely affect legal rights which, in turn, impact the company’s value. When sellers wish to limit their representations to the buyer, lawyers can assist the parties by helping them allocate risk. For example, it may be appropriate to discuss representation and warranty insurance. Such insurance may increase the sales price and proceeds to the seller and its stakeholders. Similarly, some transactions can be structured with an ESOP, which frequently results in additional proceeds to stakeholders.
Disclosure to Key Employees
A company’s leadership team often plays a key role in a company’s operations. If key management is a critical asset of the company, leadership will need to decide when to inform these key employees about a pending M&A deal. It is important to avoid surprising key management and even key employees. If and when these employees learn of a pending deal from sources other than management, they may feel insecure about their future, leave the company, and thereby affect the value of the company and the sale price. The seller may negotiate to protect its key management and other employees’ positions. Many sellers choose to inform their key employees, confirm their positions are not in jeopardy or that they will be reassigned and, perhaps, even agree that key employees will financially benefit from any consummated sale.
Think About Tax Considerations Sufficiently in Advance
Tax considerations are important in every M&A transaction. Sellers exiting their business may receive substantial cash and have concerns regarding capital gains taxes and other taxes. Likewise, the buyer will have its own tax impacts to consider. The key is planning. Taxes should never be an afterthought. Indeed, ideally, the tax impact of a sale should be evaluated at least two years in advance of any sale to maximize tax benefits to the seller and buyer. With proper planning ahead of time, a seller will often receive a higher sales price. As noted above, an M&A transaction is about creating value. Thoughtful tax planning is essential to this goal and should not be delayed.
Plan and Have Your Corporate Act Together
As soon as possible but perhaps even two to three years before selling a company, it is important for a seller to consider – with their accountant, lawyer or other trusted advisor – the state of the company’s business and
its financial and corporate recordkeeping. Going through this exercise benefits both the company and the stakeholders. When a company is well-organized and produces clean, professional, and accurate data, the due diligence process will proceed smoothly and the company will enjoy greater credibility with all parties. Representations about the company, its business operations, and its profits and losses are less likely to be challenged or, even worse, disregarded. The value of a credible seller cannot be overstated.
In sum, consider your short- and long-term goals. With solid planning and proper due diligence, you will stand in good stead to close a successful M&A deal.
