Small Business M&A: The Difference Between Success and Failure

 

Over the years, Revitalization Partner has assisted several companies with M&A transactions. We have worked with Private Equity groups, Investment Bankers and Business Brokers.

While working on these transactions, we learned how acquiring a small, seller-owned business was different from the traditional M&A process involving larger companies and, often, investment Bankers.

Most smaller companies of the size of a seller-owned business are offered for sale with business brokers. In these cases, the businesses learned of each other through being in the same or similar markets or, in one case, where RP was serving as an advisor to both companies.

 

AN EXCELLENT STRATEGIC MATCH …

It those cases, it turned out that the buyer and seller were excellent strategic matches. In one case, our clients are in a services businesses serving mostly commercial clients and the other company in in a portion of the same business mostly serving state, local and federal agencies.

The acquiring company is about three times as large as the seller and has a broader based management and financial structure. In the other case, the buyer was in the software business and the seller was in the hardware and systems business in the same market.

But with no business broker and being too small a deal for an investment banker, how does the deal get done to everyone’s satisfaction?  First, you need a starting point that everyone can agree on.

 

INDEPENDENT BUSINESS VALUATION …

In both cases, the selling companies had business valuations done by a valuation firm that was respected by the buyer. 

The buyer based the valuation on that study, with the LOI stating that the buyer would conduct due diligence to verify the valuation.

This is an easy way to reach an agreed-on price without the emotion that is often generated by valuation discussions.

The one case, the initial offer consisted of cash plus shares in the buyer. 

In that case, the buyer had a yearly valuation done by an independent third party, so the share value was fixed. 

In the other case, the Seller was to get cash and a note from the acquiring company. As the acquirer was private equity backed, the seller felt comfortable with the note.

 

 

HOW ABOUT THE CULTURE?

The other issue when doing an acquisition is one of culture. In these cases, the management of the two companies spent some time together and both believed there would be a good cultural fit. 

In one case, in order to attempt to prevent the problems that often occur between buyer and seller, it was decided that each business would continue to operate independently without a lot of top down directives from the buyer. 

In the other case, the owner and seller felt comfortable in working for the senior manager of the acquirer as he felt that manager had the experience to grow the business.

 

MISTAKES AND LESSONS LEARNED …

While it all sounds wonderful, there were several mistakes made, any of which could have killed these deals. And some lessons learned by both parties.

1. Regardless of the size of the deal, each party should use deal lawyers.  In one case, the seller use utilized their business attorneys; who are very good lawyers, but a few important tax issues popped up where buyer nor seller had the experience to address them. In the case of the other transaction, the seller utilized his personal attorney who specialized in estate planning. In his zeal to “protect” the seller, he almost protected his client out of the deal. Only the client overriding his attorney allowed the transaction to close.

2. Make sure that all parties completely understand the deal they are agreeing to. In one case, the attorney really did not fully understand the nature of the transaction and wanted to make changes at the last minute as he “learned more” about the nature of the transaction. In another case, a member of management tried to make a last-minute change the he believed was more favorable to the seller.

3. It is important to keep the negotiations open and friendly.

While the issues above created a bit of angst with both buyer and seller in both transactions, the management teams liked each other and realized that completion of the transaction would meet both parties’ goals. As a result, working through the issues never became personal.

 

BENEFITS FROM HAVING A 3rd PARTY …

The four companies were fortunate to have had a third-party involved that could fairly represent both sides and approach the sale process with mutual trust and respect.

For companies with less of a relationship between buyer and seller, there is no doubt that the use of an independent third party to shepherd the deal through the process, combined with the right attorneys, can bring a deal to conclusion.

 

Revitalization Partners is a Northwest business advisory and restructuring management firm with a demonstrated track record of achieving the best possible outcomes for our clients. And now, we’ve written a book to help our readers understand the issues facing their businesses. You can find this compilation of our business thoughts at: https://revitalizationpartners.com/we-could-write-a-book/ or on Amazon.

We specialize in improving the operational and financial results of companies and providing hands-on expertise in virtually every circumstance, with a focus on small and mid-market organizations.

Whether your requirement is Interim Management, a Business Assessment, Revitalization and Reengineering or Receivership/Bankruptcy Support, we focus on giving you the best resolution in the fastest time with the highest possible return.

How M&A Deals Are Like Marriages and What To Do About Failed Expectations

 

This month, the Principals of Revitalization Partners assisted by a Partner of a Private Equity firm, an operational restructuring manager and an Investment Banker, presented a panel discussion at the Seattle meeting of the Association for Corporate Growth with the title listed above.

The concept came from a study by Grant Thornton entitled “Defining What Is Vital For Deal Success.”

 

TRULY STAGGERING DATA …

Some of the data presented in the study is truly staggering when you consider the amount of money available for M&A transactions and the valuation multiple that are found in the market today.

From strategy to implementation, there is a significant opportunity to capture greater value from M&A transactions.

The survey supporting this study showed that only 14%of survey respondents found that their deals exceeded their initial expectations for income or rate of return.

Only 36.8% agreed that efficient M&A execution was a well understood core competency of their company.

 

DESPITE RECORD HIGH VALUATIONS …

Despite valuations being at an all time high, competition for deals continues to increase.

As a result, it’s more important to understand the due diligence process and realize that in addition to understanding the strategy behind the deal, understanding the impact of the financial, operational and most importantly, cultural compatibilities are critical to a successful transaction.

The survey showed that companies can attain much greater clarity at the beginning of the process. Only 38.2% of respondents indicated that they were very clear on precisely what acquisition targets they should pursue and only 32.5% were clear on what they should be paying.

As a result, M&A transactions often fail to add shareholder value.

 

STEPS TO AVOID FAILURE …

When evaluating a deal, there are several steps to take to attempt to head off a failure:

1. Ask hard questions and test your team’s financial assumptions
2. Scrutinize deal protection terms and, in hostile situations, defensive measures
3. Learn why management seeks to pursue (or oppose) a transaction.
4. Carefully review any analysis prepared by management or financial advisors and verify Key assumptions.

 

WHEN ASKED TO RATE SUCCESS …

When asked to rate their success at identifying specific risks, survey respondents confirmed that a handful of issues were overlooked.

  • Overall, 39,7% rated themselves strong at customer retention;
  • 42.7% rated themselves high on employee retention and
  • 39.7% thought they were good at financial reporting compatibility.

 

 

MAJOR REASON EXPECTATIONS NOT MET …

Finally, we get to the major reason that most M&A transactions end up not meeting expectations; that of cultural issues.

There are a few tenets that are required for successful cultural integration.

1.  Never ignore or understate cultural issues. According to Peter Drucker, “Culture eats strategy for breakfast.”
2.  Address the cultural compatibility early in the process and develop a strategy for addressing problems.
3.  Conduct cultural due diligence; Look at multiple cultural dynamics and organizational beliefs.
4.  Understand why you are buying the target company and value those reasons and their culture.
5.  Reinforce commonalities and focus on things that you both share and value.
6.  Address differences, openly discuss issues and integrate where possible.
7.  Look beyond the obvious. You may have similar missions and values, but differences in degrees of hierarchy and attitude can derail the process.

 

ALL DOWNSTREAM REACTIONS …

All these downstream reactions to a merger can have a negative impact on both top and bottom lines which can undermine the initial deal valuation.

The challenge after the close isn’t always making 1 plus 1 equal 3; it’s sometimes insuring 1 plus 1 still equals 2.

And lastly, if you are considering or involved in an acquisition or merger and have concerns about the issues, look for help.

Members of Revitalization Partners have supported transactions on behalf of companies and private equity groups on both the buy and sell sides and are currently involved in a buy side transaction.

 

Revitalization Partners is a Northwest business advisory and restructuring management firm with a demonstrated track record of achieving the best possible outcomes for our clients. And now, we’ve written a book to help our readers understand the issues facing their businesses. You can find this compilation of our business thoughts at:
https://revitalizationpartners.com/we-could-write-a-book/ or on Amazon.

We specialize in improving the operational and financial results of companies and providing hands-on expertise in virtually every circumstance, with a focus on small and mid-market organizations.

Whether your requirement is Interim Management, a Business Assessment, Revitalization and Reengineering or Receivership/Bankruptcy Support, we focus on giving you the best resolution in the fastest time with the highest possible return.