Reversing roles is a good place to start: from here you can begin to pre-empt potential concerns and tailor your approach to negotiations that ensure you achieve the deal you deserve. An important asset will be the ability to understand key characteristics of your potential purchaser: some will be trade buyers looking to add to their existing business and others will be institutional investors buying your company as a financial investment…
Trade buyers – looking to fuel own growth by finding a great fit
The classic trade buyer is a company that is seeking to make acquisitions within its own industry. Generally, trade buyers are motivated by the prospect of synergies, which, it is hoped, will give rise to economies of scale. However, synergies can extend to other strategic objectives, including the need to diversify and enter new marketplaces, the need to grow market share and other more subtle synergies such as buying in complementary intellectual property. Trade buyers tend to set longer-term goals than those of purely financial buyers.
Trade buyers will often have a deep practical knowledge of your business, arising from its own activities. This means that they may place less emphasis on retaining and incentivising an existing management team. This buyer will also make thorough plans for integrating your business into an existing outfit.
From a valuation perspective, the trade buyer will need to be comfortable in the knowledge that their agreed valuation reflects the value of identified synergies less integration costs. Their diligence activity will tend to reflect this.
If your most likely exit route will be to a trade buyer, you should focus planning on how you can make their deal easier. You need to show them how your business can be transplanted as seamlessly as possible into theirs – shared culture, functional systems and management, and a dovetailing between your strengths and their weaknesses. In short, you need to help them write their integration plan.
Private equity buyers – looking to fund the next stage of target growth by offering a new direction or extra firepower
Private Equity (PE) buyers will need to see growth potential in your business as a standalone entity. They will also generally be attracted to targets with the strong annuity revenues required to support leveraged finance. As their purchase will represent a financial investment in your business as it stands, they will want a good prospect of a short- to medium-term profitable divestment. If it is essentially a management buyout deal or variant that is proposed, then there will be a strong focus on the management team of their target. Unsurprisingly then, a PE buyer will focus much of its diligence on revenues, on the management team and on what the next stage in the target’s value-building story could look like.
Since the credit crunch, PE houses have found ways to finance their deals from increasingly sophisticated funding products on a global basis via multiple sources. By contrast, trade buyers without the benefit of a cash war chest for acquisitions may find it much harder to access finance for their acquisitions.
In recent years, trade buyers had re-entered the mergers and acquisitions market in the wake of PE retrenchment since 2009. However, PE activity is starting to accelerate noticeably. It is likely that PE buyers will take back their place at the head of the M&A market as confidence among institutional investors continues to grow and the availability of finance continues to improve – trade buyers may find that they will struggle to match PE valuations.
If your most likely exit route will be a PE buyer, you need to show strong cash flows, long-term contracts with the ‘stickiness’ necessary to underpin revenue forecasts and a management team with the vision to drive the business forward. You should also consider how to help them plan their own onward sale in due course – what are the areas for organic or acquisitive value-building? Your PE buyer will need to see something left for them in terms of future prospects. In initial discussions, it will help you enormously if you can present them with ideas for the next three to five years – if you were retaining the business how would you drive future growth or non-synergistic efficiencies?
Hybrid buyers – many recent market entrants can offer fit plus firepower
Increasingly we are seeing buyers who are part-trade, part-financial entering the market. These buyers tend to be PE-backed corporates pursuing variants of the ‘buy and build’ model. Activity among hybrid buyers is a particularly noticeable trend in capital-intensive sectors where PE players can see a case for investing in economies of scale synergies. There are more and more PE-backed investors specialising in this approach and targeting highly focused niches.
Hybrid buyers can often seek to make acquisitions on the strength of their own balance sheet. However, you should be aware that some hybrid buyers will be negotiating with their own financiers concurrently when closing the deal with you. In these circumstances, it is especially important that timetables are adhered to such that your buyer can, in turn, progress its own financing transaction. You need to show them how your business will fit quickly into theirs and accelerate their own value-building exercise.
Hybrid buyers are particularly noticeable in certain IT services sub-sectors at present, where the consolidation case is obvious. However, it would be no surprise if we see this trend on the increase in other capital-intensive sectors, such as cleantech and biotech.
As a seller, you do need to recognise the nature of the buyer or buyers you are dealing with. If you are running a competitive process with both trade and PE buyers, you will be struck by the difference in their approach and areas of focus. Ultimately, if you and your entire deal team have this level of strategic understanding of the drivers behind buy-side behaviour, this can translate to tangible value for you. Once you know where your buyer’s buttons are, you can start to push them.
Charles Fletcher is a partner at Taylor Vinters LLP with a specialism in Venture Capital businesses.
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