KUHN CAPITAL Monday, March 19, 2018
Dispatches from the front

What Sellers Owe Buyers (Besides Their Companies)

November, 2005

In last month’s Dispatch -- What Buyers Owe Sellers (Besides Cash) -- we hectored our buy-side readers on how to avoid the handful of actions or inactions that can inspire sellers to take a hike and kill otherwise promising deals.

This month we’ll do the same for sellers. As before, the rules are few and uncomplicated. But we can assure you they’re ignored with startling frequency, particularly by smaller sellers with modest M&A experience.

Selling is Serious Business
It’s intolerant of ambiguity and less than complete commitment. If you’re not willing to jump in with both feet, and know that you are about to engage in the most exhausting exercise of your business career, don’t do it. First-time sellers are often amazed by the fact that not only must they continue to run their business as before, now they are also expected to respond to detailed rounds of due diligence and taxing negotiations. Juggling these twin demands can add up to lots of 15-hour days over several months.

Let’s Be Reasonable
Sure your company is unique. And it’s got all sorts of promise, even if you can’t prove that in every case. But at the end of the day, the company’s past, present and future all have to boil down into a single number the market is willing to pay. If you can’t see evidence that supports your ambitions for this number, lower it. If that number is too low, you’re not ready to sell. If you’ve got a good M&A advisor whom you think will clear the market at your company’s best price, whatever that is, go with him.

Also know that your company’s value is usually directly related to your and your management’s team’s willingness to stick around for some time after close. Said in the negative, if key people want entirely out, your sale value will suffer.

Prepare Yourself
In advance of going to market,

• Get personal expenses and assets out of the company.
• Resolve lingering tax issues, especially those having to do with conducting business in multiple states or in a foreign country.
• Spin off unrelated businesses.
• If your annual revenue exceeds about $7.5 million, get an audit.
• Tune up your information systems. Nothing begats more confusion and threatens value like inadequate or inaccurate reporting. Example: you can’t reliably produce a history of sales by client over the prior three years. Or you can’t generate a probability-weighted sales pipeline.
• Strengthen the company’s claims to its valuable intellectual property. Examples:
  1. Obtain all copyright and trademark registrations. If patents are possible and valuable, file applications.
  2. Print a glossy sales brochure and hire an outstanding website designer.
  3. Check to confirm that all employees have signed non-disclosure agreements protecting the company’s proprietary information. Also, clarify that all employee work done for the company belongs to the company.
• Clean up the organization chart. Confirm that responsibilities are clear and focused, that key managers are not overcommitted with unwieldy spans of control, and that performance incentives are predictable and consistent with your business model. Gird your loins and fire chronic underperformers no matter how long they’ve been with the company, a particularly tough decision when it may involve family members. If you insist leaving unproductive employees on the payroll, or if you deem certain employees sacred cows, know that it will cost you.
• In general, expect your company’s every activity over the last three years to come under scrutiny.

Delegate Wisely
There’s a place for trusted lieutenants, but it’s not at the negotiation table. If they’re shareholders, get their assent in advance to represent their interests before the buyer. If they’re not, you’ll still need their help in responding to due diligence inquiries and in presenting the management team’s qualities to the buyer under controlled circumstances. But bringing multiple team members to deal discussions invites open dissension, permits the buyer to play to certain interests to the disadvantage of the whole, and sows confusion over what constitutes acceptable terms.

Ground Control
Rumors ding morale: most of them are wild and wrong. Killing them demands time you don’t have and may force you into compromising denials. So cut them off at the outset by going undercover during initial buyer meetings. Then carefully enlarge the circle of your insiders on a need-to-know basis over time. You’re not doing this to machinate against your employees, you’re controlling information because you don’t yet know the final outcome.

Of course at some point, as the outlines of the deal have emerged and you are confident that it will close, you must bring everybody into the fold. First, insist on confidentiality (see non-disclosure agreements above). Then make it clear that discussions have been underway, you and your management are excited about them, they are good news for the company, and that the buyer is bringing resources to the table that will benefit employees.

Finally, Get Professional Help
Since we’re in the business of advising sellers, our comments on this topic may sound self-serving. But there’s a reason we’ve been around 20 years: we perform a valuable service. Competent intermediaries:
Deliver a preview of the future. Since they’ve been down the road before, they can prepare you for what’s next, including suggestions on how to enhance value in the eyes of buyers.
Preserve your virginity. First, you don’t want to seek out buyers yourself for several reasons: you want to appear busy running your company, and as a practical matter you can’t go on anonymous fishing expeditions to test value. Second, you’ll likely need to work with the buyer post-close so you don’t want to engage in open combat over terms before then. Your representative can present the virtues of your company without making it known it’s being shopped around, and he can play bad cop without future repercussions. You and the buyer can even agree that your intermediary is an SOB. That’s OK: being an SOB is part of his job.
Clear the market. Hopefully, your intermediary knows your industry and many of its players intimately. That means he’s got pre-existing relationships with prospective buyers who trust him, and he knows what buyers promise the best “fit” with your company (and who therefore may be motivated to pay the highest price).
Understand the M&A process, deal terms and their implications for the company. A professional intermediary knows the usual business practices pertaining to M&A courtships and guards his client against disadvantageous conditions. He also understands the art of negotiation, knowing what to give up of lesser value for something of greater value. Given all this, you better like him, since you’ll be living with him for the duration of your sell-side campaign, one of the most important moments in most managers’ lives.

Ryan Kuhn

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