Jun 11 2013
The desired result of any merger or acquisition depends on whose shoes you’re standing in.
Sellers want to make as much money as possible, and buyers want to pay as little as possible. But this doesn’t mean the buyer thinks the business is worth less than the seller does.
In fact, traditionally, buyers believe the businesses they wish to purchase are worth more than the seller’s valuation because buyers typically base their own valuation on the untapped potential they see in the business and the synergies that they can leverage after a purchase– its future performance under their astute guidance.
At least, that’s the buyer’s perspective in stable economic times. However when credit is hard to come by and the future is foggy to downright unforeseeable, the whole game changes.
In our current economy, uncertainty has put the future value of virtually every business in question. Buyers have become more cautious as to projecting the future, and buyers need to find new ways to finance their acquisitions. Thus, buyers in the new economy are looking for ways to pay a fair value to the seller, but also to substantially limit their risk.
What this means is that sellers’ and buyers’ valuations of a business have never been more disparate, creating gap that can appear unbridgeable. If mergers and acquisitions are to succeed, both parties must be more flexible, get more creative and, ultimately, be willing to let go of the cash-is-king mentality, if they’re to be successful at structuring mutually palatable transactions.
Here are just a few innovative ways to bridge the valuation gap for a result both parties can live with:
Have Seller Finance the Deal: This is most prevalent among smaller transactions between private sellers. Seller financing reduces the amount of up-front equity buyers must provide, while still allowing them to pay more for a business. Sellers receive less cash up front, but are paid principal and interest on the remainder owed – at a higher rater than they could get elsewhere. Obviously, in this situation, the seller needs to have a good sense of trust in both the buyer and the future of the business they are selling.
Tie Price to Performance: Buyers and sellers can also bridge the valuation gap by making part of the purchase price contingent on predetermined performance targets. Of course, sellers are at the mercy of buyers’ ability to maintain or grow the purchased company, so the big question is: Is the buyer in a better position to grow the company than the seller? Another factor to consider is what performance metrics should be used. Sellers should select performance targets based on revenues or receipts, because these are less easily manipulated.
Sell the Seller Some Stock: This allows sellers to roll their existing equity in the business over into the new equity means that the seller continues to profit from the growth of the company. That is, IF, the company remains profitable. Therefore, sellers need to conduct their own due diligence on their buyers, as well as consider certain hedging strategies, to ensure they’ll be happy holding stock.
By thinking outside the cash box and employing creative purchase structures, buyers and sellers alike can actually end up with better deals than they might have in brighter economic times. Whether it’s buyers who only having to pay a higher price if the business performs to expectations, or sellers who end up owning more of a business that is now doing better than it did when they owned it, hard times generally lead to better, deeper thinking and more carefully considered decisions from which everyone can benefit.