Mistake #1: Not being prepared for the extensive effort and time the deal will take.
Successful exits through M&A are not easy. They are time consuming, involve significant due diligence by the buyer, and require both a great deal of advance preparation as well as a substantial resource commitment by the seller. Acquisitions can often take six months or longer to complete.
Mistake #2: Failing to create a competitive sales process.
The best deals for sellers usually occur when there are multiple potential bidders, and leverage of the competitive situation can be used to obtain a higher price, better deal terms, or both. Negotiating with only one bidder (particularly when the bidder knows its company is the only potential buyer) frequently puts the selling company at a significant disadvantage. Sellers must try to set up an auction or competitive bidding process to avoid being boxed in by a demand for exclusivity by a bidder. By having multiple bidders, the seller can play each bidding party against the other to arrive at a favorable deal. Even the perception that there are multiple interested parties can help in the negotiations.
Mistake #3: Not having a complete online data room.
An online data room contains all of the key information and documents that a bidder will want to review. This will include material contracts, patents, financial statements, employee information, and much more. An online data room is extremely time consuming to put together, but is essential to successful completion of a deal. A properly populated data room established early in the M&A process will not only allow buyers to complete their due diligence more quickly, but also will enable the seller and its advisors to expeditiously prepare the disclosure schedule, a critical document in the M&A process. But almost every CEO underestimates how critical this is, and how time consuming it is to get complete and correct.
Mistake #4: Hiring the wrong legal counsel.
You shouldn’t rely on a general practitioner or general corporate lawyer to guide you through the M&A process or negotiate and draft the acquisition documents. Instead, you should use a lawyer who primarily or exclusively handles mergers and acquisitions. There are many difficult and complicated issues in structuring M&A deals, putting together acquisition agreements, and executing the transaction. You want a lawyer who thoroughly understands those issues, understands customary market terms, understands the M&A legal landscape, is responsive with a sense of urgency, and who has done numerous acquisitions. The CEO’s bias will often be to use existing company counsel, but this is almost always a mistake.
Mistake #5: Not hiring a great financial advisor or investment banker.
In many situations, a financial advisor or an investment banker experienced in M&A can bring value to the table by doing the following:
- Assisting the seller and its legal counsel in developing an optimal sale process
- Helping to prepare an executive summary and confidential information memorandum for potential buyers
- Surfacing up and contacting prospective buyers
- Coordinating meetings with potential buyers
- Coordinating signing of NDAs
- Assisting the seller in properly populating the online data room
- Advising on market comparable valuations
- Coordinating the seller’s responses to buyer due diligence requests
- Prepping the management teams for presentations to the potential buyers
- Assisting in the negotiations on deal terms and price
One tip when hiring a financial advisor or an investment banker: Have them give you a list of likely buyers, with annotations listing their relationships with senior executives of those buyers and recent deals done with them. You want an advisor who already has strong relationships with likely buyers and who can get their attention.
The first draft of an investment banker engagement letter is generally extremely one-sided in favor of the investment banker. Companies that just sign or minimally negotiate such letters are making a huge mistake. These letters are negotiable, and savvy legal counsel/deal professionals typically negotiate on the following issues, among others:
- The compensation payable to the advisor is typically a success fee, based as a percentage of the ultimate sales price. What is often negotiated is the percentage (for example, the bankers will want 3% or more, the company will want a fee closer to 1% to 2% but possibly increasing if certain sales price thresholds are met). The calculation of the fee owed should also exclude various items, such as any portion of the purchase price attributable to the cash that the company has on its balance sheet at the closing, or contingent purchase price payments that may never be made.
- Whether there is a minimum fee payable on a sale regardless of the purchase price (companies should avoid this, otherwise there may not be an alignment of interest between the company and the buyer)
- How long and under what situations a “tail” applies (meaning when a fee will be due after the engagement letter is terminated but the company subsequently is sold). Companies try to limit this tail to 6 to 9 months and only for potential buyers that signed an NDA with the company during the terms of the engagement letter.
- The amount of any upfront or monthly retainer payable to the banker (it is common that any retainer is waived and the advisor or banker is paid nothing unless a transaction is successfully completed)
- The amount of any expenses reimbursable to the investment banker (usually a cap is negotiated with a requirement that any amounts expended must be “reasonable”)
- The circumstances where the engagement letter can be terminated without any liability and without a tail applying (for example, if the key banker departs from the banking firm or the banker breaches the engagement letter)
- Whether the banker will deliver a fairness opinion and the fee for such opinion
- The scope of indemnification protection to the banker
- An outside termination date when the engagement letter will automatically expire
- A restriction/representation and warranty regarding any conflicts of interest by the banker
Mistake #6: Having incomplete books, records, and contracts.
Due diligence investigations by buyers frequently find problems in the seller’s historical documentation process, including some or all of the following:
- Contracts not signed by both parties
- Contracts that have been amended but without the amendment terms signed
- Missing or unsigned Board of Director minutes or resolutions
- Missing or unsigned stockholder minutes or resolutions
- Board or stockholder minutes/resolutions missing referenced exhibits
- Incomplete/unsigned employee-related documents, such as stock option agreements or confidentiality and invention assignment agreements