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Amanda Linthicum
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Amanda Linthicum2019-06-12 14:19:212019-06-14 09:24:53Know the Numbers
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Amanda Linthicum2019-06-12 14:13:342020-05-26 14:40:46Rush to Market
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valuescout2019-06-12 14:04:542019-06-13 16:08:44More Accurate Planning
Know the Numbers
Rush to Market
In many respects the process of going to market for a business owner – or perhaps of being courted by a potential acquirer- can be exhilarating. In many cases a sale will be the culmination of a life’s work. Adding to the excitement is the thrill of the chase – admit it… it feels good to be wanted! The pursuit by a larger firm, a private equity group, or perhaps a competitor is validation of your efforts. But a pursuit-gone-wrong is perhaps one of the most common tales in the M&A ecosystem. Failure to understand the ecosystem – and more importantly your place in the ecosystem – is the most common reason for the pursuit-gone-wrong.
Why it Happens:
Buyers Are Smart
In general, buyers pursing an M&A opportunity are more experienced than sellers. They tend to be larger, the tend to have assembled a staff that’s “been there, done that,” and they have a strategy. Oftentimes that strategy can be summed up as “taking advantage of unsuspecting sellers.” I had lunch the other day with a CFO that was just hired primarily to run the M&A team at a firm (In his last job he had done 46 deals). The comment that stuck with me is “we almost never looked at deals with bankers unless we really, really want the company. It’s just too expensive and we can’t get a good enough deal.”
Peel that back a bit. The guy that did 46 deals is pretty much all but declaring “we want to do deals where we can take advantage of the seller and drive down price as much as possible.”
Takeaway: as a seller you need to get up to speed ASAP. That comes from getting smart on the process and leveling the playing field with the advisory team you work with.
Smart Buyers Play on Emotions
That same experienced buyer mentioned his #1 weapon in closing the deal. It wasn’t him, it wasn’t a strong balance sheet, and it wasn’t a pile of stock options. It was his CEO. The CEO was really good at reading sellers, getting them comfortable, and making them feel special. An experienced deal maker like that has a playbook – make the seller feel really important, all the while demonstrating why the low value that they are going to offer makes perfect sense. I’ve seen this dance too many times to count, and it’s a beautiful thing to watch… so long as you aren’t on the receiving end.
Unfortunately too many sellers are romanced with just this playbook. They enter discussions with no solid understanding of their real value. But since they feel so good about the interaction they don’t want to rock the boat too hard, afraid that the romance will end.
Takeaway: know the playbook, but even more importantly know the numbers early.
When All Else Fails, Pull the Deadline Card
What happens when a seller starts to tap the brakes in order to investigate alternatives or validate price? The buyer begins to introduce a deadline into the discussion. “Well we really need to get a deal done this quarter. If we can’t deploy capital here we are going to have to look at other options.” That threat feels real – and sometimes it is. But if the deal were really strategic it probably isn’t.
We saw this happen recently with a small but highly attractive company. We were in discussions with two Fortune 100 Firms, one of whom pulled the Deadline Card. It didn’t work – ultimately we closed with the other F100 company at a considerable higher value than the first.
Takeaways: First, Attractive companies almost always have options. Working from a position of strength helps to create options – one of which is the ease with which you can walk away from a bad deal.
Don’t Rush into a Bad Deal
Bottom line, the allure of a selling the company you created can be strong. When done right buyers can create a very slippery slope that can be hard to get off of. Instead smart entrepreneurs get ahead of the problem. You do that by knowing the numbers, knowing the process, and building a company that is both Attractive and Ready. The result? You get to exit on your own terms, at the time of your choosing.
More Accurate Planning
Let’s say you’ve decided on a road trip to Albuquerque. You’ve heard wonderful things, you’ve read the Yelp reviews, and you’re ready to get on the road. What do you need to know to get to Albuquerque? First, (and obviously) you need to know where Albuquerque is. You might also want to know what kind of shape your car is in and how much gas you have in the tank. The one other thing that you absolutely positively must know? Where you are starting from.
Financial planning – and retirement planning – is just light road tripping to Albuquerque. You’ve decided you want to go somewhere (in this case you want to eventually retire and have the funds available to enjoy life at a certain lifestyle). Most financial planners are wonderfully adept at teasing out just what those retirement goals look like (a house in Boca! The annual trip the Cannes!), and are well equipped to model the nest egg you will need to squirrel away to meet those goals.
Here’s the dirty little secret: they (and you), probably don’t have any idea how much distance there is between here and attaining that nest egg.
That’s where Value Scout comes in. We help develop the numbers that go into that model that your financial planner will run. We help sort out your starting point well before you get to Albuquerque. By assessing your Market Readiness and Market Attractiveness, we help you lay in the road map for just how you are going to get there.
Understand How the Market Sees You
Did you know that it’s entirely possible to build a company that is incredibly valuable to you as the owner but that no one wants to buy? Totally true.
Imagine for a minute that you run a thriving aerospace manufacturing plant that throws off a few million a year in earnings – and has for the last decade. Sounds great, right? What if that same company has only one customer? I ran into a version of this company recently – the owner lived a great lifestyle, employees were happy, and their single customer seemed pretty happy with their performance. The only problem? No one is buying that company – at least not without a huge discount to the price.
We call this concept of how the market looks at an asset – Market Attractiveness. Attractiveness encompasses many factors – margins, over reliance on an owner, single points of failure such as customer concentration, and many others.
Value Scout starts to quantify these issues when we run the Market Attractiveness Indicator, giving you a road map for how to build a company that not just profitable to you as the owner, but Attractive (read: higher valued) for a potential buyer.
Case Study: The Unsolicited Offer
The Challenge: An Unsolicited Offer
Paul had recently received a call from a long time friendly competitor inquiring about buying his company. The two had occasionally had such conversations over the years, most of which Paul dismissed out of hand. But with his age approaching 60 and his kids out of school, he was starting to think about retirement and what the “next chapter” might look like for him.
After talking things over with his wife they decided that the time might be right. Assertive by nature, he resolved to try to make some progress on a situation that quite possibly had been unfolding for years. He suggested to Susan, his potential buyer, that they meet over lunch to discuss what she had in mind.
The lunch went well, with pleasantries quickly turning to business. Susan expressed her company’s continued interest in an acquisition. The conversation came to an awkward halt, however, when Susan pushed for a price. “Paul, we are interested in expanding and we have the capital to do so. But we need to know what you want.”
Paul really wasn’t certain. As the conversation unfolded he realized that he was at a critical juncture: if he threw out a number that’s too low he risked leaving money on the table. Too high, on the other hand, and he risked losing the deal before even starting negotiations. Caught off guard by Susan’s pointed question he realized that he need to do some serious homework before getting too far ahead of himself.
Solution: Getting The Right Data
We were introduced to Paul through his financial advisor. Paul has had a long standing relationship with the advisor and together they had done some financial modeling to try to understand what he and his wife would need from the transaction in order to meet the goals in their retirement plan. While they had a sense what he needed, they had no idea if the amount was realistic.
Paul walked us through his circumstances and we agreed that as a starting point he needed to get his arms wrapped around his Current Market Value. Armed with his target number from his financial plan and a realistic Current Market Value estimate he could start to make some decisions. The data would put him back in the driver’s seat in his negotiations with Susan and her firm.
Result: Tap the Brakes, Get the Price You Want
Our assignment with Paul took about 2 weeks. It was limited in scope – just concluding on Current Market Value – per our initial discussions with him. Well Paul wasn’t necessarily pleased with the current value of his company, it certainly was eye opening. He came in to our assignment thinking he needed about $7 million from the transaction in order to hit his goals- and assuming that he was within striking distance. Our analysis, though, indicated that he was about $2 million short.
With his gap in value identified, Paul and his wife decided it wasn’t time to dive in on a sale just quite yet. They had a frank conversation with Susan, indicating that the timing wasn’t right yet for a deal. With that out of the way, Paul started work on a plan geared towards increasing value – not just revenues – with an eye towards an exit in about 3 years.
You Probably Don’t Know the Actual Value of Your Company
And not knowing is eventually going to cause problems.
Over the course of thousands of client interactions one statistic stands out above all others: entrepreneurs drastically overestimate the value of their company. It’s not surprising, of course. It falls right in line with human nature: we all think our house is perfect, no one thinks they have an ugly kid, and owners overprice the asset that they have worked so hard to build. It’s funny – when we sit down with entrepreneurs they fundamentally realize this – they invariably chuckle along knowing it’s a fundamental truth.
So what is the big deal?
Well let’s talk some other facts: studies consistently show that a company will typically make up over 80% of an entrepreneur’s net worth. For the vast majority, liquidating (i.e. selling) that company is going to be critical to the success or failure of realizing their retirement goals. That ordinarily wouldn’t be a big deal if that company were a highly liquid asset. If you needed to sell some Google or Facebook stock you could do that this afternoon. But privately held companies are certainly not as liquid as a publicly traded stock, and selling one is no sure bet.
More facts: studies show that only 20% of companies are successful in selling in their first attempt. That is just an abysmal success rate. The number one reason that companies don’t sell? It’s probably not a surprise: the market won’t support the price that a seller is willing (or able) to sell at. Even worse is the number two reason that companies do not sell: in some cases there simply is no market for the company – meaning that not a single market participant has found the company attractive enough to enter into negotiations.
Putting this all in context: if you are an entrepreneur you probably have most of your eggs in one basket. You also probably don’t know what those eggs are worth. And there is only a 20% chance that you’d be able to successfully sell your company… likely because there is a gap between value expectations.
There has to be a better way, right?
The Value Engineering Playbook
Let’s imagine I want to go visit my sweet old Aunt in Schenectady, NY. I’m probably going to need to know at least two things: where I’m starting from, and the location that I’m trying to get to. I can’t really get on the right roads if I don’t know the starting point, and I’m certainly not going to end up in the right point if I don’t know the destination. I’d also probably want to know a couple of other things to improve my odds of getting there, right? Like… how far away is Schenectady? Is my car in good shape? Do I have enough gas? But just like you, I’m sure there is definitely a mental playbook that I’d run to get to Schenectady, right?
There’s a playbook for getting to “Schenectady” with a company too. In the life of a business owner the starting point is your Current Market Value, and the destination is the number you’ve worked out in your financial plan. Is your car in good shape? Right – that’s your company. And gas? Well that’s probably capital.
Running the table when it comes time to sell is going to require you to get an accurate insight into your company’s value now, how much of a gap there is between where you are trying to go, and executing on a legit plan in order to close that gap.
Of course it all starts with knowing Current Market Value.