There’s a school in Chicago that teaches buy-side finance people how to acquire companies on the cheap. They have a steady stream of private equity firm partners lining up to learn how to fleece business owners out of their company.
I’m not sure why a school for buy-side mercenaries bugs me so much, but it does.
In the public markets, disclosure rules mean that buyers and sellers have the same information about an investment thesis. The market is liquid and you can buy something for pretty much what the market says it’s worth.
In the private markets, buyers and sellers have imperfect information. The waters are murky—which leaves virgin sellers susceptible to being taken advantage of. Here’s a smattering of the typical sleazy techniques buyers learn in school:
The Inflated Working Capital Calculation
The Con: The buyer surprises you with a generous offer but intentionally omits their proposed working capital calculation or leaves it vague. After you agree to an offer price, the buyer proposes a punitive working capital calculation, forcing you to leave more of your money in the company the day you hand them the keys.
The Result: Your after-tax proceeds from the sale of your business are lower than if you had accepted one of the other offers with a more favorable working capital calculation.
The Defense: Have a buyer spell out their proposal for calculating working capital before you agree to a Letter of Intent.
The Proprietary Deal
The Con: The buyer woos you into signing an exclusive deal to acquire your company before you create a competitive market for your deal.
The Result: You lose negotiating leverage and ultimately get a lower price for your business.
The Defense: Do not sign an exclusivity agreement until you’ve shopped your company to a shortlist of strategic buyers.
The Bait & Switch
The Con: The buyer agrees to purchase your business for X price. At the end of the due diligence period, when you’re emotionally drained and committed to a sale, she drops the agreed-to price.
I once asked a veteran corporate lawyer how common Bait & Switch tactics are in mid-market M&A. Over a 20+ year career, he had never worked on a company sale where the original offer was not discounted in some way before the deal closed.
The Result: You sell your business for a price lower than originally agreed.
The Defense: Assume the buyer’s price will drop 15% during due diligence; so only accept a Letter of Intent if you could live with selling for 85% of the offer at the LOI stage.
The 100% Vendor Take-back
The Con: The buyer agrees to your price but insists you finance all or most of the sale. Most buyers ask the seller to finance a minority portion of the deal, but asking a seller to finance all of it is the equivalent of walking into a Starbucks, reaching into the till, grabbing a wad of cash, and using the store’s money to “buy” yourself a coffee.
The Result: If you end up financing most of the sale of your company, the buyer has little or no skin in the game, which means they will walk (leaving you as the proud new owner of your company again) at the first sign of trouble.
The Defense: try to get at least 50% of your proceeds in cash so the buyer has something to lose if they can’t make a go of your business.
The Con: The buyer agrees to a valuation for your business that includes a portion of your proceeds “at risk” in an earn-out. If you don’t hit your goals, the earn-out vanishes.
The Result: Your proceeds from a sale can be less than if you had accepted a lower all-cash offer.
The Defense: Expect an earn-out, but treat it as gravy. Only sell if you’d still be happy with the deal if the earn-out never materialized.
This is just a smattering of the dirty tricks used by the highly trained mercenaries on the other side of what will be your negotiating table. We’ll pick this conversation up in a few weeks at Built to Sell: The Workshop where I’ll take you through my eight laws for negotiating the sale of your business. See you in Vegas.