Article - March 8, 2022
Given the strength in the M&A market and competition for great assets, private company owners are regularly receiving inbound interest from potential buyers. Unsolicited interest creates an opportunity for shareholders to realize significant value, but can also pose unforeseen challenges.
What should shareholders do first (and next) in response to a preemptive offer? How can a business owner distinguish between a buyer on a “fishing expedition” and one that has a legitimate investment thesis and investment strategy? When should an initial conversation progress into exploring a potential transaction?
Here, senior bankers from the Harris Williams Family and Founder-Owned Business team share essential considerations for business owners receiving preemptive offers.
Key Takeaways
Don't react immediately.
Consider obtaining competing offers, and understand how each buyer plans to drive value from the acquisition.
Be transparent about known issues with the business.
Make a plan for who to involve and when based on information needs, protect management`s time throughout the transaction, and stay connected to employees.
Take the call, but don't react immediately. Assess the buyer's seriousness and legitimacy and understand the rationale behind their interest.
Watkins: Shareholders are often caught off guard when they get an unsolicited offer because they haven't considered selling the business yet. The interest can be exciting and flattering. However, it's best to not react immediately.
They should take a moment to reflect on the buyer's motivation as well as their own. Potential buyers have differing levels of credibility and exhibit a wide range of M&A behaviors. Sellers should spend time learning why the buyer is reaching out to the company and ask questions to assess the legitimacy of the buyer's interest. Is the rationale logical? Does the buyer present a vision that benefits the company over the long term?
It may be that the caller is on a “fishing expedition,” calling many different businesses to see which will “bite.” Clearly, that is a different situation than if a buyer has an existing business or portfolio of companies in a particular industry sector and a well-defined investment thesis.
Rozycki: Even though it's a preemptive transaction, it is still a courtship of sorts. In every subsequent conversation, each party learns more about the other and determines if they want to continue the relationship. A truly interested party is focused on the long-term benefit from a transaction and will not rush the seller to a decision or put an aggressive or arbitrary deadline in place.
Weigh the risk-reward tradeoff regarding obtaining competitive offers. Preemptive offers can be quick, efficient, and confidential, but they may not maximize value.
Harper: The risk-reward tradeoff is important to consider. It can be difficult for an owner to determine whether the initial preemptive offer is a market-clearing price. Even if the preemptive buyer is the preferred partner of choice, the threat of approaching a small group of additional parties can hold the preemptive buyer accountable and drive value and favorable deal terms. This is where an advisor can bring credibility to a situation and offer a perspective as to whether the proposed offer is competitive based on current market conditions.
Rozycki: A preemptive offer can move forward on an aggressive timeline with a high level of confidentiality, which is certainly appealing, but it runs the risk of not meeting all shareholder objectives. Case in point: In one recent deal in which Harris Williams advised, we believed the business value should be materially higher than the preemptive offer our client received. The shareholders elected to contact more buyers, and the business ultimately sold to a different party for twice the value the preemptive buyer proposed. While an outcome like that is not always the case, a preemptive buyer should be willing to put its best foot forward and make a compelling offer if the company is truly a business it wants to own.
Understand how the buyer will drive value from the acquisition. Tailor the terms around areas of shareholder importance. Make them known early.
Watkins: Shareholders should perform due diligence on the buyer just as the buyer does on its target. It is fair game for shareholders to understand how the buyer plans to drive value from the business combination. It's also fair game for shareholders to tailor the terms if, for example, employee preservation or making sure certain facilities stay open is critical. Any such terms should be disclosed early. If the buyer isn't willing to agree, everyone is spared time and energy.
Be transparent about known issues with the business when moving forward with negotiations.
Rozycki: No business is perfect, and many will have an issue or two that needs to be addressed and disclosed during buyer diligence. When contemplating a transaction with a buyer and sharing information, it is important to proactively make those issues known. Buyers are more willing to work through concerns disclosed early than if they seem to have been concealed. The latter is probably one of the fastest ways to derail a deal, especially in the later stages of negotiations, as it leads to mistrust and uncertainty between parties.
Make a plan for who to involve, and when, based on information needs. Consider consulting with advisors early in the process.
Watkins: As the dialogue continues, shareholders should get a confidentiality agreement in place. Typically, at early stages, a very limited number of people are involved based on what is needed to facilitate information sharing. This is the right time to socialize the idea with accountants, wealth and tax planning experts, attorneys, and M&A advisors. The more shareholders can prepare for a potential transaction in advance, the better off they will be. Professional advisors can weigh in on the dynamics of the deal, often bringing up points not yet considered.
Rozycki: Many shareholders don't realize the sheer volume of information sharing and the time that a transaction consumes. It can be a second full-time job for CFOs and finance professionals. Often, when companies don't bring in advisors, many within the organization become deal-fatigued, exhausted, and ready for the deal to be over before it's done. This can create risk in realizing the best possible outcome for the seller and shift the advantage to the buyer.
Protect management's time throughout the transaction, so there's no risk of losing sight of ongoing business performance.
Harper: With current valuations consistently near all-time highs, the margin of error for business underperformance during a sell-side process is razor thin. Losing sight of the business can have negative repercussions on final negotiations. The best way to limit this risk is to hire an advisor to help protect management's time and to allow the team to focus on running the business successfully. As the quarterback, the sell-side advisor can manage the backend process of the deal, including buyer interactions and keeping the entire advisory team on track and effectively engaged, including lawyers, accountants, and other stakeholders.
Stay connected to what the employee base is hearing and plan communications accordingly.
Rozycki: In terms of communicating a sale to employees, the messaging and timing are delicate. How and when to communicate is, in part, a function of company culture and the typical level of transparency management provides. Often, only key management and employees are informed about the transaction, and they are pulled in as needed until the deal is finalized. However, if there are whispers among employees or rumors in the market, the last thing a seller wants is for employees to create their own narrative. If that is happening, sellers need to proactively control the dialogue and communicate information as appropriate to their employee base. It is important to have a plan for employee communication that can be leveraged at any point during the transaction negotiations.
Conclusion
It's not unusual for business owners to receive inbound interest from a legitimate buyer. Recognizing and preparing for this possibility is a first step in the journey toward a successful transaction. Preparation is useful whether or not there's an intent to sell the business, and, should a deal progress, it's key to realizing the business's full value.
Many businesses meet periodically with their advisors—typically an attorney, an accountant, and an M&A advisor—to review the value of the business and their preparedness for a sale. Advisors can be crucial team members as an M&A process progresses, but they can also provide valuable insight on the M&A market, as well as how to best prepare the business for sale, should that preemptive offer arise.