I want to spend some time with you taking a look at the M&A process in a little bit of detail so you understand the overall structure and the flow of a transaction. The whole purpose of this is to give you a high-level overview of how the M&A process works. And if you have that structure, then everything I'm going to tell you that follows this will make some sense. It's very important when you're pitching a client that you are clear, particularly if you're going to offer him advice through the whole process, that you're clear to him how the process works and that helps him to understand it because very often if you have a new client they may not have gone through an M&A process before and equally you need to manage their expectations about the complexity and the time it's all going to take.
So let's start with step one which is the acquisition strategy. It is important that your client or if you're the acquirer, you yourself have a clear idea of what it is you want to buy. What are you trying to achieve?
Now this isn't about the detail of the company, we'll come on to that. This is about your strategic goals for your business. So we're talking about, you know, the markets. Do you want to enter a new market or do you want to to get your hands on some new products you can sell to your existing customers?
Do you want to go into a new geography? Now that might be a regional geography but that might also be an international geography. Do you want to acquire a competitor so you can increase your market share or eliminate some competitors from the market so that you can basically either raise your prices or have an easier competitive journey particularly if you've got somebody who's up and coming and who potentially is going to be a long-term threat to your business.
Step two then moves on to the search criteria. And here, the more detail you can pin down, the better. Now, inevitably, the perfect business is not going to exist.
I can tell you that from experience. I've had clients come to me with a very long list of criteria, and I've come back to them and said, no, you're going to have to refine this because that company does not exist. The sorts of things you're looking for are scale. How big is the business? Where is it located?
What type of ownership does it have? Where is it positioned in the market? Does that positioning coincide with your positioning?
And this might be price or whatever. Where's the location of the business? Because if you're trying to improve your market position, then you're geographically, then obviously that's very relevant.
What are the customer base like? What's the customer concentration like? So if it's a business with 80% of its business going to one customer, you probably want to stay away from that.
and who are the partners and suppliers to the business. And of course, you would have some financial criteria, the revenues, the profits, the cash flow, the condition of the balance sheet. And of course, start to be thinking about the valuation and price that you attach to these criteria. We'll have a detailed look at evaluation in a minute. With that criteria, you can put together, or your advisors can put together, a long list of...
potential companies. So you screen the market and you try to identify all the companies you can find that meet that criteria, equally taking the opportunity to eliminate the companies that you find that don't meet that criteria, so that you end up with a long list which you can then work through and try to refine so that you have something to look at in a more focused way. Let me give you an example. I had a client that was a very large listed and US business and came to me and it wanted to buy an IT services business in Germany whose prime business was focused around the SAP software space.
And at that time there were over 500 SAP partners in Germany. So we went through an exercise screening those partners and came up with a short list of two. And we basically approached those two businesses.
evaluated them and in the end we bought one. But that is the value of having a clear set of criteria, a clear acquisition scope that you can look at and then going out screening the market properly so you don't waste your time chasing after the other 498 companies or whatever it was. Focus and good criteria make all the difference.
Step four is the initial approach. So you've got your short list of businesses and you go and talk to them. You initialize conversations. Now, you can either do that as an advisor on a no-names basis, keeping your client in the background, or if you're handling the matter directly, then obviously you go and start having a conversation with them.
the owners of those businesses trying to identify if the businesses really are the sort of businesses that you want to acquire and obviously you're looking for information you may or may not sign a confidentiality agreement at this stage you probably will if the matter goes further but you're just trying to get a flavor of what the business is like is it the sort of business that you think it is and critically how interested are the owners of that business in selling it. Now at the end I will highlight a key point but basically you need to try to find out why the owners want to sell. Now it may be that for their own personal reasons which may be they want to retire or you know whatever they've got going on in their lives and they want to move on to something different. The company might be going into the ground. In fact, one of the two SAB businesses we looked at, that was exactly the problem.
Every time we went to see them, we got a different set of numbers and they were worse than the ones before. So, you know, you need to understand the motivation of the seller. But equally, if the seller hasn't got any motivation to sell, then it's very likely that they may consider a deal if you offer them some really high pie-in-the-sky price, which is way more than you really want to pay.
But if they haven't got a motivation to sell, then it's probably not the right time to focus on them and try and find somebody who either wants to sell or needs to sell. You now come to valuation, which is step five. And to come up with a sensible valuation, you need to obtain detailed and current information, financial information about the business.
And for that, you need the owners of the business to hand that information over to you. In order for them to do that, you need to get a confidentiality agreement in place. It's helpful as well if you can get their budgets for the year so that you can have some idea of what the forecast is for the business. And if you're doing a valuation exercise, one of the things you'll probably want to do is build your own forecast for the business. And having the management of the business giving you a start for that is very helpful.
Value the business on a standalone basis, however. What is the business worth as it is? Because that is what the sellers are selling.
You can evaluate in your valuation the benefits to you of making the acquisition. And these are very often called synergies, but you don't pay for those. They're benefits to you. So you want to have an idea of what the benefits are going to be and what the uptick in value will be through your ownership.
But you want to value the business on a standalone business because that's what the sellers are selling. And of course use a range of valuation techniques. Use a discounted cash flow, use some comparative numbers, look at the the p ratios of public companies, look at other deals that have happened in the market. And of course the ownership of the business will affect the value and by that I mean if it's a public company clearly you're going to have to pay a premium to what's in the market. If it's a private company the owners and it's a smaller company the owners may not be so sophisticated and they may be prepared to accept a lower price.
If venture capitalists or private equity players are in then clearly they're looking to maximize their exit value purely on the basis of the returns to their funds so they'll be tougher and a more experienced negotiator. Step six is all about negotiating the deal to the point where you can sign a letter of intent an LOI. So now you're having detailed discussions with probably only two or three businesses in order to get down to the real detail of what sort of deal can you put together, what sort of offer, what sort of number, what sort of valuation, and what conditions will be attached to the deal, both by you and by them. And what you're trying to do here is to establish the key points in the deal that are important to the seller.
Because when you come to negotiate the fine points of the deal, if you understand what's important to them, it's much easier to trade off the points and get the points in the deal that you want in return for addressing some of their issues. And you want to get to a point where you have a non-binding letter of intent, which basically sets out the key points of the deal and everybody signs up to that and says, yes, let's go ahead on this basis. Step seven is the due diligence process, which is typically a six week, possibly even sometimes longer process where you.
go into a detailed review of all aspects of the business. And to get this information, you and your advisors will submit detailed information requests. Ideally, they'll have a data room where they've got all this corporate information put in in good order and is easy to search. It's all systematically filed. That today is very much an online exercise, so all the information should be sitting there, which you, once you've been given access to it, should be able to answer all the questions that you have.
Normally the due diligence review is conducted by specialist advisors, the accountants, the lawyers, the management accountants, maybe the environmental advisors, or whatever it is, but it is a detailed process of really trying to find out and trying to put yourself in a position that you know as much about the business. the business as the seller does. You'll never ever quite achieve that but that's the aim of the exercise.
So some of the things you're looking for you obviously want to confirm your view of the valuation of the business by looking through the details particularly the financial details of the business. The key to this is disclosure. You want to force the sellers to disclose everything good and bad about the business. You want to know where the skeletons are in the cupboard.
Clearly, you're going to look at the finance, you're going to look at the assets and liabilities of the business, you're going to look at the property, you're going to look at the customers and suppliers, you're going to look at all the contracts with everybody that the customer has, from suppliers to customers to employees, anybody they've got a contract with, to the landowner, to the property owners, whatever it is, you want to go through all these. You also want to understand the contracts that they sell their products and services on, to understand are they selling on a similar basis to you. And in the contracts one of the key things you want to look for is change of control clauses where if there's a change of control you might find some the the other party in that contract have a right of termination and these can be absolutely critical and if they exist you must find them and finally of course you need to look at all the personnel issues the management the staff HR to make sure you get completely underneath all those that's just a quick overview of all those issues the due diligence process information request runs to pages and pages and pages and I can't possibly cover all the detail in this short video. In step eight we're talking about the sale and purchase contract. You basically prepare this in parallel with the due diligence process.
It is started on the basis of the letter of intent which is part of the reason you have a letter of intent. It gets the initial draft of the sale and purchase agreement off the ground. Obviously there are a lot of conditions in the sale and purchase agreement and these have to be negotiated. There has to be detailed disclosure and you have representations and warranties and all these legal details your legal advisors will explain to you.
But the key is to have as much disclosure from the sellers as possible so that you know as much about the business. You'll have to negotiate the working capital agreement and again I don't want to explain that in detail but in essence the company has to be left with enough cash in it. in order for it to run normally.
You can't let the sellers strip out all the cash and then suddenly find you haven't got the cash in that business to pay the salaries. So working capital is a critical negotiation and there are always a large number of other contracts and reports, shareholder agreements as well, if the seller retains a position in the business or a financial interest in the business. So you've got all these other reports and agreements which come in parallel.
I've been into closing meetings. and you think you've got one 50-page sale and purchase agreement and you've got a huge table and it's groaning with piles of papers because it's all the ancillary agreements and all the other disclosures which tie into the sale and purchase agreement. It's a complex process.
Step nine is acquisition finance. Now of course you will have gone into this deal knowing you can pay for it or how you're going to pay for it but this is the point in the deal where the finance kicks in. So you must organize this well in advance.
You may be doing it from existing resources, which you know i.e the company that has is the buyer has lots of cash on its balance sheet and it can pay out of the cash or it's going to pay with its shares. Now if it pays with its shares, if it's a private company to a private company it's not too complicated. If it's a public company you've then got to have a formal share issuance process which makes life a little bit more complex. So understand how the deal is going to be paid for cash shares or whatever else it is.
And if you need to do any fundraising or debt raising, then obviously that needs to be well organized as part of the overall process. Step 10, closing and post deal implementation. Post deal implementation is really outside the M&A process, but that's the follow on step. So clearly we all get into a room. The principals sign all the documents.
The lawyers are very happy. The champagne is opened. And basically, and some bank far, far away. money passes or the consideration passes or the shares are issued to the sellers and the deal closes and the deal is done. And then whoever else is remaining in the business obviously needs to be then executing the post deal implementation plan which they will have been working on for a number of weeks so you'll know on day one you go into the new company or the company that's been acquired and you make the announcement to the employees and you know exactly what steps you're going to take in the next day few days week and weeks there on so it's a complex but important process but I'm not going to go into post and deal implementation in this series of lectures.
So to summarize, the M&A process is pretty straightforward. It does tend to follow a logical and sequential process, but it is complicated and does require complex transaction management, which is why experience in this field, and I did this for 30 years, is so important. It's really helpful if you can anticipate problems before they come up, and that really comes down to experience.
Remember, deals can crater at any time for any number of reasons. You can have market conditions, you can have the buyer pulling out, you can have the seller pulling out, you can have something coming up in due diligence which is a deal breaker, you can have somebody putting up a condition which is a deal breaker, somebody changing the price which is a deal breaker. So it becomes quite a difficult process and it's a real personnel and man management. exercise and the more you can build a relationship between the buyer and the seller the more likely the deal is to close and the key to this in my opinion is making sure that the seller has a really good reason to want to sell not only wanting to sell to your buyer but wanting to sell now and without that key motivation they can walk at any time so think about that in any of the deals that you do and try and find yourself really well motivated sellers So that's it for this overview of the M&A process. I've given you quite a lot of content, but I hope the structure makes it easy to understand and follow.
And certainly with that in your kit bag, as it were, then everything we're going to talk about will make some sense.