Selling a business in troubled times
Selling a business in troubled times
For entrepreneurs, selling your business always comes with pitfalls and challenges. In the context of a global pandemic, these can seem unassailable. 2020 has certainly been a bumpy ride for British business: GDP plunged by 20.4% in Q2 while the national debt has soared to £1.95 trillion. Vast swathes of the economy were frozen in aspic during lockdown and activity still remains muted in many sectors, particularly hospitality and entertainment. All eyes are on the prospect of a second wave during the winter months. Whether the nascent economic recovery takes the form of a “V”, a “W” or even a Nike “swoosh”, uncertainty will hang over many industries for a long time to come.
Uncertainty is anathema to investment. M&A has had a subdued year, with global activity in Q2 2020 down by 35% compared with Q1. Those deals that have been done have tended to be in those sectors perceived to be well-equipped to weather the crisis, or even to benefit from it, including healthtech, automated logistics, ed-tech and e-commerce.
Those involved in transactions have had to be fleet of foot and flexible. We advised earlier this year on a sale in which the parties agreed to switch from a fixed price to one with an earn-out component. This helped to apportion the risk of doing the deal between buyer and seller.
On a joint venture transaction, the parties decided to include a walk-away right in the event that the pandemic made it uneconomical to proceed before the first investment had been made.
Other deals have not seen a change in structure but have taken longer to complete. It has largely depended on the buyer’s perception of risk and how willing the seller is to bear some of that risk in order to get the deal done.
For entrepreneurs looking to realise an exit from their business after many years of hard graft, the obstacles may seem insurmountable.
However, it is a truism that every crisis brings opportunity, and 2020 will be no different. Those companies with healthy cash balances will be looking for opportunistic acquisitions. Private equity funds are sitting on dry powder of almost $1.5 trillion (£1.2 trillion). Meanwhile, yields on many “safe haven” assets, such as government bonds, are at an all-time low. There is, therefore, plenty of investor capital out there looking for returns.
So, what can entrepreneurs do to give themselves the best chance of a successful sale? The key is preparation. The dynamics of any deal depend on the interplay of risk and reward. Sellers must be satisfied that the valuation represents a fair return for their time and effort in growing the business. They will also be keen to avoid any legacy liability for the business. Buyers have to be comfortable that the price paid reflects future potential returns but also the level of risk that it is taking on. The reverberations of the pandemic throughout the economy have led in many cases to an unbridgeable gap. Deals are also harder to do as parties have to conduct meetings remotely and key aspects of due diligence, such as site visits, are more challenging.
Deals are harder to do as parties have to conduct meetings remotely and site visits are more challenging.
Preparation and careful planning can help alleviate all of the above and bridge the gap. Lateral thinking is also important (for instance, site visits have been conducted by drone). Here are a few things to consider:
If it’s broke, fix it
In advance of a sale process, it pays to conduct a review of your contracts and operations to identify issues. Many businesses will have done this as part of their response to Covid-19. If you are able to fix problems or be ready with reassurance for a buyer, you are less likely to have to shoulder the risk or do battle over a price deduction. Consider preparing “vendor due diligence”, which sets out the key arrangements of your business and flags any issues, and how they have been mitigated, upfront. Certain issues, if they cannot be de-risked for a buyer, may derail a deal.
Bridging the valuation gap
Buyers will naturally look to manage any concerns over valuation by asking sellers to accept some of their purchase price in the form of an earn-out or deferred consideration. It is worth being open-minded, as these mechanisms can often help to make a deal possible where uncertainty over future performance would otherwise render it too risky for a buyer. Sellers should, however, pay close attention to these provisions to ensure that the relevant earn-out targets are clearly defined.
Foster competitive tension
Having a variety of interested buyers will help support the valuation of your business. An auction process is usually more expensive than a simple bilateral deal with one buyer, but you increase your chances of maximising the value of the business. Think carefully before granting exclusivity to a buyer as there may be other potential buyers out there. A good corporate finance adviser is invaluable here.
Lockdown-proof your sale process
It is essential to be ready in the event that restrictions are re-imposed. Ensure that any key documentation is located, scanned and uploaded to a virtual data room and key members of staff are able to operate fully remotely. Beware of material adverse change provisions and walk-away rights. Buyers will naturally ask for these in case something should happen between signing and completion. For a seller, they can mean a deal falling over at the eleventh hour.
Know what comes next
Having a clear plan for what you want to do after a sale is critical. Private equity buyers will often expect key members of management to stay on with the business and re-invest a significant portion of their proceeds into the business. Industry buyers may be more interested in acquiring your intellectual property or know-how, and so will be comfortable with you walking off into the sunset.
With careful preparation it is possible to reduce the level of risk in any process.
These are turbulent times, and many will have shelved plans to sell until calmer conditions return. Rising cases of the virus and the recent imposition of more restrictions demonstrate that we are far from out of the woods yet. However, with careful preparation it is possible to reduce the level of risk inherent in any sale process and bridge the gap between buyer and seller expectations.
Edward Lane advises on a broad range of corporate and commercial matters, with a focus on assisting entrepreneurs, businesses, private equity houses and venture capital investors active in the technology, media, entertainment and financial services sectors.
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