In the world of integrated payments and SaaS, acquirers abound and high-quality assets are hard to find. And as we head into 2019, all signs point to the continuation of a robust sellers’ market.
For the fortunate owners of top caliber properties, the market has become a name your price, name your terms, and prepare the family for the new condo in Palm Beach proposition. It’s really simple: you’ve built a successful business, and that in turn has earned you an unsolicited offer from a Buyer who is going to pay you top dollar, and close your deal in 45 days or less.
Sound too good to be true?
More often than not, an unsolicited offer to acquire a company whose owner was not contemplating an exit, sets into motion a chain of events that delivers not a seamless sales process and a “never-have-to-worry-again” financial future, but rather months of emotional and psychological angst, a massive siphoning off of precious resources (not the least of which being time), and an existential threat to the continued health of the ongoing business concern.
So, allow me to provide a narrative – a story – that imparts the plot of this oft occurring Faustian Bargain that occurs when a single, unsolicited offer prompts a For Sale By Owner (“FSBO”) transaction process.
The story goes something like this:
Part I. Mr. Faust, Please Meet Mr. Mephistopheles
- Owner of company gets unsolicited communication from private equity group or portfolio company thereof (“Buyer”), declaring “interest” in Owner’s assets or business.
- Buyer delivers slick sales pitch to Owner on how he’s active in the market, well-funded, seeking acquisitions just like owner’s, paying only premium valuations, and can close in 45 days or less. <= No less than the last two sales points making Buyer completely full of shit, and quite devilish!
- The seeds of “never-having-to-work-again wealth” have now been sown in Owner’s psyche. As a direct result, Owner agrees to fulfill Buyer’s initial due diligence request, allowing Buyer and Buyer’s minions to rip through the company’s financials, customer lists, and every other piece of sensitive information one can think of. Buyer, a.k.a. Mr. M, is “in the door” with the promise of a deal that seems too good to pass up.
Part II. A Tragedy in the Making
- Buyer conveniently provides, and Owner signs, a non-binding offer to purchase the company or assets, with no break-fee or penalty if the deal falls apart, and locks up Owner for 60 to 90 days of exclusivity, preventing Owner from having discussions with other qualified bidders. <= mind you, Buyer has yet to review a fraction of the diligence request that Owner has scrambled to fulfill, indicating that Buyer’s offer is very likely to change.
- Buyer submits additional diligence requests for quality of earnings review and possible dates for on-site technology assessment (remember, we’re talking about integrated payments and SaaS companies here). At the same time, Owner’s requests to receive and review a first draft of the purchase agreement go unanswered or ignored <= remember, Mr. M sold owner on the promise that he could close in 45 days or fewer – damnable Mr. M!
- And now, one month into the exclusivity period, owner’s hackles are up. Something doesn’t feel right. Owner thinks there’s more to this process than what was represented by Buyer, and perhaps it was unwise to have given Buyer exclusivity for so long. The nauseating idea that this process could all be a waste of time and money – legal, tax, and accounting representation are all racking up billable hours – is setting in. Worse yet, the deal process has created a major distraction for the company that is compromising sales and customer service.
Part III. Welcome to Hell
- The quality of earnings report has come in and Buyer, a once enthusiastic and quite charming future partner who loved Owner’s company, now wants Owner to take a 20% haircut in valuation, and to re-structure the deal so a material portion of the proceeds are paid after closing in the form of an earn-out. Buyer also now discloses that there’s more risk in this acquisition than previously understood or disclosed, and that even more funds, to the tune of 10 – 15% of the purchase price, will need to be held back at closing to offset “any unforeseen liabilities” that may arise after closing.
- At the same time, Buyer tells Owner that Buyer can’t send a draft of the purchase agreement until Owner agrees to the revised deal terms. Because Owner is still locked up in exclusivity, Owner is precluded from pushing back against Buyer’s revisions to the deal terms by bringing in other parties to bid and creating a competitive dynamic. <= Mr. M has effectively trapped owner.
- Owner finally realizes that he or she is screwed. There’s no leverage to negotiate with Buyer, and even when exclusivity expires, Owner is reluctant to go through the whole process again just to create a more favorable bidding dynamic and sell the business at a price and structure closer to what was initially proposed.
- Owner is in a no-win situation, and sees only three possible outcomes: a) the deal dies, and all the resources allocated to the potential transaction have been wasted; b) Owner goes back out to market, and now hires a broker to guide Owner through the entire process again, except this time, Owner, along with broker, have to explain to interested, but suspicious bidders, why the first deal fell apart; or c) Owner “throws in the towel” and takes the sub-optimal deal from Buyer as a function of the physical, financial, and emotional toll of the process. <= a Faustian Bargain indeed.
Parenthetically speaking
It’s important to understand that all of the above usually transpires in a time frame of roughly six months from the time of the initial unsolicited offer – regardless of which pathway the deal takes. One of the reasons why this FSBO / single bidder scenario is potentially catastrophic to an owner is precisely because of this length of time. If the deal falls apart, or goes through with a sub-optimal outcome, the result is that a tremendous amount of time and resources have been expended at a not-so-inconsequential cost to the productivity and growth of the ongoing concern, ultimately devaluing the same.
If you’re wondering why it actually takes so long for the process to unfold, it’s because Buyer, astutely aware that he is negotiating with the owner in a vacuum, without any other bidders to contend with, can continually dangle the promise of important deal deadlines and outcomes being met, yet never actually deliver on them, effectively “pushing back the goal posts” of a closing. Further, Buyer gets Owner to repeatedly extend the exclusivity period which continues to keep competitive bidders away. The net result of all this being that Buyer has secured for himself a substantial amount of leverage to negotiate extremely favorable deal terms to the detriment of Owner.
Avoiding the Faustian Bargain and Protecting Yourself Against the Trap that the Unsolicited Offer to Acquire Your Company Creates
Let’s assume that the story above plays out as described seven out of ten times (I can tell you from experience that the odds are even higher). The one action Owner could have employed to prevent this situation is to never have entertained the original offer without engaging competing bidders.
Simply put, it’s competitive bidding that keeps all buyers in check, and prevents owners from ever having to get duped into a Faustian Bargain.
Adam T. Hark is Managing Director of Wellesley Hills Financial. With 15+ years of consulting in payments technology, SaaS, and fintech, Adam advises clients on growth, exits, and market positioning strategies. Adam can be reached at ath@wellesleyhillsfinancial.com.
