The M&A Process

Founders and entrepreneurs can often build great businesses with incredible attention to systems and processes, excellent teams, and a fantastic product. Yet some are unaware of how a company is sold or the acquisition process. From a Buyer’s perspective, the entire process is laid out sequentially as follows:

1. Deal sourcing – Private equity and the hunt for good companies has gotten ridiculously competitive.  Thus, this process is often time-consuming and fruitless.  It can be as complicated as machine learning or as simple as cold-calling business owners.  Usually, sourcing involves building a network and a funnel.  The network will include business brokers, investment bankers, attorneys (M&A, business, estate planning, etc.), industry contacts, and CEOs.  Often, your network’s quality determines your “deal flow.” The funnel typically consists of utilizing your network, coupled with databases like Capital IQ, ZoomInfo, D&B, etc., and social media platforms like LinkedIn, connected with CRM (Customer Relationship Management) software like HubSpot or similar tools to track phone and email interactions.
2. Identifying a target and submitting an offer – After a suitable target is identified, a buyer submits an IOI (Indication of Interest) or LOI (Letter of Intent). If an IOI is submitted, a range of values is given.  This is vague enough to allow for price flexibility and negotiation, yet sure enough to alert the Seller that the potential acquirer is serious.  A letter of Intent is more serious.  It states specific values and time periods for getting to a “close” (mutually agreed upon Purchase and Sale Agreement).  This includes criteria like a Due Diligence period, a period of training or supervision where the current owner will still be involved in day-to-day operations, or an Earn-out whereby the price fluctuates based on the ability to hit certain milestones in the future.

2. Due diligence period – During this time, the Buyer reviews financials, tax returns, accounting practices, the organizational chart, meets with high-ranking company officers, and other items.  A Quality of Earnings report is performed whereby a CPA assesses how a company accumulates its revenues – such as cash or non-cash, recurring or nonrecurring.  As well as Capital Expenditures, Accounts Receivable policies, Accounts Payable procedures, and understanding the general knowledge of the business.  A cash reconciliation report may also be done where a CPA tries to recreate the financials and reconcile the general ledger cash account, net income, and statement of cash flows based on the bank statements provided by the Seller.

3. Further negotiation may occur if the Buyer discovers any irregularities in the financial process or can not reconcile fully to the Income Statement, Statement of Cash Flows, or Balance Sheet.
4. Purchase and Sale Agreement – Lastly, if both parties agree, a Purchase and Sale Agreement is signed, and money is wired from the Buyer to the Seller.
5. Operations and value enhancement: Now, the Buyer attempts to build and improve the business and perhaps look for further acquisitions, as well as organic growth, to sell the company at a premium.

Often critical points in the negotiation are:

1. Net Working Capital Peg:  How much money does the business need to operate without financing at a comfortable level?
2. Transition: The duration and intensity the current CEO or owner will stay before a new CEO is in place.
3. Earn out: The Buyer may include a price range that changes based on the company hitting specific revenue and EBITDA milestones.
4. Down payment or amount put in escrow as a good-faith deposit and details surrounding deadlines for returning that money or having it “go hard.”