How to negotiate and finance an acquisition

05 February 2019 by National Bank
Negotiating and financing an acquisition

Making a business acquisition is a quick way to grow your company. But this type of transaction also carries several risks. In order to succeed, careful preparation is required. In this series of 4 articles, learn out about the important steps to take before, during and after an acquisition. 

During the acquisition: Negotiate and finance

Pursuing an acquisition can prove to be a gigantic task. The key to success is to carry out the operation leaving as little as possible to chance. But it’s important to remember that an acquisition plan can meet with failure several times before ultimately coming to fruition. You need to be determined, organized and systematic. And you need to be able to start all over again when the targeted acquisition doesn’t work out. That being said, when the target company is interested in selling, here are the steps to follow.

1- Make an offer

At the very first meeting with the leaders of the target company, as a potential acquirer you must convince them that you are serious about the process, and then quickly determine if they are prepared to consider selling. If so, it’s important to know why they would like to sell their company. Once you know their reasons for selling, you’ll be in a better position to lead the negotiations.

The acquirer must also know how to gauge the chances of reaching a deal that will be satisfactory to both parties. Once again, there is the risk of trying to convince the owner to sell by offering too high a price.

Other buyers may also be interested in acquiring the target company, and this is not necessarily a bad thing. But not all buyers are equal. Some may be able to pay a higher price and derive greater profits from an acquisition if they are able to run it more efficiently or exploit certain synergies. It’s important to keep these factors in mind during negotiations.

A first offer must leave room for negotiation, specifically on price. Unless you are taking part in a formal call for offers, the first price proposed is never the final one. You must display some flexibility and be prepared to compromise, without however going beyond the limits you set at the beginning.

You must also be prepared to walk away from negotiations if it seems that an agreement on the price and terms will not be possible.

2- Secure your financing

Before making an offer, the acquirer must know exactly how the plan will be financed. Ideally, you would have enough cash in reserve to pay for the acquisition in its entirety. However, that situation is rare. If reserve cash is not sufficient to cover the deal, which is generally the case, the acquirer will need a financing plan.

If the acquirer wants to call on the firm’s shareholders or its other suppliers of capital, then they will need to come to an agreement with them on the type of acquisition to be financed as well as on the terms of financing.

An acquisition must also be closely planned with your banker, who is a front-line partner in this type of operation. The entire financing structure of the company that is making the acquisition comes into play. The possibility of financing any acquisition will depend on the type of company being targeted and the type of financing available. Various financing solutions are available to acquirers, such as a balance of sale from the seller (a.k.a. vendor financing or vendor take-back), or external financing which may come from a bank, a private investor or a venture capital fund. Your advisors can help you reach the right financing decision.

3- Financing the acquisition

Several options are available to the buyer when building a financial plan for an acquisition.

In addition to external financing, the acquirer often makes a personal investment. After the takeover, the acquirer may also draw on working capital.

Where financing needs to be sought to close the deal, there are several types to consider:

  • Secured financing, based on the personal assets of the borrower and those of the company, offered by financial institutions
  •  Financing based on a company’s future cash flows when it has no assets or assets of insufficient value
  •  Financing subordinated debt to senior borrowers based on the company’s cash flows, offered by private investors
  •  Financing by the seller, who agrees, for example, to make a loan to the buyer
  • Financing from personal funds or from venture capital firms in return for an equity stake in the company

When you meet with your financial advisor to apply for financing, these are the documents you will require:

  • The recent historical financial statements of the company for sale
  •  The company’s interim financial statements along with a list of customer accounts, accounts payable and inventories
  •  The acquirer’s personal balance sheet
  •  The signed offer to purchase
  •  The business plan containing your projected financial statements
  •  The project transaction memo
  •  The evaluation of the target company and its principal assets, if available

4- Perform due diligence

The success of any acquisition depends in large part on carefully checking all pertinent information related to the target company. The acquirer must obtain as much information as possible, including financial statements from recent years. Due diligence is an ongoing process that continues throughout the negotiations. It gives the buyer in-depth knowledge of the target.

The offer to purchase must be conditional to this due diligence, which, to be reliable, must be organized, systematic and, at the same time, as complete and efficient as possible.

Due diligence can sometimes be carried out before an offer is presented. In such cases, the target company gives potential buyers access to the information necessary to get an idea of the value of the company.

Frequently, though, the target company will refuse, on the grounds that if such information were divulged to its competitors, customers or suppliers, it would find itself in a compromising situation. One way for serious buyers to get around this problem is to sign a confidentiality agreement.

But if this too is impossible, the offer can be made conditional on the results of the due diligence, which will be conducted in the period between the acceptance of the offer and the completion of the sale. A price-adjustment clause, for situations where the acquirer uncovers details that were not known at the conclusion of the acquisition, can also be inserted. This, however, often gives rise to difficult and prolonged discussions.

Whether due diligence is performed before or after the offer is made, it must be very carefully planned. It is essential to create an exhaustive list of elements to be verified, have access to the target company’s documents and its facilities, and be able to ask questions of its auditors or other professionals who may be able to validate the information or provide additional details. Some kinds of research are fairly delicate: Visiting a factory in full view of one and all when the sale process is supposed to be confidential is not always a good idea. A good deal of tact is required.

The checklist will likely be long and must be adapted to the circumstances of the target company. And it must include the key information that the acquirer will be relying on to make the acquisition. For instance, if a company’s main selling point is a patent, you must ensure that it does indeed hold that patent. It is possible to obtain guarantees as to the state of the company during this process. The due diligence must also allow the buyer to be sure that the target company possesses all permits and authorizations required to conduct its business, that it faces no threat of litigation and that no legal matters are currently before the courts. Your lawyer and your accountant can set out a list of things to verify.

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