| Deal
killers. They come in all shapes, sizes and varieties with
different reasons, justifications and rationalizations. They
can emanate from the buyer, the seller or any number of third
parties -- lenders, investors, key customers or suppliers,
professional advisors -- or all of the above.
In the article below, Andrew J. Sherman, Esq., presents a
variety of strategies for successfully managing the deal killers
to keep transactions on a positive track. Mr. Sherman is a
Capital Partner in the Washington, D.C. office of McDermott
Will & Emery LLP, an international law firm with over
one thousand attorneys worldwide.
A recognized international authority on mergers and acquisitions
and on the legal and strategic issues affecting middle-market
and growing companies, Mr. Sherman serves as one of the firm’s
practice group leaders of the Emerging Business and Technology
Practice Group. He also is the author of twelve books on the
legal and strategic aspects of business growth, mergers and
acquisitions and capital formation.
Deal killers: we have all seen them and had
to manage through them. Some deal killers are legitimate for
deals that deserve to die and some are emotional, financial
or strategic in nature. They can be very costly to all parties
to the transaction, especially when significant costs already
have been incurred and for certain advisors and investment
bankers, it means not getting paid. Clearly, deal killers
inflict a lot of pain along their path of destruction.
Most deal killers can be put into one of the
following major categories:
- Price and Valuation
- Terms and Conditions
- Allocation of Risk
- Third Party Challenges
COMMUNICATION
AND LEADERSHIP
The first step in keeping a transaction on track (and greatly
increasing the chance of deal killer avoidance) is to have
strong communication and leadership by and among all parties
and key players to the transaction. As in football, each team
(e.g., buyer, seller, source of capital, etc.) should appoint
a quarterback, who will be the point person for communication
and coordination.
Too many lines of communication, like too many
chefs in one kitchen, will create confusion and misunderstanding
— which are fertile conditions that allow a deal killer
to pollinate. The more the quarterbacks coordinate, communicate
and anticipate problems with the various members of their
team and promptly discuss key issues with the quarterbacks
of the other teams, the greater the chances that the transaction
can and will close.
Some of the key tasks of the transactional quarterback
and each team to keep the transaction on track towards closing
include:
- Putting a master strategic plan
in place (with realistic expectations re: financial and
post-closing objectives)
- Building the right team
- Communication and teamwork
- Orchestration and leadership
- Momentum and timetable accord
- Avoid emotion: don’t call my baby ugly syndrome
(sellers) and buyers must avoid falling in love with a given
transaction
- Early start on governmental and third party appeals
- Creative problem solving
- Cooperation and support from financing sources
- Facilitate agreement on the key value
drivers of the seller’s business/intellectual capital
issues
DIAGNOSING
THE SOURCE OF THE PROBLEM
When a potential deal killer does arise, each quarterback
should first diagnose the source of the problem. Where is
the issue coming from and what can be done to fix it? A deal
killer for one party may not be a deal killer for another
party. Take a look at Box A below. The old adage “where
you stand often depends on where you sit” clearly applies
here.
For example, a lender to a buyer coming at a
higher lending rate than anticipated may significantly alter
the attractiveness of the transaction from the buyer’s
perspective but may be viewed as a non-issue for the seller.
UNDERSTANDING
THE TYPES OF DEAL KILLERS
Once the source of the deal killer has been analyzed, the
respective quarterbacks should focus on the specific type
of deal killer. Most deal killers can and should be resolved
— either with creative restructuring, effective counseling
or precision document redrafting.
Some deal killers cannot be resolved (they are
just too big and hairy) and other deal killers should not
be resolved (like trying to squeeze a square peg into a round
hole). Deal killers come in a wide variety of flavors, and
include the following:
People, Personalities and Leadership
- Egos clashing
- Inexperienced players
- Internal and external politics (board-level, executives,
venture investors, etc.)
- Employee and customer issues
- Overdependence on the founder/key employee/key customer
or relationship
- Loss of trust/integrity during the transactional process
- Nepotism
- Breakdowns in leadership and coordination/too little or
too many points of communication
- Too little or too much “principal to principal”
communications
Structure, Strategy and Process
- Misalignment of objectives
- Failure to agree on post-closing obligations, roles and
responsibilities
- Failure to develop a mutually-agreeable post-closing integration
plan
- Impatience to get to closing vs. loss of momentum (flow
and timing issues)
- Force-feeding deals that don’t meet M&A objectives
(square peg/round hole) (Bad deal avoidance/good deal capture
— systems and filters)
- Incompatibility of culture and/or business systems (e.g.
IT Infrastructure, costs and budgeting policies, compensation
and reward programs, accounting policies, etc.)
- Who is driving the bus in this deal? (M vs. A)
- Unexpected changes in the buyer’s strategy or operations
during the transactional process (including a change in
management or strategic direction)
- Environmental problems (buyers less willing to rely on
indemnification and insurance protections)
Financial, External and Unforeseen Circumstances
- Due diligence red flags/surprises
- Pricing and structural challenges (price vs. terms)
- Valuation problems (tax/source of financing/in general)
- Third party approval delays
- Seller’s/buyer’s/source of capital remorse
- Shareholder approvals
- Accounting/financial statement irregularities (post-Worldcom)
- Sarbanes-Oxley post-closing compliance concerns
- Crowded Auctions
- Changes in seller performance during the transactional
process (upside surprises vs. unexpected downside surprises)
- Loss of a key customer or strategic relationship during
the transactional process
CURING
THE TRANSACTIONAL PATIENT
Although a detailed discussion of the tools available to “kill
a deal killer” is beyond the scope of the article —
and is probably as broad as the number of tools available
to the Orkin® man to kill the hundreds of different insects
and rodents — some of the more common tools are listed
below. The first step is for each quarterback to ensure that
the transaction can and should be fixed. If so, these tools
can be very valuable in mending a broken deal:
- Earn-outs/deferred and contingent post-closing consideration
- Representations, warranties and indemnities (tools to
adjust allocation and assumption of risk); (weighting of
priorities issues)
- Adjusting the post-closing survival period of R&W’s
- Holdbacks and security interests
- Closing date audits
- Third party performance guaranties/performance bonds/escrows
- M&A insurance policies
- Restrictions on sale by seller of buyer’s securities
issued as part of the overall consideration
- Recasting of financial projections and retooling post-closing
business plans
CONCLUSION
Bad deals deserve to die a peaceful death. Not all transactions
are meant to be closed: (a) at this time; (b) at this valuation;
(c) between these parties or (d) under these terms and conditions.
But if a transaction can be saved, then it should be saved.
The quarterback on each team must have the transactional
experience, business acumen and communication skills to diagnose
the source and nature of the problem as well as enough familiarity
with all of the tools available to get the transaction back
on track toward closing.
Andrew J. Sherman, a Capital Partner
in the Washington, D.C. office of McDermott Will & Emery
LLP, also is the author of twelve books on the legal and strategic
aspects of business growth, mergers and acquisitions and capital
formation. Recent books include Mergers and Acquisitions:
A Strategic and Financial Guide for Buyers and Sellers, The
Complete Guide to Running and Growing A Business, Parting
Company and Raising Capital. His newest book, Fast Track Business
Growth, was published in January, 2002. Mr. Sherman can be
reached at 202.756.8610 or at ajsherman@mwe.com.
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