Can only large firms participate in M&A transactions? Can only multinational enterprises use M&A techniques to strengthen their competitive position, enter new markets and obtain new clients? The answer is definitely no.
Every firm, regardless of how large or small it is, regardless of the industry it operates in and regardless of whether its market is international, national or local, can become stronger through M&A. In this podcast of The Keys to M&A, we will discuss the key objective of M&A, discuss how M&A techniques can create value and list five specific points for SME’s to keep in mind when creating an M&A strategy and evaluating M&A opportunities.
I began my professional career by working in the sector itself, in a role related to General Administration and Finance, during which I also had my own company in product importation and commercialization. However, my dream was always working in the M&A world, a passion that awakened in me while working toward my Master’s in Finance and was living in Bogotá. This was when I decided to start my own company and dedicate myself part-time to teaching. In the last few years, I have participated in various administration boards as an external member, where I have gained invaluable experience and developed a successful career as an M&A adviser. In 2016, I joined ONEtoONE to to give a much more global reach to my deals.
The global network of ONEtoONE
What I like the most about working at ONEtoONE is the feeling of support I receive from my colleagues and fellow international partners. Having more than 100 professionals who are M&A specialists all over the world allows us to feed from each other’s experience and wide network of contacts. Technologically, I am convinced that we are pioneers; we have an information system that is unique to lead deals in a way that is more organized, efficient, and practical. Everyone in the team has professional qualities that are incredible from any point of view.
M&A in Colombia and prominent operations
My base is Medellín, where we have our headquarters, but from there, we attend to all of the country, especially to Bogotá. I personally develop many projects in the food sector, but there are other sectors that I enjoy profoundly, like IT and telecommunications. Currently, we are buying two companies in Mexico in the food industry, selling a natural foods distribution company in Colombia, capitalizing a meat processing plant, and negotiating various important operations for the upcoming year in sectors such as telecommunications, IT, distribution, and fabrication. We are constantly valuing companies; it is our passion, and we collaborate with many colleagues on a local and international level who are executing their own M&A deals.
Want to learn more about our partners? Have a look at “ONEtoONE Team” blog section!
Last Monday, I had the pleasure of presenting a “buy your own” company workshop to the young entrepreneurs and enthusiasts of “Cercle Dynamique” in Brussels.
Just like you, some of those young men and women did while some did not have a background in economics, negotiation, or M&A. The idea was to create eight guidelines to focus on when looking to buy a company which are easily understandable for professionals as well as for complete newbies.
M&A is like marriage, you are bound for life with no option on a free divorce. Pick the right partner, and write stuff down. Here are the top 8 takeaways on buying a company:
1) Decide what you are looking for
Decide what you want in terms of location, size, industry, etc. Think about your budget as well – do you even have one?
2) Do your research
Visit companies close to home, check online, and know that there is NO harm in asking. Be careful: online, you will find one good opportunity for ten bad ones.
3) Consider getting help
Professionals will safeguard you from financial, legal, and emotional pitfalls. A sparring with a deal-making attitude will only help you move faster.
4) Understand the counterpart’s motivation
“For sale” does not mean that something is wrong; remember that. People have a variety of reasons to sell a company. What is of utmost importance is to understand why a seller sells. If you understand the motive of the counterpart, it will ease negotiations. The same goes for you – be clear about your buying motivation.
5) Complete Due Diligence
As your mom used to say: Do your homework! We mean, do the research. Team up with experts and do not leave anything up to change, be diligent.
6) Acquire the necessary funding
Funding knows many forms. You can use seller financing (vendor loan, etc.), business angels, venture capitalists, FFF’s (fools, friends and family) or just go knocking at the bank’s door. Whatever you decide to use in your financing cocktail do not overstretch and calculate an error margin.
7) Draft a sales agreement
Protect yourself with a waterproof Sales and Purchase Agreement. The SPA should define the scope of transaction, financial metrics, and formulas in detail. Once all is written down, make sure you understand and agree with every single word on that paper.
8) Keep your communication clear and transparent at all time
Communication is key in any business transaction, especially in one as important as a business purchase. Make sure all parties involved are constantly aware of what is going on.
Eager to learn more on valuation, the acquisition process and our conclusions? Check out the full slideshow here.
For many business owners, one of the most important decisions that they will make is the decision to sell their company. A business is often the fruit of many years of hard work, establishing relationships and facing numerous challenges and leaving something behind that has been a significant part of a person’s or a family’s life for many years or even generations can be extremely difficult.
However, selling a business does not necessarily mean that the seller will need to completely leave his or her business behind. Depending on how the terms of a sale are negotiated, a business owner may continue to play an important role in a company even after it is sold, something that may be positive for business buyers as well as sellers.
Selling a business does not necessarily mean that a seller will need to completely leave his or her business behind.
Why Selling a Business Can Be Hard
There are often four reasons why selling a business can be difficult for business owners.
Concern for Firm Employees. Businesses are important sources of material wellbeing for firm employees and business owners are often concerned that, if the business is sold, these employees will lose their jobs and be left in difficult economic positions.
Concern for Clients. Many business owners have close commercial and personal relationships with clients and these clients depend on a business’ products and services. Business owners are often concerned that, if the business is sold, the quality of products and services that are sold to clients will decline, which will negatively affect clients who may have a relationship with a business for many years.
Concern about Economic Alternatives. Businesses represent a financial return for business owners based on their investment in the company. Particularly for successful businesses that provide excellent returns, business owners are often concerned that they will not be able to invest the proceeds from the sale of a company in a new business activity that will provide the same level of financial returns.
Concern About Life After the Firm. More than simply a job or source of income, for many business owners a business represents an activity that occupies the vast majority of their time. This activity often involves many professional and personal relationships with co-workers, clients and service providers and it can be very difficult to accept that from one day to the next, a life that was filled with meaningful commercial relationships, obligations and timetables will be replaced with a large professional vacuum.
Company Sale and Value Loss
Apart from concerns a business owner may have about selling a business, it is often the case that the clean break of an owner from a business will not be in the best interests of the business or the buyer.
There are two key reasons for this. The first reason is that the incoming buyer may not be as familiar with the business or local market as the seller and thus a simple handoff of the business to the incoming party may result in a significant drop in business efficiency, revenue generating power and risk management capability.
Second, an abrupt sale may cause the defection of valuable employees or clients, which can lead to great losses of business value.
Creative Win-Win Company Sale Options
Given the concerns many business owners have about selling their businesses and business problems that can result from abrupt business sales, one option to consider is a business model sale which allows the owner to remain significantly involved in a business after it is sold.
Three ways in which a business owner can remain involved in a business after it is sold is through a share sell down, a directorship role and as an outside advisor to the business.
The Share Sell Down. One approach for business owners to remain involved in a business after they sell is, instead of selling the whole company at once, to provide a structured sale of shares over an agreed period of time, such as a year, three years or five years. This approach can allow the business owner to remain significantly involved in the business and also allow the new buyer the time to acquire necessary business know-how and step into the business operating relationship in a way that does not cause operating disruptions or business value to be lost. In some share sell down structures, the owner may retain a minority interest in the business so that he or she continues to have an economic interest in the business indefinitely into the future.
Directorship. Even if a business owner sells its entire stake in a business, the business owner may participate as a non-voting director in the company to continue to remain actively involved in company affairs. This role could be combined with working on a firm project where the business owner has particular expertise, something that could create economic benefits that could be shared by the parties.
Outside Advisor. A third approach for a business owner to remain involved in a firm after it is sold is as an outside advisor where the business owner advises the firm on different matters relevant to the business depending on the nature of the business and the business owner’s strengths and interests.
Conclusion
Selling a company is a major professional as well as personal decision for many company owners. In addition to challenges for owners, the complete sale of a company can also create significant issues for incoming buyers. These issues may lead to buyers offering lower purchase prices for a company due to concerns that business value may drop after a business owner leaves or that business forecasts made based on the strengths of the outgoing owner that served as the basis for a company valuation will not be able to be met.
One solution to this is to use a company sale structure that allow owners to remain involved in a business after it closes. While the feasibility of this approach depends on what the company purchase and sale motivations are, it can often smooth the sale process position for both parties.
This article was written by Darin Bifani. If you would like to know more about how to sell your company, take a look at VALUE, WORTH, AND COMPANY SALE STRATEGY.
The photo for this article was taken by Ahmed Saffu on Unsplash.
As we move forward in the 21st century, the global agriculture sector faces two immediate and very large challenges, the solutions to which can at times be at odds with each other. The first is to find a way to produce dramatically greater amounts of food to feed the world’s rapidly growing population. The second is that agriculture production and activity can at times cause significant negative impacts on the environment.
While successfully meeting these challenges will require a sustained combination of many political, financial and industry tools, green bonds are one way to both channel significant amounts of capital into the agriculture sector and at the same time support agriculture practices that have positive environmental consequences. These bonds could become an important complementary financing source, not only for governments and large corporations, but also for smaller agriculture companies that play a very important role in the global food chain.
Population Growth and Food Demand
The global demand for food, which is already very high, will rise dramatically in the years to come. According to a report by the United Nations, the world’s population will reach 9.8 billion by 2050, an increase of more than 2 billion. This population increase will have a major impact on global demand for food. An article published by Maarten Elferink and Florian Schierhorn in the Harvard Business Review suggested that by 2050 the world’s demand for food could increase between 59% to 98%, a staggering amount.
Production Ramp-up Financial and Environmental Challenges
The goal of dramatically ramping up food production to meet food demand faces important hurdles. One of these hurdles is not only providing financing for food production initiatives but also providing that financing at a cost that agriculture projects can reasonably support.
Traditional agriculture project finance methods can be challenging to fit into simultaneously production-minded and environmentally friendly production strategies. From a credit perspective, the dependence of a great deal of agriculture finance on the use of land as loan security can limit the pace of production growth.
While private equity investments can provide large amounts of capital for agriculture projects that is based on project cash flows rather than land values, the effective cost of private equity capital can be extremely high. Further, meeting often high return requirements can lead to financing business plans which emphasize maximizing financial returns rather than sustainable agriculture initiatives.
A second hurdle is the potential negative impact of increased agriculture production on the environment. Agriculture practices can cause many harmful impacts on the environment, including the release of greenhouse gases, deforestation, massive amounts of water use and pollutants. This can cause situations where agriculture production takes one step forward but environmental protection takes two steps back.
Green Bonds and the Agriculture Sector
One financial product which has the potential to help bridge the gap between the need for increased agriculture production and concern for the environment is green bonds. While there are different types of green bonds, generally speaking green bonds are bonds whose proceeds are used, either wholly or in part, for projects that have a positive impact on the environment. “Labelled” green bonds are those which have been certified as green bonds by a qualified third-party certifying entity.
According to the standards set forth by the International Capital Markets Association, green bonds should meet four key criteria:
– They should be used for “green projects”;
-Green bond issuers must communicate several things to investors, including environmental sustainability objectives, the process by which projects are determined to be green projects and green project eligibility criteria;
-There must be a formal process for managing the funds that are invested in green projects;
-And there must be clear and detailed reporting procedures.
Under the International Capital Markets Association framework, agriculture projects expressly qualify as green projects. According to the International Capital Markets Association’s Green Bond Principles, qualifying projects include: “environmentally sustainable management of living natural resources and land use (including environmentally sustainable agriculture; environmentally sustainable animal husbandry; climate smart inputs such as biological crop protection or drip-irrigation; environmentally sustainable fishery and aquaculture; environmentally-sustainable forestry, including afforestation or reforestation, and preservation or restoration of natural landscapes).”
Potential of Green Bonds
Green bonds have the potential to have a significant impact on the financial and agriculture sector. According to a report prepared by Nikko Asset Management in 2017, by the year 2020 the value of green bonds issued and outstanding could reach US $1.2 trillion.
An early green bond issuance was the issuance of bonds by the Agricultural Bank of China (“ABC”) in the amount of US $1 billion. A majority of the ABC’s lending activity is related to the purchase of grains and cereal reserves. The ABC also provides large amounts of funding to improve rural infrastructure that supports farming activities. At the end of 2017, the Agricultural Development of China issued over 3 billion yuan in green bonds (US $473 million).
Brazil, one of the world’s most important emerging markets with a population of about 208 million, has become an important issuer of green bonds. Brazil has already issued more than R $11 billion (US $3.4 billion) in green bonds. Reportedly 24% of the funds from these bond issuance were used to finance forestry and agriculture projects.
Private Placement
While green bonds are often publicly traded, they can also be placed privately. This creates a very potentially interesting financing alternative for smaller companies that have strong projects that they wish to finance but who may not qualify for trading on public markets or who may want to tailor bond terms and conditions for specific investors.
Meeting the world’s growing food demands and ensuring future environmental security requires creative financing solutions. Green bonds have great potential to become an important financial tool in achieving food production and environmental objectives.
The photo for this article was taken by Adam Morse.
Confucius, the Chinese social philosopher whose teachings deeply influenced East Asian life and thought, once said, “If you make a mistake and do not correct it, this is called a mistake.” This cannot be further from the truth when it comes to buying a company. Here are 10 of the most common mistakes that become true obstacles when buying a company and how to avoid them:
1-Falling in love with a company
You should make sure to maintain your logical stance and keep your emotions at bay when it comes to the company in which you are interested. Do not let yourself be overtaken by the process and the desire to close the deal. To avoid this situation, it helps to study various possible acquisitions at the same time.
2-Looking for the perfect company
Machiavelli said that the best is the enemy of the good. All companies have flaws. The most important thing is to buy the one for which, with your capabilities, you can create more value than the old owners.
3-Accepting the asking price
Even though they may tell you that the price is firm and definitive, do not let yourself be influenced. Make counteroffers and start the negotiation dance. If they do not have another buyer that accepts the asking price, then the seller will enter your dance and continue to give in until you reach a satisfactory agreement for the both of you.
4-Not doing a comprehensive research on the company
Do not relax when it comes to the due diligence. The greatest flops in the company purchase process occur due to conducting only a superficial study of the information provided to you – for not asking enough questions or being satisfied with ambiguous or incomplete answers.
5-Having very little knowledge of the sector you are entering
Even though you may know the company well, you may be entering a sector in decay, with price wars, idle capacity, or a competitive dynamic that demands investments that you cannot handle. It is crucial to understand the industry that you are entering and its competitive forces.
6-Buying in a hurry
Avoid falling in the rush provoked by the seller and set your own pace in the process. Rush tends to reveal hidden motives. If you fall for the seller’s dynamic, you will not be able to negotiate or examine the company that you are buying properly.
7-Working with low-cost advisors
You get what you pay for. In a corporate operation, you should surround yourself with good advisors who are committed, analytical, demanding, and capable of detecting inconsistencies and defending your interests.
8-Not studying your partners
You may be so invested in studying the operation and finding funding to complete the deal that you spend less time analyzing the partners with whom you will make the purchase. They are just as important as the quality of the company that you are buying. One wrong partner could ruin a good acquisition.
9-Paying for the value that you will create yourself
Do not fall into the trap of paying for the potential that the seller says that the company will have if you fix this or that. All of this is value that you will create yourself. Pay the seller for what it is worth in that moment and leave all growth or improvements to create value for yourself.
10-Overlooking the ambiguities
When you reach a deal, make sure it is clear for how long the seller will stay, set in stone the payment methods, the responsibilities that you have to your partners, how your value creation will be remunerated, and close in a clear manner all aspects that may be relevant in your case. Do not leave anything open to interpretation because they will hurt you in the long run and make managing your new company difficult and could even ruin it.
“I did not come from the traditional business banking sector. Throughout my professional life, I had served in different executive positions in ICT multinational companies, and in my last stage, I was working as an independent consultant. About four years ago, a current ONEtoONE partner, former CEO of a company with whom I had collaborated, put me in contact with ONEtoONE, which wanted to incorporate a partner with a high level of knowledge of the ICT sector, since it is one of the sectors where more M & A transactions happen, but you also need a deep knowledge of it to understand the key differentiation points. Since then, I have been working at ONEtoONE as a specialist partner in ICT sector.”
M&A and the ICT industry in Spain
“Our work as partners is to help entrepreneurs make one of the most important decisions of their professional lives, which is to conduct a corporate operation, both at the time of selling it, when they are looking for investors helping in the growth phase, and when incorporating other companies to the group. This process is particularly delicate in the ICT sector, where a great part of the value of the companies is based on their people. Also, Spanish companies are especially small in this industry and have very little experience in these types of operations.
The ICT sector in Spain consists of relatively small companies with little financial capacity to deal with complex investment processes, both in terms of product (R&D) and internationalization, so if they want to continue growing, they must be integrated into larger organizations that allow them to develop their full potential.
What is happening now in Spain is the emergence of “boutique” ICT companies, with a high degree of knowledge in high growth sectors, such as Digital Marketing, Business Intelligence, IoT, Big Data and everything related to new models of B2C, which are changing the way companies and end customers communicate. Here, very interesting corporate transactions are taking place.”
ONEtoONE helps the entrepreneurs and has a global vision
“Without a doubt, what I like the most is being able to help entrepreneurs find the company that not only maximizes the value but is the right fit in terms of future development and cultural compatibility. This really makes me happy. I can say that in all the transactions that I have closed, the old shareholders continue to work in the company in a totally satisfactory way.
Besides that, ONEtoONE gives you the opportunity to exchange projects with other partners of the company worldwide. This is what gives me the most pleasure and helps us to have a more global vision of the sectors in which you work.”
Mandates Bernar is currently working on
“Currently and within the technology sector, I would to comment the following mandates:
-Service company in the sector of Service Cloud and Marketing Cloud, which is experiencing spectacular growth and is awakening a lot of interest in the market.
-Company that has developed a solution with a worldwide software leader manufacturer for SMEs and that distribute the solution through banking entities
-Company focused on the development of ePayment and security solutions, which is a sector that is currently changing very fast.”
Want to learn more about our partners? Have a look at “ONEtoONE Team” blog section!
When should you sell your company? While decisions to sell a company are at times prompted by factors that affect a business owner which are unrelated to the performance of the company or larger market realities, as a general rule these types of sale decisions do not lead to an optimal sale price.
Given that many business owners who sell a company are motivated by a desire to obtain the highest price possible, it is important to analyze the factors that investors take into consideration when making a company acquisition. Aligning a company sale process with these factors will generally lead to a better overall sales strategy, a speedier sales process and better sale terms for business owners.
Aligning a company sale process with founder motivations, company performance factors and larger market realities can greatly improve the chances of selling a company and securing better sale terms.
Founder Factors in Timing of Sale
Business owner motivation for selling a company can be based on factors that are specifically related to the founder rather than those that are related to the company or the larger market. These factors can include:
-A decision by the founder to spend his or her time on a different business activity;
-A decision by the founder to retire and spend more time with his or her family;
-A desire by the founder to “cash out” and convert his or her ownership position into money to invest in a different venture, pay financial obligations or distribute to members of his or her family; or
-An illness of the founder or other situation that makes it difficult for the founder to continue with the business.
While each of these factors is of course a valid reason for the decision to sell a company, if a decision to sell a company is made completely independent of a consideration of factors related to the company and the larger market, the company will often not be sold for its optimal price, particularly when these factors are not favorable.
Company Factors in Timing of Sale
A second set of factors that may affect a business owner’s decision to sell a company are factors that are specifically related to a company. These factors can be broadly divided into positive or negative events.
Positive Company Events. One trigger of the decision to sell a company can be a positive event in a company that is independent of market circumstances. This type of event is often related to a company’s financial performance, but it can also involve:
-the development of technology;
-the discovery of an important natural resource;
-a significant ramp up of the company’s market presence;
-or the announcement of the company entering into a valuable strategic relationship.
Negative Company Events. A second trigger of a company sale decision is a negative event at a company that is independent of market circumstances. The first type of negative event is one that affects the financial viability of a company. Examples of this type of event include:
-a loss of major clients or business channels;
-a sustained drop in revenues or an increase in fixed costs;
-an significant increase in the company’s cost of capital; or
-major litigation.
A second type of negative event or issue is one that does not directly impact the financial viability of the company but rather relates to the willingness of company founders to continue to work together. This might be due to, for example, a major disagreement between the owners about how a company should be run.
Market Factors in Timing of Sale
A third set of factors that may affect a business owner’s decision to sell a company is related to the realities of the market where the company does business.
Positive Market Factors. Business founders may be motivated by a desire to sell their company because of positive market factors, such as strong country GDP growth or positive sector trends. A sudden surge in home affordability, for example, may greatly increase the interest of investors in buying companies that provide real estate loans. A large growth in the mining industry will likely increase the interest of investors in purchasing companies that provide mining services.
Negative Market Factors. Negative market factors may also be strong drivers of decisions to sell a company. A business owner who feels that the economic or political situation of the country where his or her business is located is worsening may decide to sell his company before these conditions deteriorate further.
The Investor’s Perspective in Timing of Sale
A successful M&A deal, of course, is not only dependent on the motivations of a seller. While many investors will view positive and negative company and market factors in the same way that a business owner would, there are other factors that are particularly relevant for investors and often significantly affect their investment timing.
To begin, given that many investors use leverage when making an acquisition, appetite for acquisitions will generally increase when debt financing is more available and interest rates fall. The current global low interest rate environment has contributed to many companies searching for acquisition targets.
For investors that invest across borders, exchange rates can be an important deal timing consideration. If the currency of the country where the company is located weakens, this will effectively make the costs of an acquisition fall. Similarly, a currency that historically or currently is experiencing a great deal of volatility will create increased uncertainty which generally will lower the price that an investor is willing to purchase a company for.
Also with respect to cross-border investment strategies, perhaps the factor that has the greatest impact on an investment decision is a country’s general risk profile. When a country’s risk profile significantly increases, the price that investors are willing to pay for a company will often substantially fall even if the company is essentially insulated from the factors that are increasing general country risk.
Conclusion: Finding the Right Timing for the Sale of Your Company
While the decision to sell a company may be motivated by reasons that are not financial in nature, for business owners that are interested in maximizing the price that is paid for their company they should be aware of the great importance than both company and market factors can have on sale price. Due to this, business owners, to the extent possible, should time the sale of a company so that it not only coincides with as many positive company and market factors as possible but also so that it also coincides with the financial, economic and risk management drivers of investor company acquisition decisions.
An interview with Iliya Zogovic, CEO of ONEtoONE Corporate Finance USA.
Can you tell us how you came to be in your current position?
Iliya Zogovic: I don’t have what you would call the “traditional” investment banking background! I started my career working for a marketing company based out of Mexico City, where I got first-hand experience on finance and operations at a very early age, and later on, I started a credit business, where I learned that financial services are not as complicated as we make them sound!
I eventually exited both businesses, and I was ready for a new adventure with a bag full of tools and skills acquired but nowhere to put them to use. Life works in mysterious ways, and this time it put Enrique Quemada (ONEtoONE Corporate Finance Chairman) and me in the same path: Enrique was looking to crack into the U.S. market and I was looking for a new adventure, so it was a perfect match. Building an investment bank from scratch in the USA would sound like a crazy idea to most people, but not for him. I guess the day he saw me come back from a 30k run in the middle of a polar storm – there was an official alert not to go outside, but I I had to do that according to my training plan – he knew that I was the right person to take on the challenge.
What do you like about ONEtoONE?
Iliya Zogovic: What I like the most about ONEtoONE is that we really help business owners. We are not making the ultra rich richer or helping raise money for crazy ideas that we don’t know if will work or not. We work to help business owners realize their life work and create a future for their families. We work for the business owners – not for the transaction – and that is very important to me.
Moreover, the interactive structure of ONEtoONE is unique, and I love the idea of being part of a team that works together and leverages each other’s strengths while we support all of our weaknesses. We will always be better as a sum than as individuals; that is why we came up with the idea of a collaborative matrix while building the USA team.
How do you build a relationship based on trust with entrepreneurs along the process of helping them sell their business?
Iliya Zogovic: Trust is only built with honesty and by listening! We always lead with honesty admitting what we know and what we don’t know, and we build on that by listening to entrepreneurs and learning from them. A common investment banker mistake is to try to show that he knows it all; that is why we start by recognizing that the client knows his industry better than we ever will, and by recognizing that, we immediately open the door for him to recognize that we know more about corporate finance than he ever will. A symbiotic relationship is immediately formed.
Do you have any hobbies that you feel have added value to you as an M&A professional?
Iliya Zogovic: I think that my passion for endurance sports and skiing is very transferable to M&A, especially because in both cases you need to create a strong foundation before you can be good. And just like in an M&A deal, the finish line is not near the start, but that makes crossing it that much sweeter. Also, just as in M&A, you will want to quit many times during the race, but that is exactly where you get stronger, better, and separate yourself from the rest.
Words from one of Oscar Wilde’s plays, Lady Windemere’s Fan, have often come to mind during my 25 years in finance and business.
Wilde writes about two 19th century upper-class Englishmen discussing the intrinsic nature of short-sightedness and cynicism:
Mr. Cecil Graham asks, “What is a Cynic?”
Lord Darlington replies, “A man who knows the price of everything, and the value of nothing.”
To which Cecil Graham quickly responds, “And a Sentimentalist, my dear Darlington, is a man who sees an absurd value in everything and doesn’t know the market price of any single thing.”
The value of something can be vastly different from its price
In business, as in personal life, the value of something can be vastly different from its price. When advising business leaders on corporate valuation, I found that they often misinterpreted price for value. Unfortunately, this often results in companies being bought and sold at prices that do not reflect their real market value.
Perhaps, in order to determine a buy or sell price, you have been involved in a “value audit” of a company’s operations. These audits parse a company’s performance numbers in excruciating detail, analyzing current and projected sales, return on sales/equity/debt/assets, debt load, inventory turnover, and debt-to-equity. They also consider the alignment of product with the needs, wants, and projected growth of the market. Supply, fulfillment, and operating performance numbers are carefully reviewed. This analysis then yields a price, which is later negotiated. As you can see, there is no sentimentalism here, with everything based on concrete numbers.
However, Lord Darlington is right. These calculated prices may only dimly reflect the company’s actual value. We have all been shocked by the prices paid for some companies. There have been sale prices that far exceeded or fell incredibly below an industry’s normal pricing multiples, even though financial analysis would have suggested otherwise. In such cases, buyers and sellers might have actually negotiated value, rather than price.
Don’t overlook factors crucial to a company’s sustained success and value
A few years ago, I was asked to help restructure the operations of a technology company that had just been purchased by a venture capital firm. Even though they had carefully completed due diligence on the company’s financial and operational performance prior to negotiating price, it soon became obvious that the company’s value to the new owners was far less than the price they paid. Why? Because they overlooked factors crucial to a company’s sustained success and value:
The Right Team: Does the company have the best possible leadership, management team, and workforce to effectively execute the corporate strategy?
The Right Skills: Does the workforce really have the skill set to tackle the challenges to come?
The Right Culture: Is the company culture healthy, with high morale? Does it support individual initiative, innovation, growth, and respect for other team members? Do team members feel that their roles are valued?
The Right Communication: Is there clear, meaningful, open, and normalized communication among the company teams to ensure continued learning and individual accountability? Does every team member understand and support the corporate purpose, vision, and mission?
The Right Assets: Will the technology and physical assets meet present and future operational demands?
The Right Structure: Do the company’s operating and organizational structures align with its corporate vision, strategy, and business model?
Had the venture capital team included these fundamental factors in its evaluation, it would have offered a significantly lower price, or not have submitted an offer at all. In other words, to accurately calculate a company’s value, considering the financial and operational numbers is necessary, but not sufficient.
Looking beyond the traditional numerical due diligence parameters allows buyers to best calculate the true value of a company to them and sellers to justify a higher asking price. In Lord Darlington’s terminology, it is essential to fully understand a company’s value before you can determine its price.
Article written by Paul Hager, Partner – ONEtoONE Corporate Finance USA.
