There’s no doubt that the M&A landscape in the lower middle market has changed and is a vague resemblance of how it looked 40 years ago. Virtually gone are the days when founders of family-run businesses in the same or similar industries chit chat over coffee about doing a deal. Today, buyers are hovering and pressuring, many of them private equity firms, independent sponsors, search funds, or strategic companies looking to capitalize and grow. Many business owners receive calls weekly, confused about who the callers are and which road they should take.
“It’s become much more competitive today, with just so many buyers chasing sellers,” noted Mike Trudeau, president of Trudeau & Trudeau Associates, a Boston-based M&A advisory firm focused on the plastics industry. More than 42 years ago, in 1979, Trudeau and his brother, Bill, sold their family plastics business when their father decided to retire. The experience was challenging and educational, mainly because there were no business brokers or boutique advisory firms to help the Trudeaus do the deal. Three years later, emboldened by their new-found knowledge of selling a company, the Trudeau brothers started their advisory firm to help both buyers and sellers in the plastics industry. “A business is very fluid, and you have to handle it right, especially in the sale process,” Trudeau said. “You can really mess up a company by running a flawed sale process or trying it on your own.”
All of this begs the question, though: How do sellers, many of them founders of their own companies with little or no transaction experience, trudge through the complex deal-making mud and find the right buyer for their business? Even with advisory help, sellers make the ultimate decisions, so targeting the right buyers from the get-go is key.
“What we’re trying to do is find somebody who will see our client as being in the crosshairs of their strategic dilemma,” stated Dick Gregerson, president of JANAS Associates, a lower middle market M&A advisory firm, in Pasadena, Calif. “But a lot of it comes down to the preference of the owner. Even if we do an analysis, if they don’t like the guy, they’re just not going to close. It often comes down to chemistry.”
Business owner blunders
By all accounts, business owners who try to sell on their own can make horrible mistakes: They don’t position their companies early on to get the best prices once they’re ready to sell, and they often view their enterprises as tangible, like houses, instead of as entities comprised of employees, customers, ideas, strategies, and relationships, Gregerson said. They often aren’t prepared to tell a private equity firm which of their products makes the most money, a factor that could drive up valuations, he added.
Many sellers typically think they will sell to a competitor, which could be a false move. “Usually competitors are the last companies you want to sell to, because competitors generally think they know more about your business and tend to not attribute much value to it,” noted Kenneth Marks, founder and managing partner of High Rock Partners, in Raleigh, N.C., and lead author of Middle Market M&A: Handbook of Investment Banking & Business Consulting.
Company founders may also feel beholden to sell to a suitor who has repeatedly called them, hoping for an exclusive deal, Trudeau said.
Sellers approached by one potential suitor may decide to negotiate, not knowing that there are better buyer options out there, stated Bob Coury, managing director and CEO of Greenwich Capital Group, a middle market investment bank in Detroit, Cleveland, Nashville, and San Francisco. Sellers comprise about 80% of his firm’s clients, most of which are family-owned businesses valued between $20 and $200 million, he said.
“At the end of the day, it’s hard for sellers to understand that they’re turning over their keys, and don’t have any control over the business anymore,” Coury summarized.
Know thy seller
The firms run by Trudeau, Gregerson, Marks, and Coury have their own unique processes for targeting buyers, but all four first determine if their clients truly want to sell, why they want to sell, and what they are seeking in a deal, both from a price standpoint and a people standpoint. Marks asks clients a lot of other questions before they embark on their buyer search: What is your growth strategy? What’s your game plan? Do you have a wealth manager, along with an attorney or tax accountant adept at doing deals? Do you want to stay with the new company post-transaction? Are you prepared to walk away?
Like with many advisory firms, High Rock Partners sometimes has a quality of earnings conducted prior to going to market to make sure they are prepared, since not all clients’ books are in order. “If their financial data isn’t good, it’s a huge impediment,” Marks said.
Gregerson’s firm puts clients on a monthly retainer. “We want them to commit to us every month that they are really interested in selling,” he said, indicating that some clients can get cold feet midway through discussions. “We tell the seller that we want to know everything about the company that might get them into trouble. Companies have a lot of blind spots.”
Before Greenwich Capital Group takes a client to market, the firm digs into the company and their competitive environment to try to understand the business they are representing. Recently, Coury dove into the financial analytics of a company that on the surface appeared to be worth $25 million. But after researching the business segments and the competitive landscape, his firm determined that by positioning the company differently, the entity could be worth $45 million. “You need to understand what you are really selling, what is going to motivate a buyer,” he noted.
After understanding their selling clients, all four firms delve into their personal or outside databases or reach out to known contacts to find buyers that could be a fit.
Trudeau does a lot of preliminary work, asking about suitors’ appetites for acquisitions, and their purchase histories, including the status of their last deals. Most buyers for his clients are strategic, though that can include private equity firms that own portfolio companies. “If they give us a description and it fits our client, they will be on our target list,” he said. His firm reviews hundreds of potential buyers per transaction, and then chooses about 50 to pursue. Given his firm is focused on the plastics industry, Trudeau knows most of the potential buyers because he’s been talking with them for years, he said.
After receiving at least 10 indications of interest, Trudeau’s firm creates a comparison grid for its client. Eventually, the firm chooses three to five buyer candidates, based on a potential fit, who then may submit a letter of intent. During the process dialogues take place with top suitors to understand their histories, and their plans if they were to acquire the client’s company. “What you’re looking for is certainty to close,” Trudeau said. If a business founder decides to stay with the new entity post-deal, the buyer will likely be a private equity firm, he noted. Today, Trudeau said he can figure out which acquisitive shoppers to avoid, how to remain in control during the sale process, and what information to share and when to share it — all of which is key in narrowing down the potential buyer list and protecting clients’ information.
Similarly, JANAS receives eight to 10 indications of interest per transaction, and then asks the client for input as to whom they like the best, Gregerson stated. His firm also reviews the track records of potential buyers (garnering employee input when possible), and whether or not these buyers have sued companies they’ve acquired in the past. “Many deals end up with some form of litigation,” he said.
Clients of High Rock Partners typically receive one to four good offers, after starting with up to 60 potential buyers. The firm divides up potential suitors into buyer groups, such as industry consolidators, or buyers looking for a complementary offering to what they already provide or produce. Marks also looks at potential buyers’ acquisition histories and whether or not they are strategic fits and have the funds to acquire, he said.
Greenwich Capital Group starts with about 100 to 150 potential buyers, typically a mix of private equity firms, family offices, and strategic suitors. “If we go to a broad section of the market, clients can make a more informed decision,” Coury said. His firm looks for buyers who can pay a premium valuation, who might be a good cultural fit with their client, and “who really needs this company and will get the deal done,” he added. Coury’s firm eventually whittles the buyer list down to four to six potential acquirers, who come in to meet with his clients and submit their offers.
Today — given the sheer number of buyers searching for deals, and the endless transaction possibilities — the most difficult and skilled part of the process may be managing clients. “You need to know what they want, what they are driving for,” Coury said. “And it’s going to change as they move forward.”