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Achieving a Premium Price During A Recession
By: George Spilka
Posted: September 5, 2008, from the September 2008 issue of GCI Magazine.
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A CEO of a leading international distributor was asked whether his company would continue its aggressive acquisition program despite the need to effectively integrate prior acquisitions. His answer was that acquisition opportunities must be taken advantage of when they are available, or the opportunity may be lost forever. And his answer should be noted by potential sellers, to whom the implication is that, if acquirers have a real interest in acquiring your company, they will pursue the deal when they feel they must in order to not lose the opportunity. This type of motivated acquirer will pay a reasonable but aggressive premium price at the time you want to sell, even if that is during a recession.
Acquirers do not reduce their acquisitive drive during a recession, and, in fact, many will use the downturn as leverage to gain the terms to their benefit. Unfortunately, most selling owners concede to the demands of these acquirers, and accept the premise that the acquirer must be protected against an earnings shortfall during the downturn without demanding that they receive additional value for the increased earnings that will ensue when economic conditions improve—forgetting that middle market deal pricing should be a predictive indicator.
Experience, again, indicates, that this leveraging strategy will falter with a hard stand by the seller. During the downturn of 2001–02, for example, I did not discount the price of any selling client and managed to consummate three deals at strong prices. During the 18-month period of the significant recession of 1991–92, I consummated six deals at premium prices and for 100% cash. The key is defending your position as a seller and negotiating from a strength.
Bottom line: Unless personal needs and considerations overwhelmingly dictate otherwise, never sell until a premium price is offered. There should be no deviation from this rule in otherwise difficult economic conditions. You only sell your company once; if there is initial price resistance from acquirers, sit tight. If your advisor knows value and has properly established the premium price, you will eventually obtain your price.
Patience and Progression
Except for companies in industries with major structural problems (such as home building) or firms with company-specific problems such as a significant weakness in its long-term business fundamentals, there is no reason for a company not to proceed to the market during a recession. And, if you are not successful in consummating a sale during the recession, there are still numerous benefits from having gone to the market at that time. Once you start the sale process, the acquirers that are initially contacted will be aware that you are interested in selling your company at a premium price. Even if they reject the acquisition, they will now be aware that your company can be acquired. Correspondingly, if their needs change and they later perceive your company as an opportunistic way to grow, they will be able to quickly make contact with you.
Many novices believe there is a negative price impact if a company has been for sale for an extended period of time. This, however, is not the case. When a middle market company indicates it is willing to sell at a reasonably aggressive, premium price, it is not unusual for many acquirers to be skeptical of the seller’s resolve and ability to accomplish that. They believe that if the seller isn’t initially successful, it will lower its pricing expectations. Sellers that don’t reduce their price expectations after meeting initial market resistance make it known that their resolve is unbreakable. They then realize the only way to buy the company is by paying a premium price.
If you are initially unsuccessful in obtaining a premium price for your company during a recession, take it as an opportunity to allow your advisor to strengthen your long-term business fundamentals. As previously stated, the true value of a company is based on its expected future earnings and the risk in achieving those earnings from the business foundation given an acquirer. The business foundation is basically the long-term business fundamentals of the company, and these fundamentals include such things as the strength and protection of its market niche, the scope of its market presence, the breadth and depth of its customer base, the efficiency and cost effectiveness of its production and/or warehousing operations, the capabilities and depth of its management team, and its ability to take advantage of future growth opportunities.
To the extent these fundamentals are strong and position a company for growth and limit its downside risk, the multiple an acquirer will pay for any level of earnings should tend to be higher than it would otherwise be. Once fundamentals are evaluated, they’ll guide you in establishing a program to strengthen them. You can then implement this program before reinstituting the active marketing of your company and eventually increase earnings while reducing the threats to and volatility of future earnings—fortifying your ability to sustain an increased transaction price.