The Exclusive Negotiations Fallacy
It is a common fallacy that an exclusively negotiated deal is faster, easier and quieter than a structured process. In reality, the acquirer with exclusivity rarely moves with urgency, often extending due diligence and dramatically reducing the likelihood of closing at the agreed price, if at all.
Timing, Risk and Competition: A Balancing Act
We often hear business owners say, “A competitor just approached me about buying my business. I’ll just sit down with him and cut a deal.” The assumption is that this approach will be quick, easy and quiet. It rarely works out that way. Although successful transactions ultimately close with a single buyer (and are, hence, exclusive), only under unusual circumstances is it a best practice to begin the process while entertaining only one potential buyer.
Why? The moment a buyer gains exclusive access to your business, most of your negotiating leverage as a seller is lost, leaving few unappealing alternatives to transacting with that party. It’s nearly impossible to create the perception of competition and urgency in the absence of alternative bidders.
When you face pressure from bidders for favored access, it can be difficult deciding when to grant exclusivity. The goal is to balance the sharing of risk between you and your potential acquirer. This is delicate; if you grant exclusive access prematurely, you place yourself in a vulnerable position and open yourself to a number of risks. If you grant it too late, however, your interested buyer might disengage because they perceive their completion risk to be too high.
Granting exclusivity at the right time is essential. Only in the most unusual circumstance does an exclusive negotiation from the outset serve your best interests. With few exceptions, it will prolong the transaction and make your business vulnerable to risk. Let’s discuss both of these concerns in detail.
Exclusive Negotiations Prolong the M&A Process
When you only entertain one potential acquirer, there is no sense of urgency for the buyer to act quickly and secure the sale. As a result, acquirers who fail to perceive any competition often benefit from an extended sale process. Extended market exposure leaves your business vulnerable to a number of implications, such as persistent requests for proprietary internal information and negative revisions to original terms.
Our experience has shown that the fastest process, from launch to close, is one where:
- The business is well-prepared for acquirer due diligence.
- There is competitive tension between acquirers (or at least the perception of competition).
- Acquirers are managed through a structured process.
While exclusive transactions do not preclude your preparedness for the acquirer’s due diligence, creating urgency and enforcing process discipline is much more challenging.
Exclusive Negotiations Increase Your Risk
Our article, "The Window of Vulnerability in an M&A Transaction," described that period of time from initial contact with a potential buyer and the closing of the sale that is inevitable in every sale process. The risks inherent during this period, which are explored further in the "due diligence grind," can be minimized, but they cannot be eliminated completely. The three risk categories are:
- Completion risk,
- Valuation risk; and
- Business risk
The most effective antidotes for these risks are: pre-launch preparations, competitive tension, setting and enforcing deadlines and weeding out less serious parties. Each of these tools is foregone to varying degrees in an exclusive negotiation.
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The implications are that exclusive processes run longer, are susceptible to information leaks, expose the seller to the due diligence grind, and are typically a surrender of process control to the acquirer.
One example we see all too often is the seller compelled to continually provide updated financial and other business performance information on a rolling basis as the initial information provided goes stale. The discussion sounds like this, “Thanks for the year-end results. Given that it’s already April 18th, we’re curious how your first quarter went. How soon can you get those to us?” This death by a thousand cuts often continues: “Thanks for those first quarter results. Given that it’s now May 6th, could you send us the April results?” And on it goes…
The mounting pressure to keep the interest of the sole bidder by urgently responding to uncontrolled, ad hoc requests places a significant demand on the business’ resources. The distraction to the team often impacts the operating performance of the business. Needless to say, deteriorating business performance during due diligence rarely works out well for the seller.
Multiple Bidders Are Not Enough
A more perilous variation on the exclusive negotiation trap is to run through a serial process where the seller tries to close a deal with a succession of potential bidders, moving on to the next potential buyer as negotiations with the prior bidder break down. This unfortunate progression is all too common.
This approach projects weakness and inexperience to the potential buyer, while perpetuating the window of vulnerability and all its inherent risks. What’s worse is that it’s difficult to re-engage those potential bidders that have had a bite at the apple if it is later decided that an advisor should be hired to run a structured sale process. Any prior failed process taints all potential bidders who were involved, limiting future options.
Written by Paris Aden
Paris Aden is the founding Partner of Valitas Capital Partners. Since 1994, he has been involved with more than 100 M&A transactions with an aggregate value exceeding $80 billion. He has advised clients at Morgan Stanley, Credit Suisse First Boston and RBC Capital Markets and has acted as a private equity investor at Clairvest Group where he served on portfolio company boards.
Paris was also a co-founder of Alluence Capital Advisors, a mid-market M&A advisory boutique that focuses on cross-border transactions.