In Part 1 of this series, I discussed the first misconception of M&A: the importance of your investment banker knowing a lot of buyers. I will now delve into the second misconception: the value of industry experience.
Misconception: Having Industry Experience Is Vital
As with knowing a lot of buyers, industry experience is certainly not a negative, but it is not the “end all be all” either. Why do we think industry experience is so important? Because it will somehow lead to a better deal? A higher valuation? A quicker close?
Think about it. What special insight is learned from selling, say, a distributor of HVAC equipment versus selling a manufacturer of car parts? What tangible bit of extra intel will be picked up from selling a food processor versus selling a marketing services company?
The answer: Not much.
The steps and processes to sell companies are pretty much the same regardless of the company being sold. Scratch that. The steps and processes are exactly the same. When contemplating hiring an investment banker, the industry of experience that is most important is the industry of M&A. In other words, the business of selling a business is the most important factor.
Reality: 'Clearing the Market' Is Far More Important Than Industry Experience
“Clearing the market” means communicating with every viable buyer and ascertaining their interest level. That is done through careful and thoughtful preparation, high quality materials and running an orderly process. The M&A process, and how well an investment banker can run it, is what creates value.
First, a good investment banker will never put an “ask price” in the materials. Second, buyers are easy to find and contact. Third, buyers will make the initial offer. Having the buyer start the bidding process reduces the chances of leaving money on the table. And fourth, running a process means having multiple potential buyers active and involved. Having multiple buyers is a check against a “random sample of one” making a low-ball offer. Being contacted by an investment banker is a signal that a process is ongoing. Interested buyers will know they will have to make a competitive bid if they want to have a chance to win the process.
In other words, an investment banker doesn’t need copious amounts of work in a granularly specific industry in order to extract the best price and terms for the client. In fact, industry experience in and of itself is not a guarantor of good results. How much work did the investment banker really do?
Let me give you an example:
Years ago, I was doing buy side work for a client. As I was making calls to the companies of interest to the client, I left a message for the owner of a company in Charlotte. Unbeknownst to me, this particular owner recently hired a business broker to sell the company. The owner thought the broker was doing a great job because, as he later put it, “I hired this broker and the next day a really nice Yankee from Chicago called me and wanted to buy the company!”
The timing of my call was mere coincidence, of course. The broker didn’t contact me. My client wasn’t on the broker’s list of possible buyers. That means the broker did a poor job of preparation. Worse, the materials the broker put together were amateurish and weak. And even worse, the broker never attended meetings with his client.
The negotiations were very difficult; both sides balked numerous times. My client threw his hands up in frustration and walked away; and just as I was able to get them to reconsider a deal, the seller threw his hands up in frustration and walked away. I spoke directly with the seller and brought him back to the bargaining table. The broker was not involved in those calls.
I tried numerous deal structures before finally finding one that both sides found acceptable. We eventually closed a deal. The broker was AWOL throughout the entire process. But guess what? That broker is able to now claim “industry experience.”
So again I ask, "What insight is learned?"
Instead of asking, “Have you done a lot of deals like mine?” business owners and executives should ask the investment banker about their process.
In the upcoming Part 3 of this series, I will examine the phenomenon of magic words.