EXIT STRATEGIES: Reducing risks to the buyer

One objective you need to keep in mind throughout the exit process is to ‘make it work for the buyer’. One of the major tasks of the seller is to reduce risks to the buyer. This will include anything which exposes the buyer to potential liabilities as well as situations which cause the buyer to expend funds, time and effort to put the business into an effective and efficient situation.

The buyer will be interested in evaluating three aspects of the business before they decide to go ahead with a purchase:

• What are the inherent risks in the business being acquired?
• What issues will they have to deal with in the change of ownership?
• What costs, delays, problems and stresses will they experience in achieving their acquisition objectives.

The smart seller anticipates these aspects of the buyer’s evaluation and puts in place a program to reduce, eliminate or mitigate risks. They set out to ensure the change of ownership process is smooth and set the business up in such a way that it provides the best platform for the buyer to achieve their acquisition objectives.

Most large companies which have undertaken a number of acquisitions will have experienced acquisition disasters. These are often things they knew about going into the deal, but agreed to accept as part of the transaction. More often, however, there are things which are uncovered after the deal has been consummated and turn up progressively over time. The smart ones learn from their mistakes and have a rigorous due diligence process which they undertake prior to finalising the deal. They also have legal remedies and a project control system following the acquisition to manage surprises.

For the buyer, risks in the deal are anything which will cause delays in exploiting the business potential or opportunity. This includes anything which creates costs, reduces effectiveness or impacts on time to integrate the acquisition or to take advantage of the assets and capabilities acquired. Additional risks for the buyer are those things which require further investigation but were not able to be undertaken prior to the deal closing. Risks are both things which can be seen and things which cannot be seen. For example, an employee intellectual property (IP) agreement may show the firm owns all inventions from its employees. Missing signed IP agreements from past employees may, however, create a potential claim later on.

Observed risks:

• Non-standard customer contracts
• Non-standard supplier agreements
• Harsh lease conditions
• Loose IP agreements
• Overly generous reward and remuneration systems
• Generous options schemes
• Generous health or vacations benefits
• Poor reporting systems
• Harsh compliance requirements
• Out of date equipment or poor quality products

Missing information:

• Lack of clear IP ownership
• Lack of documented processes, procedures or instructions
• Unclear customer obligations
• Missing performance information
• Successes and failures not understood
• Information on cost structures or recurring revenue
• Data about sales process, sales cycles, closure rates
• Intentions of key employees

The acquiring firm undertakes the transaction to exploit the business potential, to solve their problem (threat) or to execute on an opportunity. To the extent that uncovered risks reduce their probable outcome or delays their time to execute, the value of the potential acquisition declines. In some cases, the potential or threat will go away or be reduced in potential impact through external events or because they uncover an alternative solution. Opportunities may decline with time or they may find another way of undertaking it. In almost all cases, the expiration of time is at the expense of the selling firm. Either the price will drop or the deal will go away.

Therefore, understanding potential risks to the buyer and resolving them prior to an acquisition deal is the best way of preparing a business for sale.

Tom McKaskill is a successful global serial entrepreneur, educator and author who is a world acknowledged authority on exit strategies and the former Richard Pratt Professor of Entrepreneurship, Australian Graduate School of Entrepreneurship, Swinburne University of Technology, Melbourne, Australia. A series of free eBooks for entrepreneurs and angel and VC investors can be found at his site here.