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What you should do when PE firm offers to buy your business: Part 3

David Kaufman Nathan Viehl September 9, 2019

If you own a successful privately held business, then it is likely you have received a call from a private equity firm telling you that they have specifically targeted you and want to buy your business. You have heard now is a good or even great time to sell. The price they offer seems reasonable or even good. They tell you that they pay cash and can get it done quietly. “It will be quick, easy and fast. No need to shop the deal or talk to your lawyer, of course. We do this all of the time.” What should you do?

In this three-part series of articles, we will offer nine tips on how to navigate these situations. In Part 1, we explained what you can do after the offer is received. In Part 2, explained how to educate yourself about the business market. In Part 3, we explain how to create leverage and conduct general housekeeping to prepare for a transaction.

7. Create and maximize leverage prior to exclusivity

You can create and use leverage by creating a sales or auction process for your business or assuring that the private equity firm believes that there is an actual competitive sales process. Any actual or perceived process can help cool a private equity firm’s more aggressive instincts and shorten exclusivity requirements by reminding any bidder that you have numerous alternative options to pursue. Always be conscious that time is the enemy to any potential deal because market changes or other adverse events like a lost customer can intervene and derail any transaction. The more urgency you can create up front will reap benefits after you enter into a letter of intent or term sheet.

All private equity firms will require an “exclusivity period” that starts after your term sheet or letter of intent is signed. This is a period of time during which you cannot solicit, encourage or entertain offers from other potential bidders. Even if the seller agrees to a shortened exclusivity period, we like to increase the leverage and create a “check in” point so if after 30 exclusive days the deal is not closed, exclusivity does not automatically extend. Exclusivity should ONLY extend if the private equity buyer is making substantial progress and the seller affirmatively confirms that progress.  Otherwise exclusivity expires and the seller is free to talk to anyone they want. Even the threat of that possible “walk” frequently compels buyers to act.

8. Corporate housekeeping

One often overlooked area that can derail a deal or make it more expensive is confirmation that your house is in order. Any careful acquirer will conduct a “due diligence” review of your legal infrastructure.

  • For example, does your company have the form of entity that can maximize the selling price? An S corporation may require a more complex structure than a limited liability company. Your corporate and tax lawyers can review the form of entity to make sure it is “buyer compatible.”

  • Examine if all of the “partners” in the business are aligned for a sale. Review the agreement between the partners to ascertain if these rights are carefully delineated for a contemplated sale and determine which of your partners you need to have on board. Assess if the agreement outlines how a sale is conducted.

  • Review all of your contracts to confirm that you have signed copies which reflect the current terms. Are there opportunities to renegotiate material terms to get better pricing?

  • Confirm that all employment or compensation contracts are in writing, including any confidentiality, work-for-hire or assignment of invention agreements. Check that all employees are properly classified as exempt or no-exempt. Confirm that all workers are properly classified as employees or independent contractors.

  • Does the business pay taxes in the states where it is required?

These housekeeping items are important. One deal of ours was scuttled after the private equity firm buyer found a misstatement on the resume of one of the owners. Private equity firms believe that a disorganized operation often reflects that a company is not in compliance or does not take care of the details. This will signal to the private equity firm that there may be more “skeletons in the closet.” If an issue arises while the transaction is being negotiated, it can lead to other larger problems, including a price reduction or even a broken deal.

The ideal time to fix things is before you get that call to sell. Once that call is received, you need to prioritize fixing these items as it may already be too late or too time consuming to fix some of these structural weaknesses.

9. Personal housekeeping

Similarly, while reviewing the corporate features of your business, any successful business person needs to assess their own personal situation. Any competent estate planning attorney can aid in determining if gifting shares in the company to your children for example can save taxes while providing other estate planning advantages. Others may contemplate fulfilling a prior gift commitment to a charity or university with shares of stock in a successful business. Business owners often consider donating securities in these entities before consummating a transaction.

There may still be time to make tax-advantaged gifts. Review your situation with your estate planning and financial advisor to determine if there are other methods to maximize the after-tax proceeds of any transaction both for your own wallet and for the causes you believe in. They can also assist you in connection with carefully investing your transaction proceeds and making sure your house is order once you get that hard-earned wire transfer at closing.

Careful advanced planning and strategizing often is the difference between closed successful transactions and all others.

David J. Kaufman and Nathan Viehl are members of Thompson Coburn’s Corporate Finance & Securities practice.