6 Mistakes Sellers Make During the Mergers and Acquisition Process

Planning fallacies, deal fatigue, overvaluations, using poorly crafted NDAs, failure to negotiate favourable terms in the LOI and purchase agreement… All spokes in the wheel for an acquisition, whether it’s a multi-billion pound merger or a takeover between smaller trade rivals.

The following is a list of 6 mistakes sellers make during the M&A process:

1. Falling victim to the “planning fallacy”

The “planning fallacy”, an infirmity of human psychology, is ubiquitous amongst first-time M&A transactors, who hope that a deal will be done and dusted within mere weeks. 

Typical timelines, however, can extend from 6 months through to 24 months, especially during times when buyer appetite is weak.

Preparation can also take longer than anticipated. Without even factoring in the human element of procrastination and indecision, there is the “financial spring-cleaning”, the compiling of relevant paperwork such as contracts, supplier and loan agreements, the preparation of valuations and the Information Memorandum, and buyer research and outreach.  

Negotiating Letters of Intent and Purchase Agreements can also be a lengthy process, especially if your legal counsel and other stakeholders are not acting with any sense of urgency. 

“The “planning fallacy”, an infirmity of human psychology, is ubiquitous amongst first-time M&A transactors, who hope that a deal will be done and dusted within mere weeks.”

2. Overvaluing your company

People, even financially-astute traders, tend to overvalue assets that they own. This cognitive bias, called the “endowment effect”, can negatively impact M&A deals by creating an expectation gap between the vendor and the prospective buyer.

And seasoned acquirers, such as private equity firms and large trade buyers, will be particularly deterred by an overinflated price tag.

Seeking a professional valuation will provide an independent and credible benchmark that will stand up to buyer scrutiny. An experienced adviser will be able to determine the best valuation methodology to use, drawing upon comparable transaction data and abstracting from the emotion.

“A cognitive bias, called the “endowment effect”, can negatively impact M&A deals by creating an expectation gap between the vendor and the prospective buyer.”

3. Not having a well-drafted NDA

While basic company details might not require an NDA during initial buyer outreach, extensive disclosure without one is ill-advised. A well-crafted M&A NDA protects the seller by preventing the potential buyer’s misappropriation of confidential information. An NDA can even impose non-solicitation covenants, prohibiting employee, customer or supplier poaching for a set timeframe if negotiations fall through.

In some cases, the most commercially sensitive information, such as the nitty-gritty of IP, margins and pricing, or key supplier and customer contract details, will be withheld until the very final stages.

“A well-crafted M&A NDA protects the seller by preventing the potential buyer’s misappropriation of confidential information.”

4. Rushing into a letter of intent without negotiating key terms

Sellers will forfeit leverage by rushing into a letter of intent (LOI) without negotiating key terms. Once a LOI is signed, a lot of the bargaining power will swing to the buyer, because an LOI will typically require a “no-shop” clause or exclusivity provision prohibiting the seller from engaging with other interested parties for a given period of time.

Other critical elements that will be negotiated in the LOI include price (cash, stock, or promissory notes), price adjustments (e.g. to account for employee issues or working capital adjustments at closing, or for a “cash free/debt free” deal), escrow details, and its duration.

“Once a LOI is signed, a lot of the bargaining power will swing to the buyer, because an LOI will typically require a “no-shop” clause or exclusivity provision.”

5. Failure to negotiate favourable terms in the purchase agreement

Draft a watertight acquisition agreement to minimise your potential liabilities and other complications after the sale. For example, ensure any escrow holdback for indemnification claims is reasonable, and if possible, avoid any downward adjustment mechanisms based on working capital adjustments or employee issues, etc.

The purchase agreement should also be clear on the nature of representations and warranties. A seller should prioritise strong qualifiers for their representations and warranties, particularly for intellectual property, financial data, and liabilities. Ideally, these qualifiers would be based on “materiality” and “knowledge.”

If there are earn-out provisions, ensure that they are based on realistic financial milestones and metrics that are less likely to be manipulated – for example, gross revenues over profit or EBITDA.

“Draft a watertight acquisition agreement to minimise your potential liabilities and other complications after the sale.”

6. Not hiring an experienced advisor

With an intimate knowledge of common M&A mistakes, an experienced corporate business broker like Hilton Smythe can bring a lot of value to the table.

With access to historic and recent SME transaction data, they can advise on comparable valuations, prepare confidential information memorandums, and surface prospective buyers. They can coordinate the signing of NDAs, assist sellers in properly populating online data rooms, and coordinate responses to buyer due diligence requests.

They can also advise on deal structuring that is favourable to the seller. For instance, buyers might prefer an asset sale to avoid inheriting the seller’s unknown liabilities. Conversely, sellers generally favour a share sale to avoid the potential double taxation on assets and income, and to sidestep the complexities of winding up the company’s remaining assets and liabilities.

“With an intimate knowledge of common M&A mistakes, an experienced corporate business broker like Hilton Smythe can bring a lot of value to the table.”