Most private equity firms are meritocracies. And merit is largely founded on investment success. We can improve the chances of investment success by paying lower multiples, commanding preference coupons, investing in favorable structures and making smart strategic decisions. But by far, investment success depends on the price when selling the business at exit (i.e negotiating multiples).
So, here are a few tips to getting the best exit price for your business:
The Buyer Pool
Financial buyers (e.g. private equity buyers) look mostly at cash flows and likely investment returns when you sell a business. Strategic buyers (e.g. competitors, customers and suppliers) look at synergies, strategic value and brand power. The conventional wisdom is that strategic buyers will pay more, and in most cases, that is true. But, don’t only focus on strategic buyers; keep financial buyers in the pool to increase competition and keep options open. Financial buyers regularly forgo rationality and become competitive too, especially when financing is as cheap as it is now.
Competition is good for bidding up prices when selling a business. But, competition can also deter financial buyers who don’t want to compete with strategic buyers on price. You should maintain ambiguity in the early stages of a sale process and allow buyers to become emotionally attached to the business before stirring competitive tension. Don’t be the real estate agent who announces there are hundred of interested parties. Some buyers will flatly pullout if you announce competition. (Be especially careful with other private equity buyers; they don’t like competition.) Irrespective of the buyer though, focus on the value above maintainable cash flows to elicit the best price when selling a business.
High price expectations can drive potential buyers away. But, low price expectations can set a psychological cap on the price. Again, be ambiguous at first, but aim to set a floor on the price early without actually naming a price. Talk about similar transactions and other subjective measures that help plant the seed for a higher price. This is difficult, but if you’re too ambiguous, buyers will justify a lower price in their own mind and find it hard to move upwards later. Communicate methodically and try not let anyone hasten you.
In the early stages, try to negotiate multiples, as it leaves more room for flexibility. If you set a price at $xm, you give the buyer power to manipulate the deal (e.g. around cash, inventory and debt levels) while maintaining the price at $xm. Sure, you can increase a price, but you want to avoid setting unnecessary psychological caps. However, if you find the buyer is fixated on paying a certain multiple or price, adapt and put your efforts into negotiating multiples and on inclusions.
With both metrics, multiple and price, there is a lot of room for manipulation. So, be prepared for various discussions about inclusions, which include fixed assets, cash at bank, EBITDA normalisations, working captial adjustments etc. Understand these subjective factors before talking to buyers and make sure your arguments are rational. Also, make sure you keep a few bargaining chips up your sleeve.
Above all, maintain your integrity, be friendly, be honest, but remember, this is a once in a life time opportunity, so don’t be overly generous. However, if you’re too tough and manage to get an unfair price, you may benefit now, but you may also witness repercussions later. As a private equiteer, you already have more than most, so don’t take unsophisticated buyers (in a transactional sense) for a ride. Keep your spine, be decent, be one of the good guys. This is a controversial point, but I stand by it.
There’s much more to negotiations, but these are the points I thought especially salient for private equity.