August Webinar
Deal Disasters versus Optimal Outcomes
August 4, 2011
INTRO and MARKET OVERVIEW
Ward Carter
Thank you for joining us and welcome to our August 2011 webinar. I'm Ward Carter, chairman of the Corum Group, speaking to you from our headquarters here in Seattle, Washington. You are part of over 225 software and technology executives from over 25 countries who have registered for this event today.
Here is our agenda for the next 60 minutes. We will start with a market overview, we will hear about a recent Corum event, where clients of ours who recently closed join us for fishing in Northern Canada. We have a special guest speaker with an update on the recent Casual Gaming conference, and we will hear about deal disasters from a number of the Corum dealmakers. Corum's research department will report on technology deals and valuations in the software and tech sectors. We will cover the Top Ten deal killers, plus ways to achieve an optimum outcome to your M&A objectives.
We also have several software executive guest speakers with fascinating stories that I think you will find of great interest. In addition, we have 15 Corum staff members from our offices all over the globe to contribute during the sessions.
At the end of the session we will be open for Q&A.
With that, I'll turn the floor over to Corum's founder and CEO, Bruce Milne.
Bruce Milne
Thanks, Ward. We have a record number of presenters, so I'll move quickly today. Globally, we're playing kind of whack-a-mole with problems ranging from inflation in Asia to sovereign debt problems in Europe to our deficit issues here in the US and all kinds of currency issues around the world.
In Asia, their currencies are strengthening, as the Euro and the US dollar come under attack. Chinese industrial output is up, obviously, there is still concern about inflation and the housing curves there.
In Europe, there's a lot of news. One of the big things is that the Swiss Franc, which for a while was following the Canadian dollar in parity, and then they just kind of raced away from everything, spiking at about $1.30 US, which is just extraordinary.
UK manufacturing is increasing at its fastest pace, and then we just saw where it got cut back. Ernst and Young was saying that the UK economic outlook is cut.
Spain is in the danger zone, stocks are down by about 8.9%. It is interesting, gold coins in Lisbon, people are selling out! It's a concern, because not only do they have their own debt issues, they are worried about the Euro overall.
This morning, the MSCI World Equities index was 10% off their May highs.
However, as a positive, German factory owners came in this morning with a surprising June uptick.
In the US, orders for durables fell in June, consumer spending fell in June as well. That was the big headline two days ago that dropped the market 266 points. Today the market has been down as much as 300 or more.
The US economy in short is vulnerable. Wholesale prices fell, US auto sales have stalled, we're seeing a lot of things that are pointing at the potential of a recession again.
Jobless claims in the US fell to a three-month low. American Express boosted their net income on record card spending. Is that good because consumers are up or is it bad because we're incurring too much debt? Who knows.
One of the major financial indicators is container ships. Their rates have plunged, almost all container ships right now are running at a loss. This is one of the things that we have to look at, because it was one of the key indicators of the last recession.
State and local cutbacks are starting to hit the US badly in growth, they are trying to pump up federal spending, but we're being hit at the more local levels.
The manufacturing index has fallen to a two-year low.
In terms of finance, real estate and commodities, we may lose our US AAA rating, we haven't gotten anywhere near through the US' foreclosures. Existing home sales did rise in June, though. We're kind of back logged in the whole foreclosure business because of a paperwork backup. There is a lot of properties out there that have to be foreclosed.
We had the biggest drop on the S&P 500 since July, 2010, the last few days will probably give us some record down numbers. Gold is hitting a record, as the go-to asset globally. It has risen to a record run since 1980, gold, gold, gold!
North Sea oil drilling has fallen to a 9-year low amid some tax issues and demand.
Patents continue to dominate tech headlines. In mobile, Apple has overtaken Nokia as the biggest smartphone maker, which is no big surprise. Google acquired inventions from IBM as it faces increasing patent litigation. Nokia's debt was cut two grades, so we're seeing a lot of issues with patents.
A Google lawyer has said that patents are holding up innovation. HTC shares fell after the ITC ruling on Apple patents, and Apple patent suits have put Samsung on hold in Australia. There's a case where they're using patents to stop a competitor from selling in a country.
Now we reach technology. Amazon is challenging Netflix and Hulu and boosting their rivalry on the CBS deal. Kodak is exploring options. They are a wealth, a treasure trove of patents, and it will be interesting to see what happens with them.
Intel has seen quarterly sales beating estimates, which is good news. Apple, Google and Samsung are among the companies sizing up InterDigital offers, they're saying that could be a monster deal.
Moving on, I'd like to bring in Nat Burgess to talk about Langara, where we recently took our clients to celebrate. Nat?
Nat Burgess
Thanks, Bruce. This is Nat Burgess, president of Corum. We're talking about some pretty negative financial data, but imagine having cash in your pocket today and going after real estate or other assets. We took a bunch of our clients fishing, up in the Northern Queen Charlottes two weeks ago. This is a 25-year tradition of taking clients out and celebrating the closing of their transactions. On the monthlies, we talk about statistics, trends, and strategies, but we're bringing you this fishing update as a reminder that there is life after the deal, and it is good!
We spent four days on the open Pacific Ocean with humpback whales swimming by, eagles circling, and sea lions dotting the shoreline. With exceptional weather and good fishing for all, it was fantastic trip and a great chance to spend time with these CEOs in a more relaxed environment. On the last day we gathered for a group photo on the dock, which you see here. We have CEOs from Sweden, Canada, the UK, the US, now working for companies like Google. They were able to take a long weekend and spend time with us out in the boats catching fish and thinking about their next companies.
Bruce Milne
Thanks, Nat, that was a great trip. It was the best fishing we've had in a decade. Speaking of fishing, I'd like to turn to the best fisherman I know. He's the guy who taught me how to fly fish, Mario Vassaux. Mario was a client nearly 20 years ago. He is one of the leading technologists and serial entrepreneurs in the gaming field. He has a report for us as a representative of the World Technology Council, Corum's advisory board. Mario?
CASUAL GAMING REPORT
Mario Vassaux
Thank you, Bruce. This year's Casual Connect conference in Seattle was probably 0one of the best video game industry shows that I've attended in a while. The show was put on by the Casual Gaming Association and that has been running for six years with around 3,000 in attendance. This industry is really the up and coming side of the games industry. It entertains 300 million people each month, basically through social games, mobile, and web games.
The show brought together indie developers, publishers from small to huge, and also service providers including folks like Amazon. The show, in my estimation, created a very good atmosphere, not only for education but also for networking and business development.
The underlying buzz and excitement at the show was really boosted by the word on the street about Zynga's upcoming IPO and recent M&A activity and consolidation in the industry, notably PopCap's acquisition by EA. The continuing success of social and mobile games has really opened up the doors to many indie game developers and newcomers to the industry. From my point of view this is the foot in the door to a very exciting industry.
Other hot topics and industry trends that were discussed included key terms like “gamification” which is the use of game methodology to convey information, marketing, or brand. There were a number of ad agencies and other companies that are outside the industry that are starting to use those terms.
The big one from the financial side is the use of the freemium model and its success in games where the game is free but in-game purchasing, virtual goods, and game updates are the new economic model.
Two of the sessions that I attended that were the best, in my opinion, included the first presentation by the CEO of Rovio, the maker of Angry Birds, and he really impressed the audience. That game has surpassed 250 million downloads and it is well on its way to half a billion downloads by the end of the year. The second session that was very encouraging was Tim Chang from NorWest Venture Partners, who gave a very positive perspective from the VC point of view and basically surmised by saying that there are a lot of opportunities, not just in M&A but for investment both on the development side and on the development of publishing tools and services.
All in all, I think it was one of the best shows I've attended. I think it surpassed the Game Developers Conference. Ten years ago maybe that was of the same caliber, but it has fallen into the same category in my mind as E3, where there is a lot clutter, a lot of noise, and not that much actually gets done. In summary, I think the social game area is the place to be and so was this show.
DEAL DISASTERS
Bruce Milne
Thanks, Mario, great report. Let's move on to deal disasters. This topic actually came up at a Selling Up Selling Out conference in London. One of our guests asked why we haven't written a book on our deal disasters.
The first presentation we have, we're going far east here, Frank was trying to dial in from the Czech Republic, and we lost his connection. I've asked each of our deal makers around the world to talk about a disaster. Frank recalled one about two owners of a European company that missed their window to sell due to constant delays. They had been in touch with him through conferences for years. They finally approached Corum to formally sell them. There was clearly activity in their space, we were getting offers for related companies, and we mutually agreed that the window of opportunity for them to sell was closing up. The sector was consolidation, there were bigger, tougher competitors. Even though they understood this, they delayed as if they had all the time in the world. When they finally did go to the market, they just fell in, they unexpectedly filed bankruptcy. The chance to sell, the chance to realize their dream was gone and today they're working for other companies. So the lesson here is about timing. There is a window of opportrunity for so many of you, and when it consolidates that window is not only gone, but you have competitors who can drive you out of business.
Let's move to John Melotte in London.
John Melotte
I co-founded my first software business with four colleagues. We grew the company to 70 staff, with offices in Europe, South Africa, and an agent in Australia. Progress was good. Discussion was about how to grow an expand. Out of the blue to the other four directors the chairman announced that he had decided that we ought to sell and he had approached a friend who ran a larger company that would buy us. Two of us did not want to sell. It was too rushed, it was too soon, and we had not prepared. Two other shareholders were willing to sell, looking to retire. One changed his mind from day to day. The board became dysfunctional as we argued about whether we should or should not sell. Fortunately, we were able to agree to a common position before there was nothing left to sell. It was a close run thing and it was sad that our relationship with the chairman fell apart like this. Back to you, Bruce.
Bruce Milne
Thank you. Let's move on to Miro Parizek in Europe. He is also traveling. He has an interesting story to tell.
Miro Parizek
Hi, I'm Miro in Munich, and I'm Corum's international managing director. A deal disaster I wanted to share involved a European company that wanted to sell off a non-core IT services asset. It owned 51%. The division management, 49%, and looked forward to a new parent with a strategic fit. We found the perfect buyer for this small division for a great price of 10 million, 60% in cash at close, 40% over a two year earnout. After signing the LOI, the corporate CEO stated, “well, we won’t have anything to do with the future (hence, the earn out), so we’ll take our 51% from the cash at close.” He wanted almost all of the cash, 5.1 million, and to leave management with only $900 thousand plus all of the earn out. Obviously, division management felt this was completely unfair, and it was. The CEO would not modify to a more reasonable position, so the deal broke down. Many of the top people, disillusioned with the CEO, since left the business, which is now consistently losing money and unsellable.
Bruce Milne
That's great. Miro was also involved in a $50 million transaction where the investors would not back off their preferences and a similar situation happened, although that had a happier ending. Let's move across the Atlantic to Bruce Lazenby.
Bruce Lazenby
In my disaster story, Corum was approached by a seller who had the basis of an offer already in hand from a privately-held buyer. In this case they wanted to see if it was a good offer. Our valuation experts report showed that the offer was VERY good, our analysts came back and said maybe it was even too good, that there would likely not be other offers close to it—but the board insisted, so we did a global search for other offers. Sure enough, no one else came close. During our research, we found that the buyer had no history of buying, likely didn’t have enough cash on hand, and it was unclear that they had access to financing to do the transaction. The seller was convinced by the buying CEO that he had the needed board support and financing. We expressed concerns, encouraged face-to-face board level contact, but the buying CEO refused. Despite that unwillingness, the seller was undeterred and wanted to move ahead with the contract process and related expenses, including lawyers, accountants, and staff for due diligence. Then, after months of distraction, thousands in expenses, the buyer just went quiet. The deal fell apart.
Like your mother told you: “If it's too good to be true, it probably is” Make sure you do your due diligence on the buyer.
Bruce Milne
There is some wisdom there. Let's move southwest to Jeff Brown, down in Texas.
Jeff Brown
My deal disaster involves a public company subsidiary. This sale was being managed by an attorney and member of the Board of Directors of the parent. His ego and lack of understanding of the nuances of sell side destroyed the deal.
The software company had become a leader in its vertical market and had attracted several good bids. The best came from a private equity firm wanting the company as a platform for further acquisitions, and it was an all cash deal at a valuation well beyond our expectations. Unfortunately, this board member's inability to grasp the big picture and make even small concessions to get the deal done had a major impact. His ego created unnecessary hurdles and severely tested the buyer’s patience. Consequently we spent far too much time in due diligence and negotiating the definitive agreement. The transaction fell apart one week from closing after the CEO, distracted by the deal, missed his forecast. This became the buyer’s excuse to walk. In truth, the buyer/seller relationship was filled with frustration and mistrust and was so broken it could not be repaired. It took four more years and two more failed transactions before the company was eventually sold at a significantly discounted valuation.
Bruce Milne
That's good stuff. If you build a good relationship, they may stay with you if you have some hitches in earning or some unexpected problems that come up, but not if you have wrecked the relationship. We'll now move to Bill Montgomery. He was hoping to dial in, so we'll tell his story.
He basically has more experience than anyone here, and what he told me to tell you was that it was an October Friday. A very good deal amounting to about $4M cash and $3M in shares of a publically traded stock was ready for signatures. The market crashed taking the buyer’s stock with it. To get to $3M in share value the buyer had to give up many more shares. They didn’t want to and offered the number of shares they originally planned. The shares were worth a lot less and the seller said absolutely no to what was actually a good deal. The deal was dead.
The lesson is that not bad stuff happens. The lesson is, sometimes you must ignore to what might have been and focus on reality. The seller’s company was struggling and there were no other buyers. They later merged with a privately held competitor about 18 months later at a fraction of the previous value. Again, a timing window and we're seeing that now. There are still great deals out there happening even with a fluctuating market.
Moving on to Ward.
Ward Carter
In our minds, any deal that fails to close could be called a disaster. The worst are those that really should have closed, were close to closing, and failed to close for all the wrong reasons. We had significant buyer interest in a client company, with strong offers from highly qualified strategic buyers. What ultimately caused the transaction to fall apart was not a collapse of the markets, or faulty financials or due diligence issues. Unfortunately, what killed the deal was the cockiness and arrogance displayed by the Founder/CEO and his hired gun president. They loved playing off each other’s egos, and their gamesmanship in meetings with buyers eventually undermined our efforts. In effect, their behavior created a culture clash with the buyers at the very highest executive level. What could have been a significant transaction vanished only a week before it was due to close, and with changing markets, the company’s fortunes have never recovered. The conclusion is that you need to take advantage of the moment, as the opportunity may never resurface.
Bruce Milne
Thanks, Ward, that kind of reinforces what Jeff said, sometimes personalities and egos get in the way, not only within management, but at the board level and with outside professionals you have to reign that in.
We'll move on to Elon Gasper, who is part of our directory advisory board, but who is also a part of Corum.
Elon Gasper
Bruce, my deal disaster involves a company not unlike my own firm Bright Star, smaller, but with an extensive patent portfolio. Its board was controlled by VCs. As president they had just brought on a marketing guy they’d hastily promoted, who was very inexperienced. They needed a partner for long term funding and distribution of the technology, and asked Corum to help. Corum found them a good offer. After the LOI was signed, the buyer took the president aside and handed him an agreement for distribution saying it was standard procedure as they were going to be selling the company’s product during what was to be protracted due diligence on the patents. The new president naively signed it on the spot without legal review, board review or even talking to us. It turned out to contain an enduring exclusivity arrangement. Now, the buyer didn’t need to purchase the company. They had the milk, why buy the cow? Buyers will often try to pin down distribution or source code rights, instead of buying you. Next, of course, the buyer tried to cancel the LOI. In this case we were able to help the board prove that the president didn’t have the authority to sign the distribution agreement. The president was fired, the company was sold.
Bruce Milne
That's a great story. Now, with patents, we're seeing the due diligence stretch out. A couple of notes on strategies and tactics. The serial negotiating from buyers where they continue to negotiate points without putting everything on the table, be very careful. They are experienced and you are not and they are trying to get the milk without buying the cow. It is a classic negotiation technique.
Let's move on to Jon Scott.
Jon Scott
I wanted to point out a deal I had been involved in with dissident shareholders. Be on the lookout for disgruntled or dissident shareholders, even small ones. I was involved with a deal where we shopped the company very thoroughly and kept key shareholders informed on the process. When the letter of intent was signed, a few of the minority shareholders got together and said they were going to oppose the deal unless the preferred investors paid more out of the preferred consideration to them. They even wanted management who were receiving transaction bonuses to participate in this payout with reduced awards. Even though they couldn’t stop the deal legally, the buyer wanted 95% of the shareholders to vote in favor. We fought with the dissident group and stood our ground but the deal almost died several times. The dissidents ended up not showing up for the shareholders meeting to vote and the deal went through. My advise here it watch out for contrary shareholders and to keep an eye on who may cause you trouble.
Bruce Milne
Thanks, Jon. Ward has a story about a huge deal where he had to close around the dissidents. They can be a problem. We're going to close with Nat's story on deal disasters, one of the most extraordinary I've ever seen.
Nat Burgess
Thanks, Bruce. We had so much fun fishing up in Alaska that I'm going to make an analogy here. If you're out with an experienced fisherman at the end of the season and the biggest fish are running 30 pounds, and you have one on the hook, do you cut it loose and hope for a 50-pounder or do you bring it in the boat?
My client was a foreign $6 million revenue company that was doubling in a red-hot market. When we discussed valuations in the past, they had told me they would sell for $30 million. I brought a $60 million offer. Unfortunately, my client had heard about another local entrepreneur who had sold for $100 million and he thought he should too, ignoring the realities of the market. He completely overestimated his leverage. I counseled him strongly against countering at such an unsupportable price for two weeks, but he insisted that I go back and ask for $110 million. The client lost all credibility with the buyer, who bought someone else, the hype died, and the client lost his opportunity. He is still in business and doing about $10 million a year in revenue, would be lucky to get $15 million for the company. A far cry from the $60 million he and his wife were offered. This is really a reminder that these windows open, you take advantage of them and act pragmatically for an optimal outcome, and we will talk about that a little bit later.
Bruce Milne
Yeah, Nat and I will come back and summarize how to keep disasters and destroyers from affecting you. Let's go now to the Corum M&A update with Dougan and Amber.
CORUM INDEX UPDATE
Dougan Milne
Some really great stories in there and also some really painful ones. Thanks for sharing that. I'm Dougan Milne, VP of research. I'm joined today by one of our senior analysts, Amber Stoner.
Last month we presented the mid-year update, the whole spectrum of our research including the breakdown of our 26 subsectors. So, today we'll go into a little less depth, but if you have questions about your specific market and where your company may fit in the value chain of that market, we are more than happy to take your questions by email, phone, etc.
We'll start out with the public equity markets, tracking percentage change since the beginning of the year. Certainly the name of the game has been volatility. We have seen a number of companies out there with steady and positive performance, but these past few weeks, between the meltdown in Europe, the shifts in the Asian economies and really the blatant negligence by our own government regarding debt decisions, markets as a whole have been in a tailspin.
As we look to the Corum Index for answers, despite it all, tech M&A has maintained a healthy pace. June had a bit of a slump, but we're back in the game for July. Transaction volume is up about 20% year over year from 2010.
The number of megadeals, those over $1 billion, didn't move much, but we did see a lot of deals this past month sitting in that $750-900 million space, and they were running at really strong valuations as well. So, we're comfortable with that.
Amber, talk to us a little bit about what we've seen in some of these megadeals.
Amber Stoner
Yes, Dougan, you're right, the biggest megadeal we saw was one that we mentioned last month, Providence Equity acquiring and taking private, Blackboard, which was the last remaining leader in the pubic software centric education space. Also, NCR acquired Radiant Systems in a $1.2 billion deal which will allow NCR to establish category leadership in the hospitality and specialty retail markets. That $3 billion that we say last July was NTP's acquisition of Dimension Data in the IT Services space.
Dougan Milne
Going back to your comments about the activity levels in PE and taking a lot of those public companies private, we see that even since last year those PE firms have been a strong competitive force against traditional strategic buyers, PE deals way up year over year, and likewise venture capitalists have been trying to cash out during this M&A surge. They have been doing a pretty good job of that. Again, VC-backed exits are up substantially as well.
We move on to the first of our six broad markets, looking at the Horizontal space. There has been a slight hit to the public trading multiple. Amber, what do we have here?
Amber Stoner
Yeah, we have a slight drop in the revenue multiples overall, but we are still looking at fairly robust numbers overall, and in fact this sector has the highest multiples of the six that we track. One of the biggest deals in this space this past month was OpenText's acquisition of Global 360 for $260 million, continuing OpenText's expansion into the growing BPM market and giving them important new abilities in dynamic case management.
Similar to the Horizontal Sector, while we're still above the numbers from a year ago, we have seen a slight dip in revenue multiples in the vertical application software space. The healthcare subsector is no exception, but there is consolidation happening in the space. In mid-July, MedQuist acquired M Modal for $130 million. The acquisition will facilitate consolidation to a single speech recognition platform and provide a broader product offering to transcription partners, while allowing for greater penetration of the in-house transcription market segment, and new growth opportunities associated with clinical analytics and revenue cycle management.
Dougan, how is the Consumer space looking?
Dougan Milne
Amber, as we move onto this space, public support was teetering a little bit in July, as we saw with most of the other market segments, some of the same stuff, but still the numbers here are quite strong. The market spotlight here is looking at an important deal in the gaming space. We just heard from Mario about the Casual Connect conference, this deal happened literally days before the conference, so it was a big deal there.
Dave Roberts and his team have been building casual and social games out of PopCap for the past decade and no one would have guessed ten years ago that the casual games world would be so important, if not more important than the core console gaming space. Needless to say, despite EA's acquisition of PlayFish back in 2009, the gaming giant still hadn't cracked the code to casual and social games. In this case, EA is going straight to the top. PopCap already has a couple of games in the top 10 most played games on Facebook, including Bejeweled, and they also have an incredibly talented team based here in Seattle. This was a smart move by EA, great return for PopCap, and I'm excited to see where this one goes.
Multiples stayed pretty steady in the Infrastructure space, still strong. The deal spotlight is on Riverbed Technologies, which has made a number of smart acquisitions over the past year, primarily looking for network and application optimization. The most recent buy was Zeus Technology, which falls under the same technology heading. As you can see, there was strong valuation on this deal. The 451 Group is a great resource for transaction activity, and they reported an estimate of $12 million in revenue for Zeus, which makes this a 9.2x deal, which is great deal.
Amber Stoner
The Internet space has dropped in revenue multiples, but is still nowhere near the 12-month low. One of the larger deals this month was Quepasa.com acquiring Insider Guides, which does business as MyYearbook.com, for $100 million. This social networking deal nearly doubled the size of Quepasa's user base, while positioning the company for significantly higher growth in mobile and social games, advertising and virtual currency.
Dougan Milne
Thanks, Amber. In IT Services, even with the drop in Western public market values, the Asian and Indian IT Services companies are driving the strong metrics in this space. Looking at the deal on the right side, a small subcontractor from Switzerland was acquired by Computacenter. They traded on the LSC and has a long-standing relationship Damax AG. There is still an earn-out component here that should be delivered some time in 2015.
That is what we have here for the Corum Research section, Bruce, let's introduce some of our guest speakers.
TEN DEAL KILLERS
Bruce Milne
We're going to do that and to set them up, we'll talk about 10 deal killers, and spend a few minutes summarizing those and look at why bad things happen to good people and companies in transactions and then we'll talk with Nat about the 10 steps to an optimal outcome.
A lot of our promotion was around the fact that if you do a deal improperly or go through a deal that dies, your business can suffer. Here's some of the reasons why.
One is confidentiality. You go into an extended LOI period, your company is locked up and you can't do much while you're going through due diligence, you have to beware of external confidentiality, involving your clients, customers and competitors, and internal confidentiality, among your staff and suppliers. With some buyers you have to be careful, in this business we think we know who they are, but theft of technology is an issue.
Loss of staff is an issue, and it's not a small one. Many companies have not set up proper incentives or they are not taking into account during the negotiations how they will keep staff with completion bonuses and things like that. There are things you can do, even if you don't have option programs, where you can keep staff excited about the transaction or you can work into the buyer's options program or their own incentives to make sure you take care of them.
If you're inexperienced, you may lose people at the higher levels, which can put a huge amount of pressure on management. After the dot com crash we saw a lot of laws and legislation about this, mostly trying to get to the criminals, but it affected all of us. The law firms were sued, the accounting firms were sued, some of them went out of business, they are very tough on their own work, and that can be very wearing on management.
Finally, business drop off. This is a full-time job. At a conference in London, a VC came to me and said, “We talked to you guys two years ago and tried to do it ourselves. The CEO went out and got some interest and took the eye off the ball and the business fell.” That is not an uncommon story.
Here's why it's a lot of work. To do a true global search is not just a few phone calls. To talk to firms all over the world, whether PE or consolidating companies or a foreign bidder, it's 700 to 1000 communications. Get ready for that. That includes expressions of interest, NDAs, qualified parties, and you try to create an auction environment with multiple bidders. But it is a lot of work. I calibrated the other day, we've sold a lot of companies to Microsoft, and it takes 29 communications to them to get into significant dialog. Think about that. This is way tougher than just selling your product.
There are some stats that you should know that come out of all this. This is from Ernst and Young. 15% of firms that go to market actually sell. Tech is a bit higher, maybe 20%, but most firms just don't sell. In the meantime, bad things can happen.
Only 30% of firms that get into LOI on their own make it through closing. That's versus 75% when you are working with professionals who know what to do. They get multiple buyer discussions, which leads to leverage. That is absolutely essential.
Most firms that we see have been approached with some interest from a buyer. Often they say this is the one, I want to talk to them, but only 25% of the time, we've found, if you do a global search and bid, will that company be the on they end up with. There's almost always someone willing to pay more.
If it is the first firm that approached you and you did go through the professional process, the deal improves by an average of 48%.
Those are the facts that we can tell you after 26 years of doing this and selling more companies than anyone.
The deal killers? Boy did we see this one right up front.
1. Misalignment. Share holders, management, and the board. You can have dissident shareholders, you have have people add rights to your patents, it can be just about anything, but this is a killer.
2. The one that I would put right up top, however, is dealing with just one buyer. So many firms go through the folly of just trying to negotiate with one buyer, and it is just way too difficult to do. You lose leverage, you have no negotiation leverage, and it is too easy for the thing to fall apart. Not just them, but their outside professionals.
3. Often when you do it yourself you're contacting at the wrong level. Your relationships in that company, generally bigger public companies, is some product, division, or marketing, etc, those are not the people that do the buying, and in fact they sometimes get in the way because they have an NIH feeling. It has to go through the top, through the CEO and the board, through the builders and the deal makers.
4. Improper research is another killer. You have to do your research. Why should anyone buy you? What is the imperative here?
5. Not understanding your buyer's process or models. What is their timeline? I've seen people say, “well just send it to them and tell them we need a decision by next week.” I'm sorry, but with all the laws and regulations that pierce the corporate veil, you can't just do that. You need to follow their timelines, you need to know who their decision makers are, etc. How do they normally negogiate and what is their structure?
6. Inability to portray value properly. Since most of what you are is intangible, your people, your tech, your user base, your relationships, how do you value these companies, how do we get these high values? This isn't something you can do for yourself unless you're an expert.
7. Improper due diligence preparation, which can be brutal. People go into this without being properly prepared and if you're not prepared you won't be able to get through due diligence.
8. Not qualifying the buyer properly. We heard that one from Bruce Lazenby.
9. Not orchestrating all buyers properly. They come in at different paces. Some buyers can make a very quick offer, they're competitors, but maybe a better buyer would be the one who takes a lot longer, so you have to stage how you handle them, you have to build it up and bring them all in at the same time, create an auction environment.
10. Finally, the human element: Greed, ego, arrogance, which we heard lots of examples of.
STEPS TO OPTIMAL OUTCOMES
With that, let's take a look at the optimal outcome, and how you get there.
Nat, I'll turn it over to you.
Nat Burgess
Thanks, Bruce. We talked about disasters, we talked about places where deals can go sideways, let's talk about some of the things that work, things you should think about right up front when you're heading down this path.
The first is timing.You have one chance to create a reaction or a posture or a negotiating position to the deal. If you get it wrong, everything else for the rest of the transaction is backpedaling and renegotiation. So, don't act until you have access to deep knowledge and experience on what are market terms. You will be after certain goals and satisfying certain needs, but you need to do that within the context of what is reasonable and possible in the market.
The number one reason why deals fail early is because sellers propose terms and schedules that are unrealistic. The fact is, what you are trying to accomplish is probably pragmatic and reasonable, but how you try to accomplish it is critically important and having experience on your side can make the difference.
The second is consensus. Get consensus among management and shareholders before moving forward. If I go to my board and management team and ask the question, “Would you sell if the price was right?” and they say yes, is that consensus? No, absolutely not. This is a challenging situation because you're dealing with hypotheticals, and frankly you don't know what market value is until you turn over every rock and figure it out. What you need to do is do the analysis, figure out what a reasonable market value looks like, have a dialog where you hear the concerns of your investors, maybe they're worried about escrows and indemnifications, hear the concerns of your management team, maybe they're worried about relocation or changing direction. You need to listen, you need to get consensus, and then you need to act.
The third thing is buyer search. There is a good chance that your company will be acquired by someone you've never heard of, maybe even from a geography you've never visited. The fact is that the earth is now flat, we have 60% of our dollar volume coming cross-border, increasingly with Asia. We're seeing buyers now from geographies like Brazil, Australia and New Zealand. A full search should ivolve international buyers, international partners. Even non-technology firms are appropriate. We're in the middle of a deal right now with an office equipment maker that has a very professional M&A team and they are buying a great company and it is going to be a fantastic transaction. They would not be on a normal buyer's list.
Next is positioning. You're in the tech business. No one is going to buy you simply because of your EBITDA or revenue. Even the PE guys that are financially driven care a lot about the market that you are in and whether you are positioned for growth and success. This is a very challenging situation. Let's not forget that a good chief marketing officer for a public software company is going to make between $350,000 and $500,000 a year because that is one of the most important roles in the company. That is how we think about this. We have to get the positioning just right, we have to make your assets look at valuable and strategic as possible and the result can be a huge delta in valuation.
Next up is proposal. You are sitting in a conference room with a buyer, you are looking at each other, the buyer says, “how much do you want,” and you say, “you go first.” And on and on. Here's what happens. The corporate development guy in the room puts together an offer, and it's low because he's just putting a shot across the bow, but he gets it approved by his CEO and board and now they're thinking that is what the deal will cost. It comes in, it's embarrassingly low, you don't know how to react to it, but this other guy is going to have to eat crow to move it up. That's the wrong way to manage this. Nine times out of ten, you and your advisers should move first on valuation. You should understand market value and intrinsic value, you should draw a line in the sand and let the buyer negotiate from there. That relates to valuation as well. It is not enough to look at what you need or what your investors need, there has to be market support for what you are asking for and there has to be support in the forecast. You must lead on this issue, or else it becomes the buyer's issue and you are negotiating against yourself.
Next step, option. You can only say no so many times to a buyer before that gets old. What you need is to have other options in your back pocket, other buyers to go to, a process underway designed to maximize your value. Bring them all to the negotiating table at the same time, don't leave money and opportunity on the table.
I had one situation with a company that made a preemptive offer on my client and we moved through LOI and due diligence, we were about to close, and the CEO of the buying company came to his team and said, how do we know we're not overpaying. This was a competitive situation. In other words, a buyer hoping that they were bidding in a competitive situation because then they would have support for a price that they were paying. Think about that.
Control. Don't let management and the board run away with the process. If a buyer or a buyer group are hearing different things from different people, you're dead. There is a sense that there is no central stance, there is no one to negotiate with, there is no process. If you have to include the board, create a special M&A committee. Make the authority to negotiate very clear and put it in a person or a couple of people. Don't let the board run away with your process. Boards always offer to help, and they mean well, but they're busy. Often the kind of help they can deliver is useful if it is simply looking at proposals and reacting, but in terms of actually reaching out to people to get them to move on these things, often not as useful.
Know when to walk away and this is important because if you are always compromising and you are not establishing control over the negotiation, it will continue painfully, slowly, until there is finally no deal left to close and you're done.
For negotiating, bring creative strategies to bear to solve negotiating logjams. Confronting the position head on is never the best approach, but here's the thing. For dealmakers who have been at this for a long time, there are creative ways to work around problems. First by understanding what the real agendas are, second by proposing creative solutions to satisfy the needs of both sides, and protect the interest of the client.
Next is contracts. Obviously at the end of the deal you will be signing a definitive agreement that, by operation of law, makes the deal happens, and also puts your shareholders on the hook for liabilities. Make sure you work with experienced counsel. There are lots of lawyers who will work on this stuff and I'm a lawyer myself, so I get to throw a few jabs, but if you call any firm in town, they will agree to work with you, but very few lawyers have reputations for being closers and for being very active in tech M&A. Check references, ask around, look for the right people to work with.
Bruce Milne
Moving on to our presenters. Michael is a serial entrepreneur who recently built a company, Where I've been, and sold it to TripAdvisor. Mike, I love your travel destinations, I have to get to Istanbul. You just sold your company, which is wonderful, but I guess you also have a story that weaves into our deal disasters, but with a happy ending.
Michael Dalesandro
It did start off as a deal disaster almost 4 years ago. To give you background, we started in June of 2007, it was actually incubated out of another company, BlueEye, that I'd funded. The company started on the backbone of a Facebook platform when they launched it. We got instant success, we had a million users within two months, and at that point TripAdvisor approached us with a solid offer for a company that was two months old. The team was small, the cap table was zero, just me and a partner. We agreed on some terms and principles in LOI and as soon as it got to corporate development, then looking back at the deal, things got all haywire. What was agreed upon between the CEO and us got to the point where it was earn out and a cycle of earn out and expectations that I knew we weren't going to hit. At that time we, the seller decided to walk away from Expedia. When we communicated that back with Steve Crawford, the CEO of TripAdvisor, the main concern was that it was not what we had talked about, it was more of a smooth curve than all or nothing. That being said, we had the challenge and the lean from the big company to say “hey, we can make a go of it,” and then we had to.
We had to go out and find funding, do the raise, grow the company and taking the story full circle, about three months ago we were in the position where we were approached by two different companies that are more social media travel rollups, where we would be the majority shareholder of these two entities. One thing that I would like to highlight is that relationships are so important. I have always been in touch with Steve, and we have annual meetings where we talk about where we are and what we're up to, obviously, keep your enemies close.
So when we were approached with these other offers I used that leverage to call Steve and say, listen, we're looking to do something, we're thinking about one of these two companies, and I was very open with him and then I said that if you're interested, let us know. And of course he was interested and we were able to come to terms. It was four years ago a deal disaster to today an obvious success. A lot of that had to do with what I call my three elements of my entrepreneurial duties. Everything I do, I strive to be open, social and relevant. Be open with your employees, your board and your potential buyer. I'm happy to report that four years later we think we found the perfect home. We control over 2 billion travel intents now, and we can use TripAdvisor's tail to accomplish some of our deeper goals together.
Bruce Milne
That is wonderful, I love that story. It is always nice to go to someone you've known for a while and say you've received some offers, but I've always felt you'd be our best partner, can we talk?
Let's move on to Jim Perkins. I've known him for a long time. He is one of the leading entrepreneurs in the gaming field. I first met him when he was sitting in the front row in Toronto at our largest Selling Up Selling Out conference. Later they moved to Phoenix and we started to represent them. As we did so, they came out with a product, Duke Nukem, that became the most sold product in the world at the time. He has gone on with that, Wolfenstein and other products that you'd recognize. Jim?
Jim Perkins
Thanks, Bruce. We have successfully sold FormGen to GT Interactive on the basis that we did have a number of large hits, either being published at the time or coming to the table. What we did when we started selling the company, one of my partners led the sale of the company, but he was somewhat uncertain as to how to do so and what his role might be when the company was sold. That caused some mixed emotions on the part of the potential buyers, especially the main buyer that we were looking at, which was GT.
That caused some delay. With the help of Corum we decided that I would take the lead on the deal. I knew what I wanted to do in terms of selling the company, I knew what my role would be with the buyer when we sold the company, and that pretty much sealed the deal with GT. The key message or lesson here is to have a clear and certain message from the seller to the buyer and to do that you need the right point person, a person with a clear message and a desire to do the deal.
Since then, I stayed with GT for three years in a senior VP role to help them grow and also since then I have started a number of different software video game companies and sold a couple and have done well. I think the other message here is to definitely get a professional involved, because on one of those deals I did not and I have to admit that was not the best deal that I ever did. Having a pro involved helps you see both sides of it and is the best way to go.
Bruce Milne
Thanks, Jim. It really weaves into our deal disasters and the lessons that we learn. It was interesting in that scenario, one of the big lessons there is that the buyers tend to want who they see, so if you are the point, they tend to say you are the person they want on an employment agreement, and Jim's partner couldn't do that. It's fun to see Duke Nukem coming back strong, too.
We have some upcoming events that you should not miss out on, so be sure to check out our calendar. The better educated you are, the more likely your success. Ward, what questions do we have?
Ward Carter
We had a couple of questions that came in from the audience. This was directed to Nat Burgess. Nat, the question is, “I've been approached and I am terrified of losing a buyer who is already in play. What kind of risk am I taking by bringing in an M&A adviser at this time?”
Nat Burgess
That's an interesting question and terrified is a strong word. We see this a lot. My answer may be a little bit backwards.
I've had three calls in the last two weeks from companies that had reached out to us early in the year because they had been approached and were considering running a process. They decided to do it themselves and the dialogs, I wasn't in the board rooms, but I think the dialog wen something like: “Hey we have an offer coming in, let's work on it and if it doesn't work, we'll consider running a process.” If you're in that situation, I would encourage you to stand in front of a mirror and say those words and see how it sounds.
Basically, what you're doing to do is you'll have a single negotiation with a single buyer who is not pressed, there is no real urgency, they will take their time and find lots of reasons to pay less, they will not be concerned about losing the deal, they're not going to have any external factors to validate the price, and guess what? Those deals tend not to close. Bruce had a stat up earlier that is very consistent in what we see, which is that if you negotiate with the buyer who comes in, 75% of the time that is not the deal that happens.
Basically, what buyers want, unless they are just trying to steal your company, what they want is a pragmatic process that leads to either closing the deal on terms that make sense for everybody or walking away because the deal doesn't make sense. Frankly, they value having an experienced deal maker there to make sure that one of those two outcomes happens.
Ward Carter
Thanks, Nat. Great. Bruce, this came in for you. If a deal fails and you have to go back to market, how do you handle that? Is is possible the company is tainted?
Bruce Milne
That's a killer, because often times, following on Nat's point, you go to the market, it gets out, people know about it, and then what do you do when you go back off the market? The assumption is often times that you didn't pass muster. Someone dated you and decided not to marry you, there must be something wrong with you. It is very important at that point that you maintain some dialog or built up other partners. What you really want to say is that you went through the process, and there were certain things you needed and wanted from the buyer for your customers and employees for the future of your firm, and you didn't think that was going to be delivered. Maintain a strong offense in that case. If you have other buyers that are in process, that you've been talking to, when you go under LOI, you need a very short no shop period. When you put in your contract, you say it has to be done in 30 or 60 days, because you don't want to be off the market for too long. That creates extraordinary pressure on Nat's point to get them to get their job done and it leaves the window open for you to go back to others.
We'll be talking about that in our September conference on Deal Drill Down. We're seeing the largest number of deals under LOI in the last decade. We'll look at what is working and what isn't in that conference in our field report, plus some guest speakers. I think we're about done on time.
Ward Carter
Thanks Bruce, right on time. I would like to thank all of you for joining us, and a special thanks to our speakers. I hope you can join us in person at an upcoming Corum conference. This concludes our presentation for today. Thank you.