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Originally Posted by Jerseytunahunter
Yes all cash. We have a small amount of loans and leases which will be paid off at closing. We're trying to get to 90/10.
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OK, saw in your first post that the buyer is private equity. That should make this a professional transaction. I will convey my thoughts from the buy side as I have never been on the sell side. For reference, I worked for a large publicly traded company that manufacturers stuff. We bought companies that had technology, customers, product lines or regions we wanted. So my expertise is in manufacturing. Take everything I say with a grain of salt. And this will be a diatribe in no particular order.
Since you have a broker and know what EBITDA is, you are leaps and bounds ahead of some sellers. I assume they have sent an Initial Offer of Intent (IOI) with a dollar range for the offer? And now you are going into due diligence?
It's good you have a broker. Your broker's sole purpose in life (in their mind) is to close the deal. They might not always agree with that out loud, but they are hunter/killers and closing the deal is all that matters to them. Make sure they are doing what you want because you are paying them. PE does this stuff for a living, so they won't accept any shenanigans. Don't be afraid to have conversations with someone you trust within the buyer's organization. Our best deals (for both sides) happened when there was a personal relationship between the seller and someone in our company. Talk to your friends that have dealt with this company and find out who you could confide in on their side. The lawyers and brokers don't always like this approach, but it makes the deal roll easier. If it were up to the lawyers, you would never close a deal.
Once we sent an IOI and the seller accepted, we went into due diligence. This can be painful for the seller. That's what I did for a living, due diligence. My job was to go in and look at the business and see if what you put in the deck was what we were getting. This never resulted in an increase in offer price. As you have noted, you have a multiple on the table, but I can haircut EBITDA in a million different ways. So, I wouldn't focus on the multiple. Focus on the number. It's kindof like the car salesman that wants to talk car payments vs. sales price.
I have so much I can type, but for this post, let me keep it simple. For the sale, you will have to defend your numbers to maximize the sale price. Really not that complex, but I don't want you to be surprised if they come back with a serious haircut on your EBITDA. Working through this is fairly straight forward and as the owner, you can manage this with your experience, guts and instinct.
If you want more details on due diligence, let me know. I can write a book on the sell side process.
I think where I can really help is post acquisition and the earn out. If you get 90/10, I wouldn't sweat it too much. 10% will be more of a pride thing than a battle. But, the solution is both difficult and easy.
Cost, cost, cost. That's it. Here's why: after close, your costs are going to go up because of the acquisition (especially in the first year). If your costs go up, your EBITDA goes down. Your earn out is at risk. It's just that simple. Happened every time we bought someone. Even without an earn out. Lots of harrumphing at HQ when we forecast 25% EBITDA and we only got 15%, even thought the company's top line grew 20%. They got eaten by cost.
Know what your current costs are in agonizing detail. If you do not currently have a genius cost accounting guru on your payroll, get one. We called them controllers. They can help with the sale, but they will earn their keep in the transition.
After close, track costs relentlessly so you can account for transition costs. These transition costs should be entered in a separate line of accounting in as much detail as you can manage. That way, when it comes time to talk earn out, you can compare your YoY EBITDA without the acquisition costs. Not fair to include them and erode your post acquisition EBITDA, but we did it all the time. Mostly because the acquired business did not collect this data and without it, you can't defend your position.
Some things that can erode EBITDA post acquisition:
- 401k: If you offer a 401k with 50% match up to 3% and they offer 100% up to 5%, you are going to eat those costs.
- PTO: If you offer a scaled PTO @ 5, 10, 15 years and their scale is different, you will have to adjust your accrual for that cost. If their's is more expensive, you will eat those costs. Also, how are you handling accrued PTO in the transition?
- Medical/Dental/Etc...: This can go both ways. Just know what the plan is. If you have to transition 70 people to their plan and it is more expensive, then you will eat those costs.
- IT: This can be a nightmare with no end. The biggest issue is enterprise management. Transitioning to an ERP system can cost millions. I doubt a PE firm will make you do that, but you will have onerous reporting requirements, extra travel for meetings and may need to hire more personnel to manage all of this transition stuff. Account for this in the transition cost line of accounting. Watch out for IT preferred vendors. Some big firms like to make you buy stuff from their negotiated contractors, and they are usually way more expensive than what you can buy stuff for on your own. Things like computers, office supplies, telephones, etc...
- Capital: since you are dealing at the EBITDA line, the cost of capital will be borne by them. But the rent, utilities, maintenance, etc... will be your cost. Not a problem until they want to move you to their big, shiny building in New York that costs 10x what you are paying now. Keep track of it.
- Travel: You may have to travel a lot more during the transition. Keep track of it. And watch out for the PE firm making you use their travel agent. Ours was way more expensive than doing it yourself, but they had to use it. This cost them more, but we didn't care.
That's all the SG&A stuff I can think of right now. I'm sure there are a hundred things I have missed, but the details aren't as important as the concept. Knowing your current costs and tracking your future costs will allow you and the PE firm to better understand your apples to apples YoY EBITDA growth.
Actionable for you now: identify your accounting guru and get them up to speed on what you expect. Figure out the process for implementing the cost accounting. You do not need to discuss this plan with the buyer or broker unless you want to. BTW, due diligence should reveal your true current costs, but make sure you agree with them. The baseline will be what you have to live with for the next three years.
I'll post more on growth after dinner.
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