When business owners hear the word “auction” they often associate it with the liquidation of a failed business, but profitable businesses are auctioned too, albeit through a very different process. In mergers and acquisitions, an auction is often the best way to get multiple buyers competing for your business. This article explains how those auctions work.
What is a Business Sale Auction?
An auction is a structured process that reaches out to thousands of potential buyers over a short period of time to create a competitive bidding process. It pits different buyer types against one another, to see who values the company the most. An effectively managed auction means a better sale price, better deal terms, more seller leverage during due diligence, and the ability to choose the buyer that’s best for you and your team. It is far more likely to result in a successful close than a process that deals with only 1 or 2 potential buyers at a time.
Auction Advantages
Competition Increases Sale Price
Business acquirers would prefer not to compete for your business, but serious buyers respect a well-organized auction process because they know the seller is prepared and won’t waste their time. When they know that other buyers are interested in your company, it validates their interest and their fear of “losing out” drives them to their best offer.
Urgency To Close
A business sale without an auction has no deadlines and no pressure. One buyer negotiating with a seller has very little motivation to move quickly. Auctions, on the other hand, have set dates for submitting offers and bidders never know when the seller might accept someone else’s offer and take the company off the market. This creates buyer urgency and pressure to submit a strong offer early in the process.
Seller Leverage
Without a competitive process, buyers have most of the leverage during negotiations and due diligence. In a competitive auction, however, leverage shifts to the seller. Buyers never know exactly where they stand until their offer is accepted or rejected. And even when an offer is accepted, the buyer knows that there are other possible buyers waiting in the wings which discourages unreasonable demands during the due diligence process.
When Auctions Work Best
Auctions work best when a company is large enough and profitable enough to attract a wide variety of strategic and financial buyers. Good auction candidates have:
at least $1 million in EBITDA
a staff that isn’t overly dependent on the owner to run the day-to-day operations
a business that is scalable
an industry that is attracting investment.
Smaller “main street” businesses with relatively low profits, high owner dependence or that serve small markets rarely attract enough attention for a true competitive auction, but some elements of the auction process can be deployed to improve outcomes.
The Business Sale Auction Process
Business Deep Dive
Preparation for an auction requires a thorough understanding of the business. The goal is to view it through the eyes of would-be buyers and to anticipate their questions and concerns. The Company’s financials, customers, vendors, management team, intellectual property, equipment and real estate will be reviewed. The goal is to identify unique elements of value as well as possible risks. The findings from the business deep dive drive the three subsequent phases of the process which happen largely in parallel with one another.
Pre-Sale Due Diligence
Pre-sale due diligence allows potential issues to be identified and corrected before buyers enter the process. Financials can be adjusted, handshake deals replaced with signed contracts, real estate inspected for potential environmental issues, etc. Having key information organized in advance helps your M&A team control the pace of negotiations and due diligence to maintain deal momentum.
Compelling Marketing Materials
The marketing materials include a “teaser” that summarizes the company anonymously and a Confidential Information Memorandum (CIM) or “book” describing the company in detail. The CIM is very important to the auction process. It needs to include all the information that a buyer requires to submit a bid, without disclosing unnecessary details. Without a high quality CIM, an auction process can get bogged down in individual data requests from multiple interested parties.
Researching Potential Buyers
While the marketing materials are being developed and due diligence preparation is underway, a third, parallel effort is made to identify potential buyers. It’s important to cast a wide net because it’s nearly impossible for business owners or M&A Advisors to predict who the best buyer will be. In fact, every client that Venture 7 Advisors has ever had entered the sale process with preconceived notions of who the logical buyers would be and, in every single case, they’ve been wrong. The ultimate buyer is usually someone who the seller has never heard of before.
There are two broad categories of business buyers: strategic buyers and financial buyers. Strategic buyers are looking to acquire companies that fit into their operations and growth strategies. Financial buyers are essentially investors who are looking for companies to buy, grow and sell for a profit at some point in the future.
Finding potential strategic buyers requires research. They can be found in industry trade associations, among the seller’s customers, suppliers and competitors, and in a variety of databases. This research often extends beyond the seller’s industry to include tangential industries as well. This process may ultimately reveal thousands of potential buyers.
Identifying financial buyers is relatively easy as they are actively looking for investment opportunities and they make their interest in acquisitions known via their websites and a variety of online marketplaces. At Venture 7 Advisors, we receive emails from private equity firms and individual buyers on a daily basis. They all end up in our database for future client marketing campaigns.
When marketing materials, pre-sale due diligence and a prospect list have been finalized and approved by our client, active marketing outreach begins.
Outreach to Strategic and Financial Buyers
The goal of all the preparation work is to create a structured sale process that brings multiple bidders to the table at the same time. Only then can a truly competitive bidding process take place. Strategic and financial buyers operate at different speeds: strategics are usually more deliberate, while financial buyers are in the business of making acquisitions and move more quickly. A well-managed auction process brings both types of buyers to the offer stage at the same time by reaching out to strategics first. Outreach to financial buyers begins once the strategics begin to show interest.
The outreach process usually involves 6 to 12 weeks of intense communication with dozens or even hundreds of potential buyers. Non-Disclosure Agreements (NDAs) are signed, marketing materials are shared and there are multiple follow-up questions and conversations. You’ll note that we haven’t mentioned advertising yet. Advertising a deal on popular M&A marketplaces can play a role, but it’s far less important than active outreach.
The seller’s involvement in this process is limited to calls with the most promising prospects toward the end of this phase. Your M&A advisors will be able to handle most requests for additional information because of the thorough up-front preparation that was done.
Collecting Indications of Interest
Within a few weeks, a sales funnel emerges. Potential buyers deemed "tire kickers" or those without sufficient funding will be eliminated from the process. With thousands of potential buyers contacted, it’s common to have more than 100 interested parties sign an NDA. Your M&A Advisors will continue to qualify buyers and field questions. Most who receive the CIM will decline to pursue the transaction for a variety of reasons.
Those who remain interested are asked to submit an Indication of Interest (IOI) describing their proposed offer, deal structure and any contingencies they require. An attractive company will typically receive 10 to 20 IOIs. The offers in those IOIs will vary widely. It’s not uncommon for the highest bidders to be 2 or 3 times higher than the lowest bidder! By the time all IOI's are evaluated, it becomes apparent which potential buyers should advance to the Letter of Intent stage of the process.
Engaging With the Finalists
The 3 to 5 prospects who submit the best IOIs are invited to continue the process and learn more about the company. A second wave of more detailed information is shared with this group and there are many calls, emails and meetings to help each buyer understand the unique value that the company represents. Most of these finalists will eventually submit a Letter of Intent (LOI) which includes more specific offer details. This is also the time to further question the potential buyers about their financing and their long-term plans for the business.
The seller is heavily involved in this phase. The finalists will want to meet in-person and see the facility. Letters of Intent are compared, usually with the help of a tax advisor, to estimate the net proceeds of each offer.
Negotiate Letters of Intent
By this time the M&A team has a good understanding of each buyer’s financial offer and their plans for the company. Even among these finalists, the range of offers can vary significantly in total deal value and deal structure.
This is where the real negotiating begins. Each finalist is encouraged to improve their offer. Now is the time to improve purchase price, the amount of cash at closing, and a host of other deal terms that impact how much and how soon sellers get paid. Eventually, the least attractive buyers are notified that their LOIs have been rejected, which often spurs yet another round of last-minute negotiations. The trick is to know when it’s time to stop negotiating, sign the winning LOI and move into Due Diligence with the buyer of choice.
Due Diligence & Drafting Sale Contracts
Due diligence is never fun, but the seller has a lot more leverage when the winning bidder knows they’ve had to compete for your company. They’ll still scrutinize the company very carefully and try to negotiate the best purchase agreement they can, but the temptation to push the seller too hard or renegotiate the price is tempered by the knowledge that there are other buyers waiting in the wings if the deal breaks down. As a result, the sale is much more likely to close successfully – without purchase price adjustments or onerous legal terms – when buyers compete for your company.
The Best Way To Sell A Business
Selling a business is not about contacting potential buyers you already know, or simply advertising that your business is for sale. It’s about creating a market where many potential buyers are encouraged to compete for your business. This requires more preparation work up front than simply “listing” a company for sale, but that preparation is rewarded with higher deal values and a higher probability of actually closing the deal you made at the LOI stage. It also allows you to choose from among several potential buyers to find the best buyer for you and your employees.
About Venture 7 Advisors:
Venture 7 Advisors is a team of merger and acquisition advisors who assist the owners of small and mid-sized companies to plan and complete the sale of their business. We find the best buyer to meet each business owner’s financial and legacy goals. We represent clients in consumer products, distribution, manufacturing, B2B services, construction, telecommunications, and eCommerce from offices in Burlington, Vermont, the Hudson Valley, New York, and Western Massachusetts.
We're here to talk about your situation, provide information, discuss your options, and put things in perspective. Contact us at any time:
Bryan Ducharme
Managing Partner
Mobile: 802 578 6462
Scott Hardy
Partner, Master Entrepreneur
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