Buying your Business Part 1 – Start With Why (and when and how…)

To quote Simon Sinek – “start with why”.

That is - Why are you looking to buy a business?

The most likely motives will relate in some way to growth or change – to start a new business, to enter a new market, to add complementary products or service lines, to access new technologies, or to add market share. Really, it’s about growth.

Whatever your “why” is, you will need to work towards buying a business that will deliver on that objective.

Understand their “why”

Remember that transactions are driven by a range of stakeholders, each bringing something different to the table, with the end goal of ensuring that the transaction creates value for all of them. As discussed above, your “why” might take many forms. But, we know one thing, you are probably looking to pay as little as possible in order to create as much value for your business as possible moving forwards.

The seller, meanwhile, is looking to maximise the value for their business.

Their decision to sell may be motivated by all sorts of factors – time to retire, the business has grown beyond their ability to manage it, lifestyle choices and so on. Taking the time to understand the seller’s motivations can be useful in managing the transaction as a whole.

This sort of alignment can create goodwill and improve the likelihood to achieve a good transaction. Look to find a way that aligns or marries up to the two motivating reasons as a way to progress the transaction.

When?

So much in life is about getting the timing right. Being able to match your ideal timing with the seller’s timetable can be critical to the overall success of the deal.

Too often, there can be material mismatches between the two parties when it comes to timing. One party wants it all done and dusted in a week – the other needs months to go through its process.

Failure to match timetables, or at least understand the differences, will inevitably lead to frustration and cause flow on effects to the overall transaction.

As a purchaser, if you are rushed into a transaction because the seller needs it done quickly, it can increase the risk for you of not identifying a material issue that could go to value or have a long term impact on the business itself post-acquisition, when you are on the hook.

Take the time to understand your own timetable, the real drivers for that and how they could be managed if need be to match the seller’s timetable.

Look for a seller who is willing to work with you when it comes to the process. Being understanding of each other’s requirements and working towards the same outcome will certainly help the process, create some trust and understanding between the parties, and engagement and resolution of key issues.

A good rule of thumb is that the more complex the deal, the longer it will take. Complexity usually requires a greater amount of time to be dedicated to process, due diligence and documentation negotiation.

If you want to buy something soon, then you will need to think about your own business structure. Do you need to establish your own company to own the business you want to buy? Are there are other tax efficient structures, such as trusts, that might be an alternative structure for you to use and maximise your acquisition.

All of these things will need to be considered, preferably prior to starting the purchase process.

Start talking

Once you have identified a target business, obviously you will need to start talking with the owner.

In your discussions, even just preliminary ones, you will most likely need to provide, and you will definitely receive, “confidential information”. Confidential information could relate to the nature of the products made by, or services sold by, the target company, its financial results, capital structure, employee arrangements and so on.

In the early stages of discussions when trust and commitment to the process are still building, you will need a way to manage your interactions.

Sign a confidentiality agreement

It is probably easiest, and in any event prudent, to sign a confidentiality agreement.

While these agreements are commonplace, they are not always well understood.

This document requires the parties to keep any information or documents that are shared between them, confidential. It will also restrict how that information is used, stored and who (and when) it can be shared with.

The confidentiality agreement will allow you to use the information for a “permitted purpose” – that is, in relation to the purchase of the business. The “permitted purpose” should be drafted broadly enough to give the parties some flexibility.

The agreement will, though, impose restrictions and obligations with respect to your use and management of the confidential information.

This includes:

• maintain the information confidentially;
• keep the information safe and secure – to use reasonable security measures;
• not disclose, use or reproduce the information except for the permitted purpose;
• take steps to prevent disclosure of the information;
• return the information at the end of the process if no deal is closed; and
• not engage with current clients or staff – unless expressly permitted.

Why are these restrictions common?

These restrictions are directed at preventing parties from accessing the confidential information of a competitor and then using it to benefit their business or set up a competing business.

As the party receiving information you will probably be required to “indemnify” the disclosing party for any illegal use of that information - that is, effectively pay any costs or damages incurred by the disclosing party as a result of any unauthorised use or disclosure of the confidential information by you.

As a purchaser, one thing you should ensure is that the confidentiality agreement permits you to disclose confidential information to your advisors – tax, accounting, legal etc – and any other parties required for the transaction such as financiers or shareholders.

You should note though that as the party to the confidentiality agreement, you will be liable for any breach of the obligations by your advisors. Therefore, best to get some form of acknowledgement from them about the confidentiality obligations or sign a back to back agreement with them.

So, be aware of what the agreement says and be sure to follow what it says you can and can’t do with the information.

Work out the broad details of the transaction

Early on in the transaction, you might want to map out the general terms of the sale with the other party. This document is variously referred to as a

• “terms sheet”;
• “non-binding indicative offer”; or
• “letter of intent”.

It may be an important step for both parties to show their commitment to the transaction.

Sometimes, the seller would have already prepared one as part of their preliminary work. A terms sheet may:

• set out a timetable for the transaction, including when the discussions may terminate;
• provide that the parties enter into exclusive discussions (so called “no shop obligations”) – as a buyer you may want to lock in the seller to only discussing a sale to you. This is because you won’t want to undertake all the work only to be left at the end with no deal because the seller has agreed to sell to someone else;
• discuss due diligence requirements – including liability for expenses you have to incur to do the deal – you may be able to negotiate the seller meeting some of your initial costs in order to progress the deal;
• map out potential transaction structures – share sale or asset sale;
• specify indicative prices or ranges; and
• stipulate some non-compete requirements (i.e. the buyer will not compete with the seller in the seller’s market), non-solicitation obligations (i.e. the buyer will not approach the seller’s staff / material suppliers, with offers of employment or contracts) obligations.

In general, except for any confidentiality or non-compete / non-solicitation obligations, the terms of the document will be non-binding. This means that, by signing the document, neither party is bound to complete the sale transaction. Importantly, even though they are not binding, the terms and conditions they provide for are often hard to “walk back” from once the real negotiations start.

Conclusion

As a buyer:

• understanding why you want to undertake a purchase;
• understanding the seller’s timetable and perspectives and how they relate to your requirements; and
• signing clearly documented terms dealing with confidentiality and the proposed commercial terms,

should set you up well for a successful transaction.

In Part 2 – Do your homework we look at the all-important due diligence process.