Exit Strategy

Cross-Sector M&A and the Blurring Business Landscape

April 30, 2019 By John Binkley

“We are seeing M&A become the fastest route to reinvention in today’s digital economy.” – How U.S. M&A will transform businesses in a changing world, Ernst & Young

As Dr. John Binkley and the team at Generational Equity have noted on numerous occasions, we are enjoying one of the most robust seller’s markets in decades. U.S. M&A in 2018 ended on a high note, with deal value topping $2 trillion for the fourth consecutive year across North America, marking a 6.9% increase on 2017.

This trend shows no sign of slowing into 2019 either. Insight from Merrill Corporation on Mergermarket data demonstrates that the pace of deal making has actually picked up in the early months of this year, with 504 deals valued at $257.5 billion, eclipsing 2018’s $223.2 billion. This indicates to Dr. Binkley that the seller’s market is not over yet and buyers are doubling down on their efforts to secure fitting acquisitions.

But, what many business owners often don’t recognize is that the buyer who stands to offer the best deal might not necessarily be in the same industry as they are. Within the last few years there’s been an increase in attention to cross-sector deals, as businesses use M&A to expand in new markets, incorporate technology and grow their capabilities.

The rise of cross-industry M&A

Dr. John Binkley alluded to the increasing focus on cross-industry acquisitions in his article last year reviewing 2018’s M&A activity. This trend is expected by many to maintain in 2019, driven in large part by the desire of companies to integrate new technology in this rapidly digitalized world.

This point is explored in Ernst & Young’s 2019 sector outlook for M&A. They note how buyers, particularly private equity firms, are acquiring technology companies as bolt-ons for their existing platforms to improve their capabilities and remain competitive in an ever-shifting business landscape.

Rather than devote the substantial time, manpower and resources into developing their own technology in-house, it is often more time-efficient and cost-effective for buyers to acquire a company that already has the technology and specialist expertise to enhance their own offering.

In their full-year 2018 update of global M&A, PwC reinforces EY’s assertions that cross-sector deals were a pivotal part of that year’s activity, and will continue to be so this year. They revealed that over a third of U.S. corporate deals last year blurred sector lines, with this type of acquisition particularly prevalent among buyers in the media, telecom, pharmaceutical and life sciences industries.

Investment into technology companies is especially prevalent, as companies in traditionally non-tech sectors are now employing these to solve internal gaps, enhance their offerings to customers and remain competitive in a rapidly tech-reliant world.

451 Research revealed that acquirers outside the technology sphere have spent over $40 billion on tech companies in each of the last three years, a sign of the recent shift towards cross-sector M&A. And technology companies are also not shy of extending their reach into different industries, as demonstrated by Intel’s acquisition of Mobileye in an effort to become prevalent in the assisted and connected car industry.

However, the propensity to cross industry lines certainly isn’t exclusive to these sectors. KPMG conducted a thorough examination last year on the surge of cross-sector M&A in acquiring financial services companies. Their research clearly demonstrated the breadth of interest across industries in converging into this already broad sector:

Estimated share of sectors investing in financial services

Construction & Real Estate – 16%
Technology – 14.8%
Industrial – 13.6%
Energy – 11.8%
Consumer Goods/Retail – 10.1%
Transportation – 8.9%
Leisure – 5.9%
Media/Telecom – 5.3%
Healthcare – 4.7%
Others – 8.9%

For Dr. Binkley, this shows that the cross-sector M&A trend is not limited to one area or a passing fad in deal making – it is a signal of a more fluid business landscape. Companies that are seeking quick, meaningful growth are looking at opportunities to expand their capabilities and market share by looking beyond the bounds of their industry.

Don’t place industry limits on your exit strategy

A common thread connecting business owners that Dr. John Binkley and dealmakers at Generational Equity have noted over the years is the assumption that they will eventually sell their company to a competitor, or at least someone in the same industry. While that is certainly an option, by assuming this, you could place unnecessary limits on your options when pursuing an exit for optimal value.

That’s the difference between choosing an M&A firm that specializes in multiple sectors like Generational over boutique brokers. While boutique firms may claim to be able to help you find the optimal deal within your industry, that may not necessarily be the same as the optimal deal overall. It pays to explore all avenues and expand your horizons beyond the sector you operate in, as they could provide a more lucrative, synergistic and inviting proposition for the future of your company.

In 2017 Bloomberg supplied a list of cross-sector M&A deals that demonstrated how U.S. companies are looking outside their wheelhouse for new opportunities:

Source: Bloomberg

Each was a strategic decision to look towards an industry that is complementary to the acquiring company’s, but you must assume that the dealmakers involved took the time to scour the market and employed their cross-industry knowledge to find the optimal buyer for their clients.

Some of you may say “Why would a technology company be interested in my brick and mortar business?” But that’s not thinking like a buyer. Buyers look for intangible assets that don’t appear on the balance sheet, or ways your company can enhance their existing proposition, creating the proverbial 2 + 2 = 8 scenario.

In the end, your competitor may prove to be your optimal buyer. However, until you’ve explored the possibilities, you could be left wondering whether you left money on the table by sticking rigidly to the ever-reducing boundaries between industries.

The business landscape is changing, which Dr. Binkley credits in large part to the transformative possibilities presented by M&A activity in allowing firms to acquire technology, skilled personnel and new methodologies to increase their capabilities and remain competitive. The once-distinct divides between industries don’t exist anymore, and with that comes a whole new world of opportunity for exiting business owners to secure the maximum value.

Generational Equity’s diverse database of tens of thousands of business buyers allows the firm to present clients with in-depth expertise across a range of sectors, which has led to numerous examples of cross-sector pollination. By establishing a broad yet specialist approach to M&A, Dr. Binkley believes Generational presents all available options to middle market business owners preparing to exit.

Hopefully this has offered a greater insight into the prevalence of cross-sector M&A right now, the opportunities this offers for both professional buyers and those looking to exit, and the reasons why this environment makes choosing a firm that gives you options preferable when it comes to departing your business.

If you’d like to learn more about the current M&A landscape, cross-sector trends and the process of exiting a company for an optimal value, Generational Equity’s regularly updated insight page is a great resource for business owners thinking about their future.

In addition, Dr. John Binkley’s blog has several articles on developing your exit strategy, as well as other inspiring and motivational pieces.

Increase in PE-Backed Companies Seeking Add-ons Could Maximize Your Exit

September 20, 2018 By John Binkley

With his extensive experience in the industry, Dr. John Binkley has seen trends and movements come and go within the U.S. financial landscape. One current phenomenon that he has observed with interest is the popularity of additive deal making, or “add-on” acquisitions, among middle market businesses by private equity firms.

While Dr. John Binkley and other professionals at Generational Equity have observed and commented upon the increase of add-on acquisitions in recent articles on the subject, the latest evidence shows that this trend has escalated significantly.

Add-ons Becoming Another Norm

Newly emerging figures are suggesting that additive deal making on behalf of private equity funds is no longer simply a significant contributor to the volume of U.S. middle market M&A activity, but that add-ons have become the primary means by which mid-size American businesses are now acquired.

According to PitchBook, compared to 15 years ago when less than 20% of buyouts globally were add-ons, so far this year they account for more than half, with this figure breaching two-thirds in the U.S. So, for a U.S. middle market business owner exiting their company this year, there is a significant chance the buyer will be a private equity firm aiming to bolt on the business to an already held platform company.

This clearly has huge implications for business owners picturing how they will one day exit their company. Given this shift in how and why middle market firms are acquired in the U.S., sellers will have to plan differently and look beyond their competitors as potential buyers.

For business owners with a limited understanding of the behavior of private equity funds, and the increasing complexity of exit transactions where private equity is involved, seeking professional advice on exit planning is now more essential than it has ever been.

The Traditional Model

When we consider M&A activity, we typically envision the situation where existing businesses expand their own operations on the ground by buying up competitors and associated businesses. The appeal of acquisitions to an operating business are quite clear:

Acqui-hiring: Recruitment can be costly and time consuming for businesses. By acquiring an associated business, the buyer effectively hires that company’s core of trained employees that are more prepared to hit the ground running.
Geographical expansion: Acquiring a business with a strong record in a target location can be a great way for a company to expand its reach while minimizing risk.
Economies of scale: Operating on a larger scale can deliver savings through the consolidation of job roles, and bulk buying of raw materials, wholesale items or goods not for resale and other such economies.
Diversification: By acquiring a business with a different focus from the buyer’s own, the buyer can introduce new functions onto their existing holdings immediately.
Supply chain: Acquiring a business that supplies yours, or even acquiring one that your business supplies, can cut costs or increase margins for the resulting entity.
Consolidation and alleviating risk: A consolidated business may have more capacity to take on larger contracts with larger partners. Such a business might also be offered some measure of stability and protection should they lose a key business partner.

In other words, good old-fashioned growth. You buy another business similar to your own to expand your operations, or an associated or disparate business to acquire new functions or capabilities. That much is clear. However, the market share represented by this traditional model is dwindling.

Same Game, New Players

This is despite the clear benefits of the approach and the fact that M&A activity is thriving. In fact, according to Deloitte:

“[A]bout 68 percent of executives at U.S. headquartered corporations and 76 percent of leaders at domestic based private equity firms say deal flow will increase in the next 12 months.”

However, rather than businesses buying other businesses, Dr. John Binkley has seen the M&A landscape shift with the rise of acquisitions through private equity funding. It may come as a surprise to many that private equity investment is now rivalling this traditional model in driving M&A. So, what has changed in terms of market benefits that a smaller percentage of acquisitions now stem from the corporate sector?

In an important sense, nothing has changed in the way that businesses benefit from consolidation. All the above benefits to expansion certainly still apply. These deals are still happening – and at record volumes – for the same reasons and achieving the same beneficial outcomes as they always have. All that has changed is the players involved. The difference lies in who is spotting the opportunities and building the deals.

What has occurred in the last decade is that the success and profitability in middle market M&A activity has attracted the attention of the substantial private equity funding that currently covers the market. Now, the players bolting these companies together are sophisticated “big picture” finance professionals who always have financial outcomes in sight – generating the maximum ongoing returns or divesting with the greatest profit.

What is in it for Private Equity?

But don’t these funds exist to dip in and out of industries, buying low and selling high? What interest would they have in buying a business as an add-on to another business that they have already acquired?

On the face of it, developing businesses with add-on acquisitions is the interventionist, labor-intensive, time-consuming activity you might not expect from private finance. However, where the returns justify it, PE has proved itself willing to roll up its sleeves and get involved.

According to an analyst note published earlier this year by PitchBook, the proportion of businesses held by private equity firms that have undertaken at least one add-on acquisition has increased from less than 20% in the early 2000s to over 30% in the first half of this year.

And the results for PE have been rewarding. Funds with a high proportion of add-on holdings have been posting greater returns than those with fewer such holdings. According to PitchBook, the two sample sets of add-on heavy funds that they analyzed demonstrated greater total value to paid-in ratios than less add-on loaded samples. The PitchBook report goes on to conclude that:

“36.3% of add-on funds beat the top-quartile hurdle rate, while just 10.0% of funds fell into the bottom-quartile, indicating that funds that employ the buy-and-build strategy generate superior returns.” Additive Dealmaking: Part II – An analysis of add-ons’ effect on fund performance PitchBook

So, with add-on heavy funds outperforming those with fewer add-ons, why wouldn’t PE pursue this buy-and-build policy through additive deal making? Over 25% of private equity add-on acquisitions are undertaken by funds that had already completed at least 5 add-on deals previously – demonstrating that those funds’ successes in pursuing buy-and-build made it worth their while to repeat the policy on multiple occasions.

Private Equity Influx Changing the Complexion of the M&A Market

With his vast experience in the industry, Dr. John Binkley interprets this move towards private equity add-on purchases as a culture shift within the industry that has been in the works for some time. Brokering business sales is no longer a matter between fellow business owners. The days of the business owner bowing out while negotiating a mutually beneficial deal with a local competitor are disappearing.

The current booming seller’s market remains a huge opportunity for sellers. The reason PE firms are clamoring after the American middle market is because it is so attractive and profitable to them right now. This level of demand can mean business sellers are in a position to realize extremely favorable valuations on their businesses, exiting with higher sums than they ever thought possible – but only with professional advice to match the shrewd business strategies of this professional buyer.

If you are a middle market business owner, exit planning warrants serious consideration. But without an understanding of your prospective buyer, that planning will be of little use. As we have seen, it is increasingly likely that your buyer will come from the private equity sector, and most business owners can be forgiven for having a limited understanding of how that sector operates.

Learning about the profile of your buyers is just one of the areas covered in Generational Equity’s complimentary conference – so arranging to attend could be a very wise move given the shifting complexion of the M&A market.

How to Prevent Critical M&A Deal Breakers

August 15, 2018 By John Binkley

When Dr. John Binkley and his associates at Generational Equity read PitchBook’s latest quarterly report on global M&A activity, there was plenty of good news.

The M&A market worldwide continues to be highly active – in 2Q, 4,735 transactions were completed in North America and Europe, totaling around $988 billion. While the number of deals fell slightly from 1Q’s number (2 percent), the overall value increased a remarkable 24%, bolstered by several mega deals and continued economic optimism in most industries.

“The M&A market is inexorably linked with business sentiment, corporate fundamentals and macroeconomic forces that can impact factors like access to financing. With all these indicators continuing to trend positively, the global M&A boom shows no signs of stopping.

“Altogether, 2018 is unlikely to eclipse the record-setting numbers achieved in 2015, but it is on pace for another $3 trillion+ year.” – PitchBook 2Q 2018 M&A Report

M&A Activity at Record Highs… But Broken Deals Also Rising

This reinforces what Dr. Binkley and Generational Equity have been saying for quite a while, that this is the strongest seller’s market in M&A for decades. The favorable economic conditions and vast amount of capital in the market right now have driven valuations up significantly. It’s unquestionably one of the most exciting markets in recent memory.

The M&A Seller’s Market is Heating Up

However, alongside this engaging report by PitchBook was another stat that Dr. Binkley felt warranted further discussion. By analysts’ estimates, a total of $541 billion in global M&A transactions has been withdrawn in 2018 so far, representing a 23% increase YOY. A number of high-profile deals driven by this excellent M&A activity have broken down, while several others are in a precarious situation.

Of course, breakdowns in negotiations in the M&A industry are hardly new. With the sale and acquisition of businesses at any level tied to so much capital, it is inevitable that the pressure and importance of securing a good return on investment for buyers leads to deals going no further than the negotiating table.

Many factors can make or break a deal, both on the buying and selling side. Everyone is after the most value possible, and some are more unwilling to make the necessary concessions. If you aren’t prepared for the emotional rollercoaster that the exit process and negotiations present, you leave yourself open to issues arising at the 11th hour that cause deals to break down.

As PitchBook’s report suggests, this is happening all too frequently in recent years. This could simply be an expected result of the accelerated activity in this thriving seller’s market – more deals in total means that more deals are left incomplete. However, it is very likely that many of these non-completed deals were completely avoidable, and could have been salvaged.

There’s an old saying in deal making – a deal is not a deal until it dies twice. As Dr. John Binkley has experienced numerous times since founding Generational Equity, factors that cause M&A activity to break down can often be overcome with the right knowledge and professional support.

Here, Dr. Binkley outlines what he considers four key M&A deal breakers, and what you and other business owners can do to help prevent them when you choose to exit your company.

4 M&A Deal Breakers… And How to Overcome Them

1) Accurate, Honest Documentation

First and foremost, it is essential to get your numbers in order. The level of documentation buyers expect when they acquire a company is unfathomable to anyone who hasn’t been through the process before, and it needs to be accurate and honest.

Inaccuracy can be one of the biggest roadblocks to completing a deal. This plays a big role in the trust between buyers and sellers – if buyers notice any mistaken figures in either your historical or projected financials during due diligence (and they almost certainly will), then this can stop negotiations in their tracks and leave you scrambling for answers.

Innocent mistakes can be forgiven – deliberately misrepresenting your figures is more likely to cause an irredeemable breakdown in trust. While the temptation to alter or overstate numbers to hide any flaws and push up your company’s value can be strong, in Dr. Binkley’s experience honesty is the best policy. With the thoroughness most professional buyers apply to due diligence, your odds of sneaking in erroneous information are slim.

Presenting your company as it is to buyers, with explanations prepared for areas that could be considered concerning, is far more likely to build trust and keep negotiations going. The need to have accurate documentation is also a very good reason to hire an M&A firm to represent you. The first step in the proven Generational Equity process is a complete and thorough evaluation of the client’s business, including the recasting of the historical financials, a critical step in the evaluation process.

2) Seller’s Remorse

Selling a business can be an emotional experience, as it represents the end of a chapter in an owner’s life. Not handling that emotion has been is the cause of many deals not closing, as sellers realize that they aren’t quite as ready to make the next step as they first thought.

While everybody has a right to change their mind, this could cost you substantial time and money in negotiations, and give you a bad reputation when you are ready to sell (and open your business up to breaches of confidentiality).

So, long before you enter negotiations with your preferred buyer, make sure you’ve asked yourself these questions to test your readiness:

Why do you want to sell?
Have you discussed the reasons with your family?
Do you have plans for life after business?
Are you ready to see your company in the hands of someone else?

3) Poor Deal Structure

Often, the deal structure and schedule for acquiring a company isn’t as straightforward as a one-off cash payment. With M&A deal structures like earn-out agreements and others now commonplace, there is potential for negotiations to fail if one side wants an immediate cash payment while the other supports a more gradual, contingent payment structure.

Overall, Dr. John Binkley and Generational Equity’s dealmakers advocate for as simple a deal structure as possible. Cash is king in the M&A industry, and this helps to ensure that both sides of the agreement understand its terms and can move onto their respective next steps.

However, with so many approaches to structuring mergers and acquisitions today, it is unwise to be completely rigid in your approach to negotiations. If you can keep it simple, that’s greatly preferred, but both buyers and sellers in this age need to stay flexible in options, while strong enough to push the approach they prefer.

There’s no hard-and-fast answer to avoiding this potential deal breaker, but it’s recommended to have an experienced advisor at the negotiation table that is familiar with balancing this sticking point. This is a key service that Generational Equity deal makers bring to every client engagement. They have the experience to negotiate deals that meet the financial needs of the client, even if it means withdrawing a deal where the buyer is not willing to negotiate the terms.

4) No Professional Advice

Finally, a major reason why M&A negotiations break down is a lack of professional advice. Most business owners will only exit a company once in their life, and therefore will be unfamiliar with how the M&A journey works. While they may be shrewd negotiators in their own industry, this often represents a very different environment.

Research by Intralinks into abandoned acquisitions has demonstrated that the number of legal and financial advisors retained by both sellers and buyers were the fourth and fifth biggest influencers of whether a deal would fail or succeed.

Professional M&A advisors, like the team at Generational Equity, have been through these negotiations many times over; they understand the obstacles in completing deals and how to best overcome them. Their experience in successfully closing transactions can prove priceless in keeping negotiations flowing and towards an ideal conclusion for both parties.

Avoid M&A Deal Breakers to Make the Most of Your Exit Plans

PitchBook’s insight into the value of M&A activity that have failed to be completed in 2018 should be a wake-up call to business owners considering their exit strategy. With such significant value in the balance, it can be all too easy for negotiations to fail from completely preventable situations.

Dr. John Binkley hopes that this insight into four M&A deal breakers and how business owners can avoid them will be beneficial when you decide to exit your company. Most of these circumstances can be avoided with the right team and expertise surrounding you, so make sure you contact a professional M&A advisory firm like Generational Equity to help you navigate the most challenging aspects of negotiations and the overall exit process.

If you’d like to learn more about potential deal breakers, negotiations for selling a company or other important aspects of exiting a business, visit Generational Equity’s insights page for regular, up-to-date guidance.