In the current economic downturn, does it make sense to acquire a business? Amidst scrambling sectors and fickle finance, is it even possible to make an intelligent decision about whether or not to acquire?
We asked Wharton lecturer Robert Chalfin about common mistakes buyers make when considering a new acquisition. He described five big ones: Bad timing. Say a business was valued during an up cycle when sales were great, money flowed and there was little competition. Later, in a down cycle, the business goes up for sale. The asking price: last year’s valuation figure. “After a while you become so enamored with the acquisition, you have this momentum,” says Chalfin. “But you need to have the ability to alter your plans if the deal doesn’t make sense.” He recommends assembling a team of advisers composed of other entrepreneurs and industry experts to serve as sounding boards. These advisers shouldn’t be afraid to tell you that the timing is bad and you should either walk away or renegotiate. Another example: Even if a buyer gets a great deal on an acquisition in a bad economy, will the business have enough cash reserves – and will the owner have enough intestinal fortitude – to weather the downturn? Good timing is about asking the right questions.
Lack of due diligence. “This goes beyond analyzing the numbers,” says Chalfin. “It involves researching the company and the industry, taking a step back and asking if it makes sense.” According to Chalfin, due diligence should involve talking with people in the industry. “I’ve seen a financial buyer focus solely on the underlying numbers, but not on how the numbers are shifting or what is changing in the economy that will cause a fundamental shift in the business model.” For example, you want to buy a retail store when the business is being seriously challenged by web retailers. The store’s numbers may look fine, but how about the future?
Failure to appreciate people in the target business. In many closely held businesses, says Chalfin, “someone’s title may not indicate what they actually do or how important they are in the organization.” The buyer may not understand how this person affects the business and may assume he/she can be let go. This may demoralize employees and send them scrambling for the exits. This does not mean a buyer must retain all the employees. But it does mean that decisions should be made carefully and communicated effectively, with sensitivity to possible consequences.
Failure to use appropriate advisers. Often, an entrepreneur will save money by using a family friend as an attorney or accountant. Problem is, the family friend may not know the industry – and the results can be disastrous. “The deal may not be structured right,” notes Chalfin. “Or tax code advantages have been ignored.” He says that using the wrong attorney or accountant risks undermining employment contracts, non-compete agreements, buy-sell agreements with shareholders or protections for intellectual property. A family friend who does not know the relevant questions to ask may overlook items such as the appropriate business insurance, IT functions and systems, or other critical elements.
Failure to understand how to integrate the cultures. “Everything changes over time,” says Chalfin, “even when there is no acquisition.” But especially after a business has been acquired, he says it’s important to communicate why and how things will change, and to be available to the employees so they can talk about their fears and concerns. “There are a lot of simple things people do that may cause problems,” notes Chalfin. “Changing the dress code, or benefits, holidays, email addresses, or how expense reports are submitted,” might not even be on the buyer’s radar, he says. Yet, these changes could have a profound effect on employees. “You need to know what is important to the business, “ says Chalfin, who is author of Selling Your IT Business: Valuation, Finding the Right Buyer, and Negotiating the Deal (Wiley & Sons, Inc.). He recommends talking to employees and getting as many people as possible involved in integration discussions. It’s okay to make changes to dress code, holidays, benefits or any other cultural aspect of the business – but not without communicating openly, clearly and through every possible channel.
Our next installments will cover how to avoid making these mistakes, how to do an acquisition right, and some of the advantages and disadvantages of making an acquisition in today’s economy.