The legal terms for buying or selling an existing business is M&A or mergers and acquisitions. An M&A offers a great way to expand your business or enter a new industry. It can be a great way to enter new markets by piggybacking onto established brands, customer lists, or even equipment and procedures.
Nothing about a merger and acquisition is easy, though, and there are common mistakes committed while purchasing a new business. Taking the time to analyze the target company and be thorough during the M&A process is key to reducing costly mistakes.
What are the common mistakes committed while purchasing a new business?
Business attorneys often offer legal assistance to companies going through mergers and acquisitions. I have seen a lot of successful mergers and acquisitions and a lot of very unsuccessful ones too. Generally, a lot of mistakes boil down to the same seven things. The seven mistakes we discuss in this article are easy to avoid but can cause legal, financial, and operational issues for your company.
It is not only small businesses that make these mistakes; big companies have made them too. You should be aware of these common mistakes even if you hire a business lawyer to help you with the process. They will help you to avoid pitfalls and understand the reasons behind certain recommendations.
Without further ado, here are the 7 common mistakes I see when buying a business.
Mistake 1: Committing Because of Sunk Cost
It’s an odd human quirk where the more time, money, or energy we pour into something, the harder it is to simply cut our losses. At every point in the purchase process, you should evaluate the deal to see if it still makes good business sense. Otherwise, you’ll fall victim to what economist call the “sunk cost fallacy.” A sunk cost is an unrecoverable sum of money, often lawyers or analyst fees or deposits. Sunk costs may also refer to opportunity costs, where you passed up other opportunities because you were financially or emotionally committed to the M&A.
Your mind will tell you that you have invested X amount of dollars into the deal, and the only way to get that turn that cost into a profit is by continuing on with the deal. However, there is no rule saying you need to recover your sunk costs through the same deal or project. You can recover those costs through a new project or deal. Do not ignore red flags just because of sunk costs.
Mistake 2: Peace-Keeping Decisions
Do not make an operational or branding decision just to keep the selling party happy. This will be your company to run; however, you want to. And allow me to let you in on a little secret: A quick transition and the right price will be the most important aspects of closing a deal. If you make a decision solely to keep the peace and push the sale through, it will affect the long term success of the company.
In my career, I have seen business owners retain and even promote managers who the numbers indicate are not very good at their job. I have seen them agree that the company can retain its branding. I have also seen buying businesses guaranteeing employee salaries or benefits. Ultimately, you need to make operational decisions based on the numbers and how you like to do business. While you don’t want to become a dictator, you cannot let the seller dictate how you will run the business. They are selling it, after all.
The same goes for a merger. If you plan to retain some of the structure or employees of the company, you need to create harmony. However, you need to look at how that will work best for your business. Do not make promises to the seller that you do not intend to keep. Focus on the purchase price and make decisions based on your analyses.
Mistake 3: Not Creating Incentive Plans
Many employees will start looking for jobs when they hear that their company is being sold. They may favor a new job over the unknown of new management. If employees are an important aspect of the merger and acquisition, then you need to incentivize employees to stay. Otherwise, all the excellent employees will find jobs elsewhere.
Salary is an important part of keeping existing employees around. You should aim to keep their salaries the same or increase them to keep them in line with industry standards or your current company’s pay scale. However, benefits and incentives are another way to retain employees. You might consider offering the following things:
- Bonuses for staying
- Profit-sharing plans based on performance
- Equity incentives
You need to offer these early on; once employees start receiving offers, it may be too late to keep them on. Make the incentive plans really easy to follow and provide easy metrics so the employees can work out what they may receive.
Mistake 4: Not Taking The Time to Select the Correct Deal Structure
There are numerous different deal structures that fall under the M&A umbrella. However, most deals will fall under the mergers part of the term. A merger is when the buying party purchases the assets or stocks of the selling party. If you buy the assets, then you will purchase each individual asset names in the Bill of Sale, Assignment, and Assumption Agreement. If you purchase the stock, then you do not purchase the assets; they remain under the selling party’s name. Most buyers want to buy assets rather than stock, so they are not stuck with the business’s liabilities.
A buyer must take the time to carefully pick through what they want to buy and what they do not. You want to buy assets, not liabilities. The assets you select should be ones that you can increase the value of.
A merger and acquisition deal often involves much negotiation. The buyer often wants to buy assets rather than stock. The seller wants to sell stock, not assets. This is because the seller wants to offload their liabilities too. You need to conduct these negotiations with care and ensure it will still be a profitable deal for you, whether you are the buyer or seller.
Mistake 5: Infrequent or Ineffective Communication
Both parties of the merger and acquisition are often extremely busy, but you need to remember to update your employees regularly. They are on the frontlines making money for the business and will often be anxious about their future with the company. Remember to communicate regularly with your employees and keep them in the loop.
Ensure that you communicate once or twice a week with all major stakeholders to ensure everyone is up to date and knows what they should be doing. Have someone take notes in the meeting and send out emails reinforcing the roles and assignments of each party. By communicating frequently, things will not get missed, and progress will be faster.
You should also communicate regularly with the seller; schedule weekly calls for a consistent time every week. This will give the seller a platform to share vital information and express any doubts or concerns about the sale. You do not want poor communication to make the seller think that you are no longer buying their company. If you do not have anything to share in the meeting, keep it as a 10-minute call to summarize where you are in the purchase process and what the next step will be. If the seller is staying on in the company, this will ensure the relationship will start strong.
Mistake 6: Creating Complex Integration Teams
A buying company may form a number of small teams who are in charge of different stages of the purchase process. This can be very good, but this can also lead to unnecessary complications. Ensure there is a clear and simple process and a set communication schedule. Each team needs to be clear of when they should communicate with employees and what they should communicate to them.
Keep the groups small; this will ensure they can meet regularly and that they are able to discuss issues and reach consensus easily. Once a group is larger than five people, clashing schedules can make it difficult to set a time to meet. If a task does not need a committee, then it should be assigned to one or two people instead.
Townhall meetings are a great way to involve employees and give them a forum to raise any concerns without bogging down the process. A mergers and acquisition process can drag on for years if there are too many cooks in the kitchen.
You should have one designated person who is the point of contact for the seller. Likewise, the seller should have one designated party who is the point of contact for the buyer. This will streamline the process and prevent having to “catch up” new people. Nobody wants the emails with the ever-growing CC list and five different email chains. That is a recipe for disaster and only ensures vital information will get missed or overlooked.
Mistake 7: Not Being Flexible
Flexibility is a key part of a successful merger and acquisition transaction. Even the best laid plans can be derailed. Instead, think of your plans as a guide structure to update as new information comes to light. Every transaction will have its share of unexpected problems. You need to be flexible enough to adapt to them.
Primary amongst flexibility concerns is to ensure there is enough flexibility in the purchasing timeline. Do not tie yourself into a closing deadline that won’t allow you enough time to perform due diligence checks. Flexibility can be gained in contract wording and negotiated in advance with the seller.
You will also need to be flexible in your communication schedule. If there are rumors amongst employees or even in industry news, you need to communicate with the seller’s employees immediately. You will, of course, need the seller’s permission to do this, but they should be as motivated as you to retain employees. If they lose employees, it will reduce the value of their company.
Planning ensures that important issues are not overlooked, but lay your plans with a degree of flexibility. This will allow you to adapt to and address situations as they arise. The right M&A transaction is more valuable than a done M&A transaction.
Conclusion
These common buyer mistakes will help you create a solid plan for your M&A. Even if you have a professional team on hand to advise you throughout the process; you need to be aware of the common pitfalls and how to avoid them. Buying a business is often the biggest transaction most people will face in their life. It is too easy to become overwhelmed and let your emotions rule the sale. By avoiding the mistakes in this article, you will give your merger and acquisition transaction a better chance at success right out of the gate.
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