An Idiot's Guide to M&A

What are Mergers & Acquisitions?

Both mergers and acquisitions refer to the purchase of a company. An acquisition occurs when the buyer (which can be a company or an individual) purchases another company, which is often called the target company - and takes control of that company. A great example is when Facebook (now Meta) acquired Instagram in 2012; in this case, Instagram remained as a separate brand but was controlled by Facebook.

A merger is slightly different. It happens when two companies of roughly the same size combine to become one new entity. An example is the merger of Exxon and Mobil in 1999, who took on a new name and structure in an effort to dominate the oil industry.

Why do some companies purchase others?

There are various reasons to purchase a company - and as mentioned above, it happens more often than you think.

Of course, a common thread is that the buyer wishes to make money. Buying an established company is faster, easier and often less risky than building one from scratch.

It is likely that the buyer will have some other advantage in mind, which will shape their buying criteria. Acquiring or merging with a company may allow the buyer to enter new markets (either geographically or new industries), give a competitive advantage over a rival, create synergies or reduce risk via diversification. Any individual or company who is purchasing another company likely has a unique reason!

And why do companies sell?

Similarly, there are many reasons why companies sell. An owner of a privately held company may simply want to cash out or retire. It may be that the company has a strategic reason for selling, or that they are struggling to survive or grow.

Finally, companies may not always want to sell. A hostile takeover refers to a situation whereby the management of the target company opposes the acquisition but it is forced through stock purchases.

Buy Side versus Sell Side

We typically refer to the two sides of an acquisition as the buy side and the sell side.

The buy side represents the person or company who is acquiring another company; the sell side represents the target company. This helps us understand the processes and representatives on each side of the transaction - for example, a buy-side brokerage is a brokerage company that represents a buyer.

Key Players

We've already met the buyer (an individual or company who is making a purchase) and the target company, or seller (the company that is being purchased). However there are a number of key players who are each likely to play a role in making an acquisition happen.

Here is a list of organisations and individuals who may play critical roles in making an acquisition happen, with a short explanation of their function.

Investment Bankers and M&A Advisors - Help identify potential targets, structure the deal, and provide financial guidance.

Brokers - Act as middlemen in private company sales, assisting with negotiations and valuations. Typically you will encounter either a buy-side broker (who represents a buyer and introduces them to target companies which they may wish to buy) or a sell-side broker (who represents a seller and introduces them to potential buyers). These two types of broker have very different motivations.

Financial Analysts & Valuation Experts - Determine the fair market value of the target company using various financial models. Often they may have a network of financing options that they can introduce buyers to. Financial Analysts can also help structure deals.

Lawyers (M&A Attorneys) - Handle legal due diligence, draft / review contracts, and ensure compliance with regulations.

Accountants & Tax Advisors - Review financial statements, assess tax implications, and help structure the deal in a tax-efficient way.

Lenders & Financial Institutions - Provide financing options, such as loans or credit facilities, to fund the acquisition.

The Acquisition Process

Most acquisitions will follow a fairly defined process, although this can of course vary hugely depending on the companies in question; larger and more complex acquisitions will of course have increased timescales and more detailed processes.

Strategy & Target Identification

Once a buyer or seller has decided that they want to complete an acquisition, they must define their objectives. A buyer will usually set certain criteria regarding the type of company they wish to purchase (for example, financial criteria, size of company, company industry). A seller may have a price in mind for a sale and some criteria regarding the ideal buyer.

At this point, a buyer will likely work with a buy-side broker who introduces them to potential target companies. These companies may be on market (companies who are publicly looking to sell) or off market (companies who are not necessarily looking to sell but are open to the idea once approached). Similarly, a seller may work with a sell-side broker who assists them in finding a suitable buyer.

When the buyer and seller are introduced, there will be an initial screening, based on preliminary information about the target company. At this stage, the information will be high level, covering financial health, market position, and growth potential.

Initial Contracts

If a buyer is serious about making an acquisition and the target companies owners, board or executives are suitably receptive, initial contracts must be signed in order to move forward.

At this point it is normal to draft a Heads of Terms (also known as a letter of intent) outlining the key terms of the deal - such as price, payment structure and timeline. This letter serves as a framework for further negotiations but is typically non-binding - anything agreed here is not necessarily set in stone.

A key part of this stage is also signing NDA's to protect sensitive information before getting to Due Diligence; to get an accurate valuation, the target company must expose key information - so it needs to ensure that this information is kept confidential.

Due Diligence

Now that contracts have been signed, we move to due diligence. This is an examination of the facets of the target company by the buyer and buy-side team to uncover potential risks and validate its value.

The main due diligence that you would expect at this stage (as a minimum) is financial and legal. Financial due diligence is a review of the company's transactions, balance sheets, cash flow, debt obligations and tax liabilities - to give as clear a picture as possible of the financial position of the company. Legal due diligence involves examining contracts, litigation history, intellectual property rights, and regulatory compliance.

We always advise buyers to go beyond the balance sheet and consider things that are perhaps not as tangible. Operational due diligence is generally important - assessing the supply chain, production processes, IT infrastructure, and business scalability. Cultural due diligence is often overlooked - what are the values of the company, how are people managed and incentivised, and other such questions.

Ultimately what the buyer chooses to look at (often with the help of their advisors or legal team) is their choice, and it is the responsibility of the buy side team to be thorough in order to create an accurate valuation.

Valuation & Pricing

When enough information has been gathered about a company, the buy-side and sell-side should both be in a position to offer a valuation that they believe is fair. There are many ways to do this.

This can depend on so many factors that generally no two companies or valuations are the same - but there are some standard ways to value companies which can be used as tools to help.

A good example is to use an EBITDA multiplier. We take the companies Earnings Before Income, Taxation, Depreciation and Amortisation and multiply this by a figure dependent on the industry. Construction and engineering companies, for example, may command multiples of 3.5x EBITDA whereas tech companies may be 8x EBITDA or more.

This is one of many ways to get a ballpark valuation, but it will likely not be the final agreed upon figure. Different valuation methods may be used for companies that are asset-heavy, experiencing rapid growth or other factors. Similarly, a valuation method can be used as a starting point but may evolve based on other factors in the target company.

Ultimately, the goal is to agree on a price that both parties are happy with.

Financing

There are several ways that a buyer can fund an acquisition - you may be surprised to know that companies are rarely bought as lump sum cash purchases, even when the buyer has enough capital available.

Cash Purchases are uncommon but not unheard of - in this instance, the buyer will pay the full value of the purchase themselves.

Stock Swaps take place when shares of the acquiring company (the buyer's company) are offered in exchange for the target company's shares.

Debt Financing refers to the borrowing of funds through bank loans, bonds or other financial instruments. Specialist lenders may also be utilised.

Leveraged Buyouts (LBOs) Are where the target company's assets are used as collateral to finance an acquisition.

Closing

When everything is agreed and financial arrangements have been made, the deal is closed. Various contracts are needed, including purchase agreements, transition service agreements, and non-compete clauses. The transaction is completed by the transfer of funds to the seller, and ownership to the buyer.

It is important to realise that many parties may be paid on completion - brokers in particular are often paid on deal completion, which aligns incentives. Also notable is the fact that some deals may require regulatory approval, to ensure compliance with antitrust laws and obtain necessary approvals from government agencies such as the Markets Authority in the UK.

Post-Acquisition Integration

After the excitement of acquiring a company after what can be a complex and drawn-out process, it may feel like time to celebrate - but really this is just the beginning, rather than the end!

Post-acquisition, there will doubtless be a period of integration as the new owners take over. This will involve organisational alignment and cultural integration. It will usually mark a shift in the ongoing plan for the newly-acquired company, as new owners begin to take advantage of synergies, deploy growth strategies and lead their company forwards.

Conclusion

M&A can seem daunting if you aren't familiar with it already - but once you scratch below the surface you'll find that the buying and selling of companies takes place much more than you may think, with companies of every shape and size.

We're here to help. Acquisition Advisory can assist both buyers and sellers. We have a team of experts who have led over 100 companies through acquisitions of various sizes, and a deep network of partners that can assist you in successfully acquiring or exiting your company.

For more information, book a no obligations call below!