The deal’s been on the table for months, and you’re about to sign. Then the other party makes a last-minute change to the terms. Is it fair and reasonable, or is it a sign of bad things to come? What do you need to consider?
About 50% of all M&A transactions succeed, which means about 50% of them fail, and some of the best deals I’ve ever done were the ones I never did.
On the eve of one of my closings, the seller stripped out the majority of its retained earnings, paid themselves a seven-figure bonus, and then forwarded the closing balance sheet to us. That certainly caught our attention. The seller was required as part of the transaction to deliver a minimum net worth (net assets minus liabilities), and the new figure came in over $1 million short.
The modified terms came to us without any notice — not even a “heads up” from the seller or its representatives.
This was a deal we had been working on for months. It was going to be accretive to earnings and give us a new key market, customers, and employees. The board of directors and bank group already approved the transaction, and a draft of the press release was on my desk for review and approval.
Going with your gut
I was a bit younger then and took things more personally than I would today. But I thought, how could they do this after months of rapport building and extensive due diligence? The last-minute change, without notice or explanation, was not an indicator of good faith or good business, so I wrote a letter calling off the deal.
The seller’s principals requested a meeting. They apologized repeatedly and even pleaded ignorance to what they did. In the end, we still decided to walk from this one and pursue other options.
Some people are of the mindset that you can change the terms of the deal like this. They think if the other side balks, they can just put the original deal back on the table. And if they don’t blink, then the changes must be okay. I am not one of those proponents.
In this instance, we were investing in not only the company’s customers, employees, and other assets, but also these owners. We would be working with them for at least three years, per the employment arrangements, and even longer if certain outcomes were achieved.
How can one move ahead with doubt?
We had to ask ourselves, if the seller slipped in changes at the last minute, what else was it capable of? The seller and its lawyers clearly knew the deal called for a minimum net worth requirement. It was discussed from the beginning of negotiations, and outlined in the term sheet, in every draft of the purchase agreement, and in the documents ready for signature at closing.
Was the seller planning to exit the business not long after closing without telling us? Was there anything else going on that we missed during due diligence? These were some of the questions we now had to ask.
As I wrote in Top 3 Reasons M&A Transactions Fail, if a seller or a buyer feels compelled to change the terms and conditions of a deal, especially the economics, they better have good reason (e.g., something surfaces during due diligence, a material miss of the forecasted numbers). And it should be conveyed transparently. NOBODY likes negative surprises. Bad news should be broken face to face, and followed up with in writing.
Staying above board
To prevent bad news from killing a deal, I always try to set expectations up front and early on in terms of potential “sticking points” of negotiations.
For example, if I am representing the buyer, I let the seller know that a material miss of its forecast could change the economics of the deal. If I am representing the seller, I let the buyer know that some of the “sticking points” could be the indemnification amount and period under seller representations and warranties.
Unless you feel there is a material change in circumstances that could negatively impact the transaction as you understand it, DON’T make last-minute deal changes. If you are going to change things, then make sure you have a material good reason and you do it above board and straight across the table. Otherwise, the deal could get ugly, damaging both the seller’s and buyer’s reputation. And there is no doubt that reputation always counts.
Steve Pomeroy is the founder of Big Change Advisors, a unique M&A consulting firm in Los Angeles that helps businesses achieve big goals while making a big impact on society. To request a free consultation, contact us.