Most deal processes will have their share of challenges. And while not all of them are terminal, some are.
“We have a saying around the office: Fall seven times, stand up eight,” says Premise Health CEO Stuart Clark. “And I think it applies to deals.”
A bad management team, an organization too reliant on its CEO, a seller that lacks integrity or those that get hung up on all the wrong issues are just a few of the things that can lead a buyer to wonder whether it’s possible to move forward.
“You can't quit until you get to a terminal place where it’s just irreconcilable. And that could come from any direction,” Clark says. “But you're going to fall, and the deal is going to fall apart. Usually several times. Just keep standing back up until it doesn't make sense.”
At the inaugural Dealmakers Conference in Nashville, Clark talked about a few of the ways that deals get derailed.
Culture is key
When Clark enters diligence on a deal, it’s usually the leadership team that gets the most scrutiny.
“If, as the acquirer, we decide we need that executive team, and they are reluctant to put some of their proceeds into the cap table, that's a red flag for us,” Clark says. “If we get a sense that the CEO perhaps is not accurately representing the intentions of the key executives that actually keep the trains running on time, that will raise a red flag for us. So assuming the math is the math and the price is right and they can get through the other nits and gnats of diligence, for us, it really comes down to team commitment going forward.”
Clark says that early on in his career he downplayed concepts like culture and team, opting instead for a finance- and execution-driven mindset.
“And I've come to learn that, in fact, that is that is not the primary way to look at a deal,” Clark says. “Yes, the math has to work and all that, but at the end of the day, culture is really the key driver.”
Other red flags in a potential acquisition center on the CEO and how critical that person is to the continuation of the business. If there is a cult of personality around the CEO, or if the CEO is the client guy, it could be difficult for the organization to move forward cohesively without that person.
“We have to evaluate whether those teams are going to be able to step up and join a more professional structure and have the ability to get aligned, even when they don't necessarily agree entirely with the decision,” Clark says. “And when we find that those teams are not able to, or that a couple key players are not going to be able to make that transition, that gives us pause. I would rather overpay for a company that has a great team that's going to immediately understand our culture and work to be successful within it then pay a bargain price for something that we think we're going to fix without that team.”
Trust is important in a deal process for Clark. He says when he first meets the management team of an acquisition target, they start with a full bank of what he calls trust capital. During a process, he says it’s all but inevitable that diligence will reveal issues that make the acquirer wonder whether the deal should be retraded. Whether it's quality of earnings, or the backlog doesn’t seem as if it’s going to hold up, or the pipeline conversion rate has changed, or they're getting sued by a client, something, he says, is going to come up.
When this happens, Clark says he’ll sit down with the CEO and ask about the issue, then ask if there are other issues that could be problematic.
“This is our one chance to get it all on the table,” Clark says. “And in more than one situation, the fellow sitting across from you said, ‘That's it.’ And then we found out there were a couple other things. And at that point, it didn’t matter how big or small they were. I was questioning his integrity. And so we're done at that point.”
The situation has also gone the other way, Clark says. During a similar discussion around an issue that came up, Clark has asked the CEO how the company would deal with the issue during the next year if there were no pending transactions. And when those answers were satisfactory, there was no retrade. In those situations, the deals worked out for all parties involved.
“We look deeply into the eyes of the sellers, and the minute we think that there's an integrity or trust issue, we’re out,” Clark says. “Because if it's going to happen in that situation, you can bet it's going to happen five more times over the next couple of years.”
Speaking the same language
In doing deals, acquirers will inevitably encounter inexperienced sellers — those who have never been through a deal process. That can lead to mistakes that delay, or possibly derail, deals.
Clark says that in these situations, investment bankers and lawyers can bring welcome structure to a deal process that’s incredibly helpful to the seller and the buyer.
“As a buyer, if there is an adroit banker on the sell side, we know that he or she will understand our vernacular,” Clark says. “They will understand what our expectations are by way of output. And they can help guide the seller through what can be a Byzantine booking process, especially to many first-time sellers.”
This, he says, makes a strategic buyer’s life easier and the velocity of the deal faster.
A banker can help bring some organizational process to a deal, while experienced counsel can help sellers understand which issues to let go and where to draw the line in the sand, something that not all sellers can intuit.
“So many deals get delayed because people are just picking the wrong battles,” Clark says.
He says sellers are often concerned about how employees or customers will be treated after a deal closes, especially if the founder exits after the transaction. However, what it’s going to look like over years that follow can’t be known.
Buyers can talk about their approach to integration and the opportunities for growth for the remaining team, but there are also things that can go wrong.