Entrepreneurs and business owners each have a unique way of viewing the world. Those variances are what make it exciting and stressful, exhilarating and exhausting. The passion to broker a deal and create a new opportunity for business growth is what drives dealmakers to actively pursue what they hope will be the next great deal.
Here’s a look at the world of mergers and acquisitions from some of Pittsburgh’s top dealmakers:
Rich Lunak, President and CEO, Innovation Works
“Prior to closing an investment, entrepreneurs need to understand the role the investor intends to play and be comfortable with that role,” says Rich Lunak, who leads one of the nation’s most active early-stage investors, Innovation Works.
It’s common for entrepreneurs to mistakenly perceive that an investor wants to own as much of the company as possible, significantly diluting the team. They also fear that investors want to manage the company.
However, Lunak says, following the initial investment, investors continually ensure that the entrepreneur has an adequate ownership interest to keep them motivated for a successful exit. They also want to support the entrepreneur in building a high-performance management team.
They like to add value by providing introductions to customers, partners, key hires and more. Investors have no interest in managing the day-to-day operations.
“Do your homework on the investors you are pursuing; know what types of companies they have invested in, check sizes, typical stage of investment, domain knowledge, what are their successes, fund size, dry powder, etc.” he says. “Due diligence is a two-way street — entrepreneurs need to do their homework and ask for references.”
Entrepreneurs who are considering selling need to have their financial records, customer contracts, HR records, etc., in order. Lunak says a poor internal control environment can cause the potential investor to have concerns about the quality of information he or she is receiving.
“Having audited financial statements with ‘clean’ opinions coupled with a management report with no significant internal control weaknesses is very important. Also, it’s important for the selling party to support their exit valuation. Having recent market M&A transactions and public comparables can help entrepreneurs justify their selling price expectations,” he says.
Sometimes it makes sense to hire an investment banker to add value. He or she can help craft a compelling story, tighten up the messaging, support valuations, introduce a new group of potential buyers, leverage industry relationships and play a key role in negotiations.
What are common misconceptions that entrepreneurs and business owners have of potential investors that make it more difficult to earn their support?
“It’s a big misconception that the bank needs to be kept in the dark, but we try to bring our banks into our process. We rely on these partners to be part and parcel of the business decisions we make every day.”
— Howard W. “Hoddy” Hanna III, chairman, Hanna Holdings Inc. and Howard Hanna Real Estate Services
“Owners have always been in control of the business and believe they will be treated as an employee to be controlled by the investor — I don’t think I will make a good employee — not realizing that in many instances, the investor is looking at them more as a true partner with a valued opinion.”
— John F. Herubin, managing director, EdgePoint Capital
Jack Glover, Partner, Incline Equity Partners
Jack Glover’s interest in investing was piqued at age 13 when he asked his father for stock in Sharon Steel for his birthday. Over the years, he has learned that culture is the most important consideration in M&A, and can make the difference between a successful deal and a bad deal.
“In order to align cultures, you must spend significant time together; the acquirer must spend time at the target and the target must spend time at the acquirer,” he says. “Culture, like everything else, only improves with time and effort.”
At Incline Equity Partners, Glover is responsible for all aspects of investment management. He says the four critical elements that make the difference between an OK business deal and one that leads to substantial profit are the quality of your partners, whether the incentives are aligned with the partners, whether the expectations are correctly aligned and whether both sides of the deal have the same operating philosophy.
Glover suggests when selling, a business owner should choose his or her capital partner very carefully, ensuring the alignment and expectations are clear. While numbers are important, people are even more critical.
“Most deal professionals spend time on the numbers and neglect the people aspect,” he says. “If you focus on the people — customers and employees — the numbers will take care of themselves.”
That’s why it’s critical for business owners to spend time objectively evaluating the team, in order to make changes. No company ever has too many good people, Glover says.
What is the biggest mistake you ever made when making a merger or acquisition and what did you learn from it?
“Letting the team outsource commercial due diligence to an ill prepared consulting group. It’s OK to have extra arms and legs to do the analysis and support the team, but the ‘owner’ of the business going forward needs to drive the analysis.”
— Dan Milich, president and CEO, Shrugged Enterprises LLC
“In my early-stage life sciences world, deals are usually structured with milestone earn-outs. Depending on the stage of the company, the earn-outs can range from 20 percent to 80 percent of the total transaction value. Be sure that your earn-outs are well thought out and achievable. If they are not, you may be shortchanging yourself and your shareholders.”
— Pete DeComo, chairman and CEO, ALung Technologies Inc.
“Too much was assumed and not enough verified. I learned that ‘trust and verify’ is an essential part of the process.”
— Bob Petrini, president, Chick Machine Co. LLC
Catherine Mott, President and CEO, BlueTree Capital Group and BlueTree Allied Angels
Entrepreneurs can be too quick to characterize investors or approach investors to make an inquiry without having done extensive homework. This, in turn, means they are likely missing an opportunity for funding, Catherine Mott says.
Mott is not only plugged into Pittsburgh investing through BlueTree Capital Group and BlueTree Allied Angels, she is also past chair of the Angel Capital Education Foundation and chair emeritus of the Angel Capital Association.
Mott says entrepreneurs have to stay professional.
“Investors are limited in their capacity to fund deals. They can’t fund everything. Entrepreneurs need to understand a decline to invest is not personal; instead, it’s a signal to move on to another investor,” she says.
Over the years, Mott’s biggest M&A mistake was not hiring an investment banker to assist with the exit strategy and negotiations. As a result, the transaction lost money.
She’s found a few elements that really make a difference for a successful business deal:
- A well-balanced CEO who can attract and retain a talented team.
- A nimble differentiated strategy; changes in technology impact market drivers, and thus require a strategy that permits quick action to iterate and adjust accordingly.
- A supportive board and group of advisers.
- Barriers to entry to protect the organization’s position in the marketplace.
What are some common pitfalls associated with the M&A process that you’ve seen people make, and what suggestions do you have for others, so they don’t make the same mistakes?
“You need an operating champion. Acquisitions mandated from the corporate office fail without a hands-on champion that makes sure the integration and strategic benefits are achieved. Avoid deal fever; take your time and be rational. Every deal has to be strategic. There can be ‘great buys’ in terms of valuation, but that is usually an indicator of problems.”
— Patrick D. Dugan, Chief financial officer and senior vice president, Wabtec Corp.