Time Again for the Annual Channel M&As Rush

mergersIf it’s December, it’s time to start thinking about selling your business. The passing of U.S. Thanksgiving and Black Friday not only marks the beginning of the holiday shopping season, but also the time when solution providers look to sell their businesses and cash in on their years of hard work and investment with M&As before the end of the tax year.

For many solution providers, December is the perfect time to buy or sell a business. Buyers can write off much of the acquisition expense, particularly the legal fees. Sellers can reap the best capital gains, as well as hide much of the equity cash through earn-out arrangements.

Here at Channelnomics, we hear all the time about solution providers buying out peers or looking to sell their businesses. The chief reasons are 1) looking to simply cash out because they perceive others are doing the same and 2) not wanting the burden of running their businesses.

Some have said that every solution provider needs an exit strategies or an ultimate objective for their business. That notion is debatable since there are plenty of technology companies without exit strategies. No one would ever ask Cisco or Microsoft what their exit is. For small businesses, though, a long term object is one of four options – sell to a larger company, merge with a similar sized company to form a larger enterprise, sell stocks and become a public company (IPO) or continue operations as usual.

For the purposes of this discussion, let’s focus on the rationale behind M&As. First, before you sell or merge your business, ask yourself the following questions.

1)      Why are you selling/merging?
Many solution providers see their businesses as a bank account, in which a sale is their payoff for years of hard work. Few see a sale or merger as a means for growing or achieving some higher state. Be clear for your reason for selling a business. If you’re selling just to cash out, chances are you could sell short of real value or opportunity value.

2)      Why are you buying a business?
Too many solution providers treat a business purchase opportunistically. They do acquisitions out of some gut sense and following what they perceive others are doing. Many solution providers will buy another company with not strategic intent just for the bragging rights. In reality, you should think about what you gain from the deal – resources, customers, vendor relationships, etc. Mergers and acquisitions should be about expanding into adjacencies – the company you acquire should fill a product, capability or geographic gap.

3)      What are your goals for an M&A deal?
Amazing, but true, many mergers and acquisitions in the channel have no strategic intent. Sellers aren’t looking to fold into larger organizations to tap resources that will help them fulfill their vision. Buyers aren’t looking to capitalize on acquired resources to grow their businesses. Many solution providers mistakenly think the combination of balance sheets is the objective. It’s not. M&As should be about what can happen as a result of the deal, not what the immediate net product of merging assets.

4)      Why sell in the first place?
Sounds like a simple question, but one worth asking – why sell? Solution providers often lament about how hard they’ve worked to build and manage their businesses, and how they deserve the rewards of their efforts. True enough, but do the math. If a solution provider is worth $5 million on the open market, and sale will net roughly half after taxes, expenses and whatnot, then the proceeds is about $2.5 million. Not a bad payday. However, if that same business is throwing off 25 percent a year in profits, say $500,000 a year, then you’ll make more over the next 10 years by doing what you’ve always done rather than selling out. The question really isn’t why sell, but rather why wouldn’t you keep doing something that is productive and profitable. If you don’t have a good reason for that, you shouldn’t sell – especially since few solution provider businesses fetch early retirement money.

5)      Why buy?
Same question as above, but from the buy side. Solution providers often perceive an acquisition as a means for quick growth, just as the large vendors do it. In reality, many M&A deals between solution providers are unnecessary. Solution providers can often achieve better growth and stability through organic investments than acquisitions. They just don’t because of perceived risk.

6)      What are you really worth? What are your opportunity costs?
A common misconception permeates the channel that solution provider businesses – particularly managed service providers – are worth millions upon millions. Truth: Few businesses are worth what owners perceive and valuations vary based on market conditions, business models, trailing performance and future potential. If there’s no compelling reason to sell today and there are future opportunities that will increase the value of your business, it’s probably best to keep the “For Sale” sign in the closet.

7)      Failure is an Option
This isn’t so much a question, but a statement to recognize. Most mergers and acquisitions, even the most celebrated deals, fail. Some estimates place the failure rate at 80 percent. Failure doesn’t mean that the deal ruined the two companies (although that is sometimes the case), but rather that the deal failed to live up to expectations or achieve strategic objectives. In other words, the acquiring company is no better off than when it started. M&A deals don’t just happen, they take time to unfold and attention to nurture to success. Failure is an option, so you have to ask whether you’re fully committed to seeing the investment through to its fruition.

There are many more issues and consideration when thinking about mergers and acquisitions. These are just a starting point. Whenever conducting a business purchase or sale, it’s best to seek professional legal and accounting counsel to ensure all the details are covered and risk is kept to an acceptable level.

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