Getting Its Due

Not so long ago in the food and beverage industry, mergers and acquisitions were hot. Go-go CEOs caught M&A fever and dashed to the altar – the promises of strategic and operational windfalls simply too alluring to resist. Due diligence of a target company often was merely the unglamorous rehearsal before the ceremony. Then came the crash of 2008 and, in the M&A world, the fire went out.

Today, deals are coming back. But the old stone-skipping ways of evaluating a target have been replaced by a new respect for dull, old due diligence. Buying executives have realized that early stage financial investigation is essential for success, and that it can make or break a deal. Roughly a third of the industry’s proposed deals now are abandoned, about double the number from 2006-07, and many of these come after due-diligence investigations bring up issues too big to overcome.

So what should today’s buyers consider, and watch out for, in the process? On the other side of the deal, what can the seller do to speed and cement the closing, with a final, fair valuation?

Buyer Be Aware

With deal-scrutiny levels higher than ever from regulators, investors and even vendors, seat-of-the-pants buying is not flying anymore. Smart acquirers are following plans still driven by strategy and operations but tempered by horror stories of hurried deals gone bad. Today’s prep work seems simple – and it is. Here’s one way to start:

  • Put the proper team in place. Fortunately for a buyer in food and beverage, M&A pros are a relatively small group with deep expertise. Team members will include attorneys, CPA firm, lenders familiar with the industry, and possibly a PR firm, among others.
  • Next, think deeply about the integration plan, even before the traditional process begins. As uncounted merged companies will attest, the deal-making itself is the easy part. Successfully blending operations, back-shop functions and management philosophies can consume a newly configured company.
  • Then, have your accounting firm dig into the target’s books. There is no room for error in due diligence. Diligence providers must:
    1. assess key assumptions,
    2. quantify risks and opportunities,
    3. link the seller’s story with actual results,
    4. translate financials into critical issues,
    5. maximize post-acquisition results through structuring and
    6. enhance the post-acquisition integration plan early.

Because companies are conducting more and better due diligence, the process can take time. For middle-market companies, expect three to five weeks from initial engagement to final report. A large or complex deal can take longer.

Uncover Everything

The diligence process explores the seller’s revenues, gross margins, expenses, leases, labor and benefits, corporate allocations, working capital, accounts receivable, inventory, fixed assets, accounts payable, accruals and, to a lesser degree, financial forecasts.

Financial due diligence is not valuation; that’s up to the buyer. Accounting firms assess whether or not the seller’s financial statements are accurate and representative of what the buyer believes they are getting.

Sellers, particularly if they are smaller, may not be up-to-date with generally accepted accounting principles, Sarbanes-Oxley guidelines and other rules. In addition to simply getting the numbers right, diligence can also uncover poor management practices and some items inadvertently overlooked (i.e., opportunity for the buyer).

While assurance advisors do not set the strategy nor do they determine whether or not a deal closes, they do offer comprehensive advice to help buyers make informed decisions. CPAs confirm an accurate financial picture; buyers, most of which are seasoned and sophisticated, apply the judgment.

Target companies sometimes push back on the diligence process. They have businesses to run, with limited management time for labor-intensive probing. But they also must realize that due diligence is necessary if they are serious about selling.

What Can the Seller Do?

Real sellers – and not everyone really wants to sell – are eager to sell. They want to get to the table quickly, get the dollars right and close cleanly. But thorough due diligence will undoubtedly uncover issues important to the buyer. Most small- and mid-market sellers have not been through the acquisition process before and likely are not aware of factors that determine a valuation. Even sophisticated sellers seldom identify all of the issues, which can lead to unfortunate renegotiations late in the game.

As a preemptive effort, even before a seller puts itself on the market, a growing trend is to conduct sell-side due diligence. Typically with sell-side due diligence, an investment banker works with the seller to engage an accounting firm. The accountant employs much of the same processes it would use if employed on the buy-side.

For both buyers and sellers, then, due diligence has taken on a new, leading role. When companies plan to get married today, they want a long and smooth walk down the aisle.

Wade Kruse is a partner in the Transaction Advisory Services practice of Grant Thornton LLP. He has managed diligence engagements for hundreds of transactions, and has a concentration in the food and beverage industry. He can be reached at wade.kruse@us.gt.com.

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