Lander & Rogers M&A partner David Morris tackles the playing field for mergers and acquisitions, following the high-profile Zimmermann deal this year.
M&A activity in Australia has been markedly slower in 2022 and 2023 than it was during COVID-19. This slowdown has been caused by a combination of things including the increased cost of capital caused by rising interest rates, inflationary pressures, geopolitical tensions and a natural normalisation of deal activity to levels more in line with pre-COVID-19 levels.
These factors have resulted in buyers taking a more cautious approach to deals, and consequently transactions are taking longer to close and buyers are looking to de-risk deals by putting deferred consideration mechanisms in place (such as earn-outs) or asking sellers to take a greater percentage of the purchase price in shares in the buyer (to create a shared risk approach).
Buyers are also seeking stronger warranty and indemnity protections and there is an increased focus on due diligence. The retail sector, which has been particularly hard hit, is likely to continue to experience challenges in the near term in the deal market as consumers reduce their discretionary spending.
It is, however, certainly not all doom and gloom. There is an increasing sense in the market that there will be an uptick in deal activity in the course of the next year, subject of course to the broader geopolitical position not worsening. This more optimistic mood is being driven by the belief that interest rates are at or near their peak, COVID-19 induced supply chain issues have stabilised, our exchange rate makes quality Australian companies attractive to foreign buyers, and there are many trade and financial buyers who continue to have significant funds available to be deployed.
Zimmermann's recent majority acquisition by private equity firm Advent International, which valued the Australian fashion brand at more than AU$1.5 billion, demonstrates that dealmakers are ready to do business when they find the right target. While deal activity will primarily be in the unlisted part of the market there is an expectation that we will see an increase in public-to-private transactions, as well as proactive players assessing their existing structures and seeking to spin off parts of their operations (as is currently being contemplated by Premier Investments' possible demerger of its Peter Alexander and Smiggle brands).
Owners looking to sell in the current environment can take a number of proactive transactional steps to help maximise their chances of achieving a successful sale.
Perform due diligence on your business before you look to sell
One of the worst situations that sellers can find themselves in is the buyer discovering problems with the business in the middle of negotiations. This will invariably lead to price chips or in some cases the deal collapsing, particularly in a slower deal market. As a result, before going to market sellers should undertake due diligence on their business to ensure any areas of concern are identified and, to the extent they can be, remedied before potential buyers start looking at the business.
Identifying legal risks before you go to market is of particular importance. This is where your relationship with your lawyer will be paramount ─ they will work closely with you to understand your business, where areas of risk may arise, and how you can address these risks.
Understand how the market is pricing businesses in your sector
It is important for sellers to understand how the market is valuing businesses in their sector, as this will materially impact the decision as to whether this is the right time to go to market. A corporate finance adviser plays an important role in this process as they can help sellers understand how the market is pricing assets ─ so as to avoid a mismatch of price expectations between the seller and buyer ─ as well as the pressure points that buyers will focus on from a financial perspective.
Know your growth story
Sellers need to be able to clearly articulate their story and understand to whom they are looking to sell their business. For example, if a seller is looking to sell to a financial buyer (like private equity) it is important to be able to present a clear vision as to how the business can be scaled through the injection of capital by the buyer (such as global growth or creation of complementary product lines), as the ability to significantly grow businesses post-acquisition is core to their investment model. By contrast, while trade buyers are also focussed on growth they may often be equally interested in businesses that will create strong synergies with their existing businesses, provide them with access to new technology or help them to secure supply chains. Knowing your likely buyer pool will allow you to tailor your approach and provide a focussed proposition to them.
Prepare to be flexible
Due to the more conservative approach currently being adopted by buyers, sellers will often need to be quite flexible during the negotiation phase. Buyers will likely look to put structures in place to de-risk the deal for them (such as earn-outs). It is important to speak with your lawyers and corporate finance adviser as early as possible to understand what structures buyers may seek to impose, so that you are not surprised during negotiations and can react quickly in an informed manner.
Selling the business that you have worked for so many years to build can be an incredibly stressful process, particularly as it is not something you do every day of the week. Obtaining advice well in advance of going to market from lawyers and corporate finance advisers who understand the deal market is a critical step towards achieving a successful outcome and, importantly, reducing stress levels throughout the process.