Problems
The secret to successful transactions lies in preparation.
Just as no two companies are the same, no two transactions are exactly the same. If we also take into account the peculiarities of the Hungarian business environment, the picture is even more complex. Therefore, whether it is about buying a company, selling a company, or changing generations, thorough preparation is key. While this may seem trivial, over the past two decades we have seen many acquisitions derail due to inadequate preparation.
Let's see what are the basic dimensions along which we must examine each transaction.
Acquisition
The Numbers and What Lies Behind...
Naturally, every owner strives to present their company in the best light possible. Therefore, if the buyer fails to thoroughly examine the target company's financial statements, reports, tax-related analytics, customer-, supplier-, and financing contracts, as well as other essential documents with experienced eyes, critical points and risk factors might remain hidden, leading to serious issues after the takeover.
It's conceivable that the seller may have embellished the balance sheets of previous years through various accounting maneuvers, or the company may have agreements in place that involve undisclosed financial commitments. Similarly, the company may have tax liabilities stemming from previous operations, or it may be subject to litigation or regulatory actions that could affect its future operations.
However, these risks can be minimized in a well-prepared transaction, with the majority of them being identified in a timely manner during due diligence with the involvement of a reliable professional.
Realistic, Financially Sound Pricing – How Much for What?
First and foremost, it's important to recognize that there is no exact figure that expresses the objective value of a company. The generally accepted valuation methodologies will result in different company values for each buyer. The realistic value is heavily influenced by the new owner's business policy, pricing, and growth strategy, as well as the extent of synergies achievable through the integration.
What are some factors to consider when determining the optimal purchase price?
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In case of a profitable business, considering the company's continuous income-generating capability, the enterprise value always exceeds the value of its assets. Therefore, instead of asset-based valuation, two internationally accepted methods should be used: the discounted cash flow and the market comparison.
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When determining the offer price, it is essential to adjust the business valuation for the value-reducing effects of risks identified during financial, tax, and legal due diligence.
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As certain target numbers influencing the company's value (such as cash and liabilities) may change between the signing of the sale and purchase agreement and the completion of the acquisition, it is advisable to handle this in the contract by incorporating a floating purchase price component determined based on a pre-defined calculation methodology.
Human and Cultural Risks
An important question: what ensures that the previous owner, who has been managing the company for decades, does not establish a new competing company and redirect the customer and supplier relationships built over many years into it? This is a serious risk, which can be addressed partly by non-compete provisions, partly by deferred payment clauses of the purchase price, and by other sanctions as well.
Experienced employees who are well-versed in the industry and market players play a significant role in maintaining business operations and preserving the company's value. Therefore, the departure of key personnel also poses a risk, which should be addressed through specific provisions in the sale and purchase agreement.
The different corporate cultures and business processes of companies can also pose challenges during integration. Unfortunately, buyers often overlook this aspect, though it can significantly hinder the achievement of business objectives and efficient operation.
Generation change and company sale
A significant portion of family businesses established during the transition period are still led by the first generation, whose retirement predominantly falls within this decade. Naturally, all of them would like their children to take over the management of the business they have built over the decades. However, it is revealing that according to international literature, only 15%-17% of businesses succeed in first-generation succession, while the success rate drops even further, between 8-10%, for the second generation.
One reason for this is that the founding owner may not be able to objectively and dispassionately assess the suitability of their successor. Another significant problem is that these companies lack succession plans or strategies on how the company can remain successful after the founder's retirement. Succession planning goes far beyond passing on the leadership position. By this time, the company's operations should be independent of the founder, just as if preparing the business for sale. Clear, unambiguous task and responsibility allocation, establishing a decision-capable management team, integrating independent control points from the founder, in other words, making the company autonomous, is essential for a smooth transition.
If there is no successor within the family and the retiring owner decides to sell the company, the process becomes even more complex. In this case, not only does the company need to operate independently of the founder, but also identifying anomalies and risks inherent in its operations becomes essential. This allows us to optimize processes, address identified issues before entering the market, and develop a pricing strategy that surpasses the value of the company's assets, maximally realizing future business opportunities.
Crisis management
In the continuously changing and turbulent economic environment, many previously thriving and profitable companies are struggling with severe financial difficulties. In my experience, if leaders do not confront the problems in a timely manner, trivialize them, or postpone solutions, it can have serious and long-term consequences.
In contrast, businesses where owners react quickly and take necessary steps not only survive crisis periods but can even become profitable. However, swift action does not imply short-term thinking. It is especially important in such times to approach changing circumstances with fresh perspectives, going beyond past practices, and establishing sustainable solutions based on profound changes to steer the business onto a stable, profitable path.
For many executives, the most obvious and quickest solution is borrowing, particularly short-term borrowing. However, while borrowing can provide a short-term fix, it can result in significant financial burden and further deterioration of resilience in the long term. While borrowing may be necessary and sometimes inevitable, its extent and terms (purpose, duration, repayment structure) should be supported by a well-thought-out business and financial plan aligned with long-term goals.
Another common step is immediate cost-cutting. Inevitably it is an important tool for restoring stability, however, if not well-founded, it can jeopardize the long-term operation of the company. If a large portion of employees is laid off, it risks the continuity of operations. If resources allocated to customer acquisition and marketing are cut off, it excludes the possibility of reaching new, potentially more profitable customers. Reviewing and rationalizing costs are essential, but it should be done thoughtfully, following a deep analysis of financial processes and business segments.
Many problems can arise from a lack of internal communication. Transparent dialogue with employees, especially key employees, is crucial even during normal business operations. This becomes even more critical in challenging financial situations. Inadequate information increases uncertainty and distrust within the company and endangers its credibility.
Financial advisory services
Inadequate capital structure can easily lead a business into trouble. Let's examine the risks associated with not paying sufficient attention to establishing an optimal financing structure.
On one hand, excessive debt and the resulting high financing costs can expose more our company to market changes and potential financial crises. High interest costs and repayment installments can impose a significant burden on our business for a long time, potentially jeopardizing liquidity and even daily operations during less successful periods.
Excessive debt levels result in distrust and a deterioration of credibility among creditors and investors. This not only worsens the company's credit rating and the conditions of existing loans but also negatively affects banks' willingness to provide further financing.
In contrast, if our business lacks sufficient external funding, we may encounter limitations in executing our acquisition strategy. Failure to capitalize on investments and acquisitions can easily lead to falling behind other players in the market.
Finally, it's a common problem that companies finance long-term assets (such as machinery and equipment necessary for operations) from short-term sources, as well as current assets (such as inventory and short-term receivables) from long-term loans. Maintaining the balance between assets and resources and preserving the optimal financing structure is also crucial.
In summary, raising fresh can make the implementation of growth strategy feasible, helps companies under financial distress return to a stable path, but the type and amount of borrowing should be consciously considered and planned.