There are pitfalls for potential borrowers to avoid when it comes to putting in place the debt piece of the funding structure.
According to the Office of National Statistics (ONS) Mergers & Acquisitions Report in September 2021: there were 817 M&A transactions of UK companies, with a value over £1m in 2020. Of these 817 deals, 433 related to acquisitions of independent UK companies as opposed to subsidiaries of larger groups. The total value of these independent transactions was £8.6bn.
As one would expect, that figure is skewed by a few very large deals, with the top 25 deals accounting for 50% of the total.
Academic studies have estimated that failure rates for M&A range between 50% and 83%. Given the amounts involved, one has to ask: why embark on acquisitions at all?
The global management consultancy firm, McKinsey, suggests there are 6 main reasons to pursue an acquisition strategy:
There are pitfalls for potential borrowers to avoid when it comes to putting in place the debt piece of the funding structure. This is not an exhaustive list, but here are 15 things you should avoid in your search for debt finance to support an acquisition or management buyout.
What’s the strategic rationale for this deal? Market position? Margin enhancement? Technology? If there is a compelling logic, which is communicated clearly, it will be of more interest to lenders.
The right price is not necessarily the one the vendor accepts, even if you have negotiated them down. Ensure multiples make sense. If it’s not affordable, funding sources are likely to evaporate.
Lenders prefer and expect an element of the consideration to be deferred, ideally over multiple years. Of course, vendors prefer it all up front! No one said acquisitions were easy!
The acquiring team will need to contribute, anything from 10% to 40% of the consideration.
The acquisition team will need to prepare a well-considered and detailed profit & loss, balance sheet and cashflow forecast for at least 3 years. This forecast needs to bear some relation to historic performance. Revenue growth and margins will not suddenly increase when the new owners take charge. They may do so over time but would still need to be realistic to sector norms.
Stress test your model. How do the post-acquisition financials look with revenues down 30% or margins reduced by 10%, or a combination of the two?
While a secured loan from a mainstream bank may be at 4% over base, it’s more likely your costs will be in the high single figures to low teens.
Factor in professional fees, due diligence costs & legal expenses. Due diligence fees are usually paid prior to completion.
Security, ideally in the form of quality property assets, is preferred and will increase funding sources and enhance terms.
The normal term loan is fully amortised with monthly repayments of capital plus interest over a maximum term of 5 years. There are variations to this and some lenders, SME Capital included, offer flexibility in this area, but it’s prudent to start here.
Especially, having a strong finance professional on board is crucial when it comes to an acquisition. The financials may be great, the strategic logic compelling but if the acquisition team does not have the relevant experience and skills, it’s going to be an uphill struggle.
While indications of appetite and indicative offers may be received within a few weeks, to secure a credit-backed decision and complete it will be a 2/3-month process.
The deal is not completed until the term sheet is agreed, offers are in place, due diligence accepted, legal documentation completed and funds transferred.
Navigating these items successfully will put you in a better position with the lenders you, or your corporate finance adviser, approach. The lending process usually starts with a conversation and SME Capital welcomes the opportunity to discuss potential deals early in the process.
Author: Adrian Reeve
Latest News & Insights