When a company decides to sell itself, or “consider strategic options” in corporate finance lingo, the investment banker must advise on how the process should be conducted in terms of scope.
Companies decide to hire an investment bank to market their firm for different reasons, and depending on what the goal is and the possible buyer universe (strategic or financial buyers and what market appetite is at the moment), the appropriate sale approach may vary.
In considering what process to follow, the company and the investment bank must weigh the trade off between maximizing the value obtained for the asset/company versus minimizing disruption to operations. The larger the potential list of buyers, the more likely the company is to achieve the best possible price. However, the larger the process, the less confidential the auction and the more demanding it is from a time perspective.
Discrete Sell-Side Process
In a discrete process with one or two possible buyers, the selling company can run a very private process that requires limited disclosure and the lowest probability of a leak (fairly clear where the leak is from). This makes the most sense when there is a clear strategic buyer – which may include a financial buyer/private equity firm with a complimentary company in its portfolio – with realizable synergies that justify paying an attractive price.
There is a lot more control over negotiations and flexibility for both potential buyer and seller as certain terms can be agreed upon that may be very asset or company specific (i.e. seller wants to exit but wants upside from revenues which can be achieved by some sort of call option). As such, the deal can be very structured and tailored.
Buyers, especially private equity firms, also prefer this as they do not have to compete with other firms and can have a better idea of what returns they will lock in should the deal be consummated.
However, negotiations can fall apart and with no competing bidder, it is difficult to push the buyer to pay more or know what is true value. Negotiations can stop and start up again if there is no urgency to complete the deal which means that these processes can drag on forever.
Broad or Wide Auction
A broad auction process opens the bidding to many potential buyers and may be the best option in a frothy market for a healthy company. As this is the process that draws the largest number of bidders, it should result in the maximum value being realized.
A stricter schedule is provided to manage the process, so if managed correctly this can be an expedited process under normal market conditions.
However, a large sale process can take up time that would be used on operating the company with consequences for employees who may have morale issues over downsizing and other uncertainties. Also, if multiple bidders are granted access into the data room that is opened for their due diligence purposes, this means that confidential data will be widely disseminated.
Targeted or Controlled Auction
A targeted auction is somewhere in the middle – there are strategic buyers where the deal would make sense, and the investment banker can identify a couple of natural fits within the peer universe that they will selectively market to.
Identifying a buyer is a process which is subjective and takes time – sometimes, the best fit can be overlooked. Often, investment banks will come up with buyer lists in advance of pitching potential M&A to the seller – and this will take research in advance to make sure that these targets should purchase beyond standard synergies. Investment banks will look at their financing options such as cash-on-hand, bank credit capacity, debt capital markets and equity capital markets capabilities and what the company would look like with a purchase in terms of accretion/dilution or cash flow metrics.
When there are multiple buyers that would realize tangible synergies, the chances of crystallising superior value versus a negotiated sale/discrete process/”talk” are better, although less so compared to the full or broad auction process.
There is game theory involved as bidders may be able to deduce other potential buyers in the pool and bid based on the ability to pay of rivals, which may result in a bid below what they would be willing to pay if they think they can win due to the competitive landscape.
As for confidentiality, it again is somewhere in the middle, with targeted auctions being less intrusive and requiring less confidential disclosure versus a broad auction but more than a discrete process.
Dual-Track M&A/Initial Public Offering (IPO)
For a private company or a non-strategic unit of a public company, sometimes the best buyer is the stock market. The public market can sometimes offer a superior valuation multiple than private equity firms are willing to pay.
Selling the company through an initial public offering (IPO) will not result in the entire ownership stake of the company being offloaded at once. Usually, the markets can at best take on a quarter of the ownership of the company with the rest being divested by the seller later. This means that the seller can continue to control the public company and participate in any upside for valuation gains– however this also means that the company is still on the books and the total cash windfall is not as large as an absolute sale.
Investment banks may run dual track processes which involve preparing for an IPO as well as running an auction process for private buyers to see what is the best option for the seller.