Negotiating the Optimal Purchase Price
Successfully closing deals hinges on understanding negotiating styles and tactics.
Once the buyer has arrived at the value
of a target, the question turns to the
amount to be offered. As indicated in
the accompanying article, the worth of a target
business to the buyer is not synonymous
with what the buyer should pay. Ultimately,
the buyer's objective is to pay the minimum
amount possible, retaining as much of the future
value creation opportunities for itself.
Having managed over $4 billion of M&A
transactions on both the buy and sell sides, we
have encountered most negotiating styles and
tactics and understand what does and does
not work. Based on this body of experience,
we have developed a keen sense of how to
improve the probability of successfully closing
deals without giving away the store.
Assess the situation
Success in any negotiation favors the prepared.
That is particularly true in business
acquisitions, which comprise a labyrinth of
issues and an inordinate amount of time. Just
as each acquisition target (and its owners) is
unique, each negotiation is highly situational,
requiring strategies and tactics to be tailored to
the specific circumstances. What are the seller's
motivations? Are intermediaries involved,
or is there direct access to the selling owner? Is
the target being pursued in a competitive bidding
process, or is it an exclusive negotiation?
If competitive, how would other prospective
buyers value the target? Might an acquisition
of the target by a competitor place the buyer
at a competitive disadvantage? How certain is
the value creation potential, and what further
diligence is required to improve confidence?
Only after answering these questions (and
more) can an astute negotiator craft a responsive
acquisition proposal and begin to consider
trade-offs that, through the acquisition chess
game, will result in the best deal for the buyer
yet still garner the seller's consent.
Price isn't everything
Resist the urge to fixate on price, since
doing so reduces the negotiation to a zerosum
game. Business acquisitions are multidimensional,
involving much more than
price. Expanding the range of discussion can
provide insight into the seller's objectives,
and ultimately can allow both sides to find the
common ground necessary to make a deal.
Although seemingly counterintuitive, price is
rarely a seller's sole motivation. While monetary
issues are undoubtedly very important,
non-monetary issues often loom paramount.
How employees will be treated after a sale,
whether the name stays on the door, and how
long the lease will continue on the seller's facility
are among the important considerations
that can influence a seller's perspective. Accommodating
these points often costs the
buyer little but adds significant value for the
seller. If knowledge of the seller is limited, it
can make sense to present alternative proposals,
each designed to gather information that
will be useful further along in the process.
Develop target and "walk-away" prices
Despite the ease of modern
communications, when it
comes to negotiating a complex
M&A transaction, there is no
substitute for face-to-face
meetings. The psychology of
trust is a powerful contributor
to a negotiation and building
trust is difficult via telephone
or e-mail traffic.
Buyers often negotiate against themselves,
or agree to terms that would be rejected outside
of the frenzy of a heated negotiation,
thereby committing the most egregious of
negotiation errors. The M&A process must be
approached with a clear understanding of the
underlying economics of both the acquirer
and the target. Remember, the goal is not to
acquire the target at any price. Rather, it is
to pay the lowest price required to win the
deal, but still leave value for the buyer. Therefore,
before crafting an initial offer, the buyer
should also establish a “target” price, the value
that would fulfill all of its negotiation hopes
and desires, as well as a “walk-away” number,
the highest amount that can be economically
justified. Both amounts should be developed
in a thoughtful, quantitative process as described
in the preceding article. With those
two numbers in mind, the buyer will be prepared
to accept an agreement below the walkaway
price and reject any value that exceeds
it. Although new information gathered in the
process might result in adjustments to those
thresholds, discipline is required to avoid falling
in love with the process or the prey.
Don't be afraid to be aggressive
The standard protocol when acquiring a
business is for the buyer to make the first offer.
Many negotiators fear that an aggressive first
offer will scare or annoy the other side and,
perhaps, even shut the door on the opportunity.
However, research has shown that this
fear is typically exaggerated. The best first offers
are those that fall outside of the bargaining
zone, below the seller's walk-away price, but
not so far as to be discounted or ignored. One
of the best predictors of satisfaction with an
outcome is the number and size of the concessions
extracted from an opponent. Therefore,
making an aggressive first offer gives the seller
the opportunity to “extract” concessions,
thereby yielding a better outcome while also
increasing the seller's satisfaction.
Build rapport—get an audience with the seller
Despite the ease of modern communications,
when it comes to negotiating a complex
M&A transaction, there is no substitute for
face-to-face meetings. The psychology of trust
is a powerful contributor to a negotiation and
building trust is difficult via telephone or email
traffic. The non-verbal emotional cues
that exist in face-to-face negotiations produce
much higher levels of rapport and thereby
contribute greatly to a successful outcome
(see, "The Case for Face-to-Face", IN$IGHT,
Make Strategic Concessions
All negotiations require concessions but
the compromise often goes unappreciated and
unreciprocated. Therefore, it is imperative
to get credit for the allowance by making the
seller aware of the value that has been conceded.
How the favor can be returned must
be defined, possibly making the concession
contingent upon the return favor. Installment
concessions work well; people are always happier
to find two $10 bills on consecutive days
than a single $20 bill
Use objective criteria to propose creative solutions
Horse-trading ("you like that number, I
like this one, let's split the difference") is spectacularly
unsuccessful in M&A negotiations.
In our experience, the most effective method
of solving otherwise intractable issues is to
determine what result an objective third party
would judge to be reasonable. This approach
first requires negotiating about the negotiation.
That is, to obtain the other party's agreement
to be bound by the conclusion to be
delivered by the third party.
Make efforts to increase the size of the pie
Taking the time to thoroughly understand
objectives, rather than just positions, allows
a skilled negotiator to craft creative solutions
that can increase the size of the pie. This is
most successful when there is a disproportionate
assessment of risk between buyer and seller.
In general, sellers minimize risks because they
are more familiar with them and buyers tend to
see dark clouds on every horizon. Thus, working
hard to segregate and quantify the perception
of risks can allow them to be allocated to
the party (or to a third party, through insurance)
that places the lowest value on each.
Since the negotiation of an M&A transaction
can become protracted, it is important to
build momentum that gives both parties the
confidence to keep working toward a deal.
This means making progress early, even if it is
nothing more than reaching an agreement on
the process, the time frame, and the key issues
that need to be addressed. Ideally, every negotiating
session should move the ball closer
to the goal line. Letting too much time pass
is generally very detrimental to success. The
probability of a successful outcome improves
by continuously seeking common ground and
opportunities to build trust.