United States

International buyer beware

A seller’s market in US M&A requires adjusted due diligence efforts


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The last several years have seen the rapid growth of foreign-based companies investing in the United States. According to PitchBook, the number of inbound investments to the U.S. increased by a third from 2013 to 2014, which is nearly double the growth rate of all global transactions, at 17.7 percent. Even more impressive is the 161.8 percent increase in the value of these investments over the same period. This massive growth in deals spans from small, privately held companies to large, publicly traded conglomerates. Some major U.S. firms were acquired by foreign entities in 2014, including Forest Labs, Sprint, Merck (Consumer Health Business) and Beam. 

For the whole year 2014, the United States received an impressive 20.2 percent of global deal value, and this number is expected to be even higher for 2015. Attracted to the improving economy, continued growth and open credit markets, foreign investors appear to show no signs of slowing. With the massively increased number and value of U.S.-bound investments, foreign buyers are finding themselves on a new playing field as the deal process has shifted in favor of the sellers. In this competitive deal environment, in which well-capitalized buyers outnumber high-quality sellers, those companies that would have received offers from one to three potential buyers a mere two years ago are now getting eight to 10 offers or more.

Foreign investments into US

Source: PitchBook

Buyers need to adapt due diligence efforts
Sellers today need not grant exclusivity, and with this leverage, are able to maximize value and keep the process competitive from beginning to end. Buyers involved in these nonexclusive situations have been forced to adjust and adapt their due diligence efforts to comply with the mandated deal process, while still meeting their fiduciary responsibilities to investors and stakeholders. Following are five ways to successfully navigate due diligence when exclusivity is not granted:

  1. Complete as much due diligence as possible early on. To be prepared to submit the revised draft purchase agreement, buyers need to perform the majority of due diligence before exclusivity is granted.
  2. Review audit workpapers before exclusivity is granted. Performing the audit workpaper review as part of Phase I will enable you to gain comfort with the audit approach and understand significant issues encountered during the audit.
  3. Request access to underlying financial reports. In terms of detailed financial analysis, it is essential to request underlying financial reports -- including monthly and annual internal financials, trial balances, aging reports and vendor or subcontractor detail -- in an electronic format early in the process.
  4. Require access to management. The period of exclusivity is quite short, and it is unlikely you will be able to adjust the purchase price despite new due diligence findings. Therefore, insist on access to management. It's useful to compile a master list of questions from various disciplines and submit the list to management prior to the meetings. If access to management is severely restricted, require responses to questions in writing.
  5. Focus on critical areas. Make sure your due diligence efforts are focused on critical areas that pose significant risk to the transaction. This process should establish how most significant deal terms will be handled in the purchase agreement.

How can buyers who lack exclusivity effectively balance their investment in the due diligence process with the need to perform enough work to become comfortable with the anticipated price? The key is to focus on critical areas that will uncover deal issues sooner, rather than later and to work with your advisors early on to identify these critical risk areas.

In addition, frequent communication with advisors and the due diligence team is even more critical when the deal process is competitive and the risk of a broken deal is greater.

Caveat emptor
There are telltale signs that could cripple your ability to perform the necessary due diligence:

  • Messy financials or no visibility on potential adjustments
  • Lack of audited statements by a reputable firm
  • Lack of information from the seller, especially about large management add-backs (only providing high-level items, not details)
  • Lack of transparency or availability of management
  • Significant changes in financial results without supporting details or reasonable explanations

If you run into one or more of these issues, it is critical to take a step back and assess if the process is worthwhile. In these situations, it is likely you will not have enough time and information to become comfortable with the anticipated purchase price.

A balancing act
Buyers must weigh the delicate balance of the acquisition opportunity with the risk of forgoing certain areas of diligence in the deal process. In some cases, buyers will withdraw from the process when they are unable to secure exclusivity and remain uncomfortable with their due diligence options. With limited access to management and no way to protect themselves through changes in the purchase agreement, these buyers believe the risk exceeds the potential opportunity.

In a deal environment in which buyers are distanced from sellers, the due diligence process is unquestionably riskier. However, buyers who recognize the need to adapt their due diligence efforts and can adequately prepare for an expedited and competitive process can still complete deals without sacrificing the information needed to make informed decisions.

To learn more, contact Mark Bloom, partner at RSM LLP, at 312.634.5300.