Business Owners: Selling to the Enemy

As a business broker, many times you’ll realize that the ideal buyer of one of your clients is, in fact, your client’s competitor. In such an instance, your client will realize that doing the deal will be tantamount to selling to the enemy. Many sellers will have serious concerns about “selling to the enemy” and not a few will balk. But there are ways you can assuage your client’s concerns and in many cases you’d do well by your client to help them understand that such a buyer might be the ideal candidate. When selling to the enemy, it’s important that business owners – and business brokers – do as much as possible to discover as much as can be learned about the acquiring company and its intentions. But first, when considering selling a company to a competitor, it’s important to realize that there are several different types of competitors: direct competitors, indirect competitors and “near competitors”. Direct competitors have the same target market and customers as the seller and are usually the most obvious buyers. Indirect competitors share some of the market, while “near competitors” target a different section of the market. Let’s look at an example of each using an fictitious client by the name of ABC Electrical Distributors, LLC, an electrical distribution company doing $5 million in annual revenue.

Examples

A direct competitor would be XZY Electrical Distributors located about 10 miles away in the same city and selling to the same electrical contractors. XYZ’s objective is to expand their existing business by acquisition of ABC’s customers and revenue. This will set them up to control their market, enjoy more purchasing power with their suppliers and provide better pricing to their customers. An indirect competitor would be Mid-State Building Supplies, a company that provides building materials and supplies to all trades. Mid-State is interested in expanding its reach into the electrical supplies market and they think acquiring an existing electrical supplier would be the best way to accomplish this. Not surprisingly, they may also be considering making a run at XYZ. A “near-direct” competitor would be Lightsource Commercial Lighting, a commercial lighting firm specializing in large commercial projects and outdoor lighting displays for cities. Their objectives are to bring the source of their components “in house” – thereby enjoying better pricing – and to expand their business by entering the wholesale/distribution market for those components.

Some Challenges

When selling to a rival, businesses face some unique challenges the biggest of which is arguably trying to determine if the acquiring competitor is ethical, honest and trustworthy. Is it seriously pursuing an acquisition or is it trying to obtain as much of the selling company’s proprietary and confidential information as it can?

Cultural differences presents another issue that has the potential to derail any transaction and they can be particularly damaging for deals involving rivals that have completely different cultures despite occupying the same market. Personalities, different operating styles and differing expectations from the combined companies all have the potential to torpedo a transaction before it gets to the closing table. The broker, the seller and the seller’s team all must consider what an acquisition by any particular competitor will mean to the operating philosophy of the company being acquired.

Ask the Right Questions

Steering the transaction through these turbulent waters can result in a number of advantages. Selling to a competitor generally ensures that the buyer has knowledge of the market. It will also likely create a number of synergies that should result in some economies of scale. Together, these advantages should increase or even improve the likelihood of a continuation of solid business execution post-closing. That said, there will likely be some disadvantages, among them the loss of a number of positions due to redundancy . Due diligence on the part of the seller and its team is an important part of the process, as I’ve written about previously. Ensuring that the competitor – the potential acquirer – is the right buyer involves answering a number of important questions.

Is the acquirer serious about the deal? Determine this to the extent possible before disclosing confidential information.

Has the acquirer offered to pay much more than what the company is worth? If so, this may be an indication that the buyer has not done its due diligence on the company or is perhaps not serious about the transaction.

How will the buyer finance the purchase? Will the seller be required to provide any of the buyer’s financing?

If the seller is to provide any financing or if an earn out is involved, what the buyer intends to do to the company’s operating processes post-closing will likely impact the company’s performance which, in turn, is likely to have an impact – possibly a significant one – on the seller’s ultimate payout. Knowing whether a buyer will implement wholesale changes or maintain the company’s existing direction and strategy may be crucial to deciding whether to accept a potential offer.

The Bottom Line

Identifying the right potential buyer is one of the most important steps companies can take when considering a sale to a competitor. Another equally important step is to make sure that the company being sold has been valued by a professional business broker, M&A specialist or an accredited business appraiser. The seller, after all, has to know what the company is worth before making ANY decisions. How to value businesses is a topic we cover at length in our course, The Basic “How-To” of Becoming a Business Broker™.