The New Buyer Landscape: Q&A With Private Equity and Strategic Acquirers

There is a diverse environment of investors today, each with different goals and strategies. At the 2015 Axial Concord, a recent panel of investors discussed what sellers and others in the industry should know about different types of potential buyers.

Here are a few excerpts from the conversation.

Q: Can private equity add as much value as other types of buyers?

A: “Every PE firm tells every seller that they can add more value than everyone else can,” said Brandon Hinkle, vice president at Kovitz Private Holdings, a Chicago firm. He added sarcastically: “And yes, we can add more value than anyone else.”

Kidding aside, Hinkle noted that as a private equity holding company, his firm offers unique opportunities for sellers. “What differentiates a private equity holding company from a traditional PE fund is that we don’t have an investment horizon. Sometimes private equity isn’t the best fit for certain companies. We like capital intensive businesses, but traditional funds may not because the return on investment may not happen for 5-7 years. As a holding company, we can think long-term. We have not only financial engineers, but also operating partners that can help the company think tactically and strategically about the future.”

Q: What are the qualitative considerations that go into an acquisition decision?

A: Strategics look carefully at culture, according to another panelist, the CEO of a manufacturing company and strategic acquirer. “We’re looking for a management team that has a similar vision for where the industry and its products are heading.” Strategics evaluate at the ability of the acquisition’s management team to grow and adapt — with the right team, there are countless opportunities for synergies.

For both small and large cap businesses, “you need to have both fit and finances. If the numbers don’t work, the deal won’t work. If fit isn’t there, the financials will fall apart quite rapidly,” said the CEO.

Armando Soto, managing director of private investment firm Isaac Capital, agreed. “Partnerships are very important to us and we have to make sure that everyone sees the deal through the same lens. When we look at companies, we’re looking for a marriage. Otherwise, the deal goes downhill pretty fast.”

Q: At what point in the deal process do you start thinking about integration?

A: “The first day,” said Kovitz’s Hinkle. The panelists agreed that failing to do so could have a negative impact on valuations.

“One of the conversations that we have up front is do we want to make this a branded house or a house of brands?” said Hinkle. “Think about Apple’s branding strategy vs. Kellogg’s. Is it better to keep the brands siloed or bring them together under one name? If the latter, we look at the software compatibility first. I don’t know if that’s strategically the right place to start — but we won’t put the two companies together until the systems can talk to one another with no errors. Otherwise invoices can’t be sent, basic things can’t happen.”

According to Soto, “we typically let our platforms take a look first to evaluate whether there’s a fit. We take a step back from the process and rely on our management teams to make that happen. We’re investors, not operators. If you asked me to integrate a company I’d probably destroy it. We know what we’re good at and what we’re not.”

Q: What’s your view of the current M&A market?

A: “We’re seeing low interest rates for the next couple years,” said Soto. “This is a good thing for us, obviously. From a macroeconomic standpoint, the U.S. is in a strong position to continue growing because of the strong dollar — making the raw materials we’re sourcing overseas a lot cheaper and adding money to the bottom line.

“The M&A market overall seems to ebb and flow depending on the industry,” said Soto. “We try to look at everything from a macroeconomic standpoint and forecast where the markets are going and what the next big market will be.”

For example, Soto said, “Five years ago we were looking at healthcare, and no one else was — but now everyone’s in healthcare. We started going into manufacturing and industrials at the beginning of the year, and now in the fourth quarter, it seems like the space is heating up.”

Q: What are you worried about?

A: Kovitz’s Hinkle said he worries increasingly about the “acceleration of tech,” which can be hard to predict, and how it will impact popular industries. “For example, there have been a lot of plastics related businesses for sale. Why is that? How will new technology like 3D printing impact those and other businesses?”

The strategic acquirer on the panel agreed. “One of our biggest challenges is buying for the future vs. buying for the past. As a strategic acquirer, you know what’s working out there. It’s important to make sure though that you’re buying for the capabilities of the future as opposed to what would have made you successful five to 10 years ago.”

Q: How much do you think you should pay up front, if at all, for value that could be added post closing?

A: “It really depends,” said Soto. “It depends on the business and what the management team can bring to the table.”

“We struggle with this more than anything,” Hinkle said. “As a private equity firm we try to avoid paying up for value we create post close, but what I’ve generally heard is that strategic buyers will pay 20% of the value they think they can create if it’s a business they really want. ”

The strategic acquirer agreed. “The short answer is I don’t want to pay for anyone else. I want to pay for my own synergies. The real question is, is the target bringing value or are we? That’s where the negotiation lies.”