“Unlike big firms that – often constantly – skim the market looking for acquisitions, small and midsize enterprises don’t know exactly what to expect from both the process and the result. Yet it is crucial they prepare the process of selling meticulously.”
Large firms are not ‘midsize companies, just bigger’. The differences are more fundamental and tend to come to surface especially during transactions. You could see it as a David versus Goliath-situation – even though in M&A-cases it is not written in the stars who will cry victory. Asaf Ravkaie knows both sides of the negotiating table, since he has more than twenty years of experience in consulting leading companies in Israel, ten years of that as a partner at BDO. “On one side of the table could be the founder and owner of a midsize company, who thinks of his business as his ‘baby’. Midsize companies generally have more outspoken unique characteristics. More often than not, they are led by the founders. The PitchBook report 2021 shows most of these enterprises are led by founders at the age of 50 to 60. Business depends to an important extend on the founder and key employees.
Statistics are showing that there is an increase in transactions where big companies are looking for unique companies to purchase for growth. On the other side of the table could be a dozen of experienced experts acting on behalf of a big enterprise. They look at the transaction with much more (emotional) distance. So there’s a certain gap. When a big buyer wants to acquire a medium or small business, they are often screening a lot of companies in search of the best fit. They do cherry picking in what they are buying. From the seller’s perspective, the process is complicated since a lot of things need to be addressed. Most midsize companies didn’t do an M&A-process before and need to prepare for a very long and complicated journey during which they will have to tackle some hard topics. Since they lack the experience and knowledge in executing transactions, they need assistance from seasoned advisors.” Nowadays, there’s lack of nearly everything. This is also true for the guidance of transactions. “When there is a hype in M&A, it is difficult for smaller companies to get the best advisors that can finalize the transaction in a reasonable time.”
The risks from the buyer’s perspective
From the buyer’s perspective, midsize deals are more risky. To counter the risks involved, the buyer pays special attention to due diligence, which the seller needs to prepare and compose carefully. “A big portion of midsize M&A is related to technology companies – it certainly is the case in Israel. This makes a due diligence even more complex, because it is difficult to assess whether the technology the seller has to offer is a fit with the buyer’s business, be it as an adaption or a potential synergy.” Asaf Ravkaie points out that sometimes, following a long examination process, the buyer refrains from the execution of the transaction due to a lack of technology fit.
“Due to its inherent nature, technology transactions are to a large extent cross border. Enter more complexity in the form of language and cultural issues. Even if all parties speak the same language, there is a risk that it stays superficial because the real meaning of the words remains hidden under a layer of culture. A ‘yes’ is not always a ‘yes’. To guarantee a real understanding, you need to have experience in international business combined with a network of local advisers. A lack of understanding of language and culture can render a transaction very shaky.”
Also, big buyers find this type of transactions risky because midsize companies are more vulnerable to stock market declines. “Decrease in public companies valuations affect private transactions, and the smaller companies usually hit first.” And even inflation plays a role, because “smaller businesses don’t have enough bargain power to ease the effects on costs of labor, energy, raw materials and other. Moreover, they are less able to transfer these increasing costs to their customers.”
There’s a competition going on
Despite the above-mentioned risks and challenges, these companies – and thus midsize M&A – are crucial for fueling the demand for new technologies. Big corporates are on an ongoing journey to provide better products, services and customer experience. In quite a few cases they are too big to innovate. To some extent, their R&D is not sufficient because along the way they have lost the ability to bring a product in an efficient way to the market, the way a lean start-up working from a garage manages to do. So there’s a competition going on. Hence the reason the demand for recurring revenue technology businesses that already proved customer satisfactions is growing exponentially.”
The most attractive buyer
Why would a midsize start-up be looking for a buyer to begin with? They have three options. First is to continue business as is and not be acquired. Second option is to be bought by a strategic buyer, like a multinational company that is active in the same field and is looking for a way to absorb the technology. Usually, these buyers want to keep the employees and the management in place during a certain time period. Finally, a start-up could find a financial buyer with the intention of keeping the company operations as a stand-alone after the transaction. Some prefer this third option because they want to keep on working on their own technology, rather than becoming part of a multinational company. The downside of this scenario: the price is usually lower than what a strategic buyer would offer.”
"In most cases transactions are not a matter of choice from the seller’s perspective, mostly due to a poor fit with strategic buyers that act choosy. This is the reason why first thing we do with companies that want to sell, is assessing the real alternatives strategically. This is a crucial phase, because a miss-assessment can cause a substantial delay in the process and loss of opportunities.”
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