Entrepreneurs often ask us the following question, “Why should I hire an advisor?”
There are a multitude of reasons as to why one should hire an advisor, but the short answer is that a banker’s true value is their ability to significantly increase the purchase price and the probability of closing a successful transaction. A highly skilled banker will orchestrate an organized and competitive process that maximizes valuation in addition to other key terms such as escrow, indemnification package, and reps and warranties. Below are some key areas in which an investment banker can add significant value:
- Perception and reality of a competitive process – Investment bankers have the ability to broaden the pool of qualified buyers shifting leverage to the seller. Negotiating with only one or two buyers significantly hampers the ability to increase the purchase price and optimize other key terms. The more competitive the process, the better.
- Framing the opportunity to buyers/investors – Entrepreneurs have a great handle on their culture, products, and strengths and weaknesses. However, they typically do not have insight into what buyers and investors want to hear. Advisors who are active in a sector have continual conversations with buyers about what they are looking for and as a result, know how to frame your company optimally. You only get one chance to put up your company for consideration in the market; a mistake can be costly.
- Minimize deal risk – Running an efficient process communicates strength to the buyers and mitigates the risk of a long and drawn out process or deal fatigue. Stretching out the timeline dramatically increases deal risk and decreases the probability of a successful transaction. Additionally, deal fatigue can lead sellers to desperation and poor decisions.
- Focus on running the business – During diligence, buyers and investors heavily scrutinize the company’s performance and operations. If the company runs the process, there is a high probability company management will become distracted from daily operations and the business will underperform. This is catastrophic to a process and can lead to a significant re-trade on valuation.
- Post-deal Relationship – Investment bankers allow the seller and buyer to maintain a good relationship post-transaction. Whether you are raising capital or selling the entire business, there are many post-transaction issues. If you negotiate well during the process, many difficult conversations arise and founders often struggle to restrain their emotions from the negotiation. This can lead to a strained relationship post-transaction or the buyer walking away completely. Having the banker to manage difficult conversations helps the transition from being on opposite sides of the table to working together.
One last note, venture capitalists and private equity firms are notorious for advising companies not to hire an advisor because it is a red flag if they need to do so. When examining this position, it is worth noting that almost all VC’s hire investment bankers when they sell their portfolio companies and it is in their interest to limit how competitive the process is when they are negotiating against entrepreneurs.
In some ways, hiring an advisor is even more important in a minority investment, which can be much more complicated than M&A transactions given the deal structure features (liquidation preference, participating preferred, minority shareholder rights). Often times, entrepreneurs do not fully understand these features and how they shift value from the entrepreneur to the investor. Failing to understand these features at the time of the transaction leads to a surprisingly bad outcome several years down the road.