It's the bane of M&A deals. You work hard preparing for your company's sale. You work closely with a professional advisory such as Corum to find the right buyer and get an optimal deal. Everything seems to be going well during the M&A process and then you get blindsided by the buyer who wants to retrade. In other words, the buyer who submitted a Letter of Intent (LOI) that specifies their intent to purchase your company for a proposed price and terms now wants to lower that price or change the terms. How do you react? What are your options? How do you protect yourself from a retrade during an M&A?
What is a retrade and when can it happen?
In M&A, a retrade is the practice of a buyer lowering the purchase price of a company or changing the terms of the deal after initially agreeing to a higher purchase price or different terms. When a retrade happens, it usually occurs during due diligence when the buyer's team digs into the seller's data, such as the seller's financial, legal, operational, and strategic records, to verify that the buyer is acquiring what they expect. If the buyer's team identifies something that they feel puts them at risk or that doesn't agree with what the seller initially presented or thought they understood, they may request a retrade. But sometimes a retrade may not be based on real risks or legitimate concerns. For instance, the buyer's team does not to turn up anything that could be considered problematic during due diligence, but they still want to lower the price.
Retrade Case Study
Here is an actual example of an M&A deal that became problematic because of a retrade request. Four weeks after signing an LOI, and two weeks from the scheduled closing after completion of due diligence, the buyer in an M&A deal cancelled the LOI and presented the seller, a Corum client, with a revision. The revision reduced the selling company’s enterprise value by 20% and reduced the cash to be presented by the buyer at closing by 30%. The buyer claimed they had spoken to five of the seller’s customers. One was the seller's largest customer, who raised some doubts about the seller’s product and said they were looking for alternatives. These calls were made without the knowledge of the seller. The buyer presented the results of the calls to their Board of Directors without providing any additional context. The board subsequently approved the revised offer.
The seller was not only very disappointed at the reduced offer, but upset at the approach taken by the buyer, one that involved no discussion with the seller, leaving him completely in the dark. Trust is critical to getting an M&A deal closed, and the actions taken by the buyer led to a significant loss of trust between the parties. At this point, both parties felt the deal was dead.
How to protect yourself
As a seller there are a number of ways you can protect yourself from a retrade.
Be prepared
The best way to protect yourself is be prepared. In particular, be thoroughly prepared for the scrutiny of your records during due diligence. For example, make sure your accounting records are correct and in order, that your forecasts follow Generally Accepted Accounting Principles (GAAP), and that you have a good understanding of your churn, that is, your customer attrition rate. Know what the buyer will be examining in due diligence – understand their due diligence checklist. Involve a team of competent advisors to help you prepare, such as an experienced accountant, attorney, and investment banker.
Be proactive
It is always a good idea to uncover issues before the buyer does. So ensure that potential issues are addressed as early as possible. For example, Quality of Earnings (QoE) can often be a snag point that leads to retrades. If the buyer's team determines during due diligence that the seller's QoE is concerning, that it doesn't support future earnings or growth, they may request a retrade. It’s good practice to get a QoE report before going into the M&A market. A thorough QoE report should uncover most, if not all, significant issues, and if you get the report before going to market, you’ll have time to fix those problems before they become potential reasons for a retrade. Doing that not only reduces the possibility of a retrade, but it gives the buyer confidence that they can rely on the information you present to them.
The seller's failure to achieve forecasted revenue is the primary reason for a retrade. However, anything of significance uncovered in due diligence that doesn’t meet what the buyer expects can be fuel for a retrade. For instance, if the seller fails to achieve their forecasted revenue, or there are unexpected legal or tax issues, or hidden expenses ‒ any of those can be seen by the buyer as heightened risk, and may lead to the buyer to consider a retrade. Additionally, anything that can be viewed as the seller not meeting the guarantees specified in the representations and warranties (reps and warranties) can spur a retrade. So take the initiative to handle these issues before due diligence. Do your own due diligence before the buyer does.
Be transparent
If you can’t resolve these issues beforehand, make sure that prospective buyers are aware of them prior to the LOI. It’s better to be up-front about negative items than having the buyer uncover them during due diligence.
Avoid habitual retraders
Although most buyers are honest in their dealings with sellers, and want to live by the agreements they've signed, there are some who have a reputation for doing retrades. Their objective is to gain exclusivity through an LOI and then follow up with a retrade. Others buyers enter into the M&A process simply to gain intelligence about the seller, never intending to actually complete the deal. Avoid these buyers if you can. Sometimes you can easily determine who they are because their reputation for retrades precedes them. But it's always wise to check with other sellers who have dealt with your prospective buyers to determine whether they have a tendency to retrade.
Keep other prospective buyers engaged
Even after you sign an LOI giving the buyer a period of exclusivity in an M&A deal, it's a good idea to let other bidders ‒ especially those who had strong interest ‒ know that you may reengage with them if the deal falls through. If the buyer demands a retrade, one that you do not accept, you have the leverage to terminate the deal before it closes and do a deal with one of the other bidders. That leverage can temper the buyer's desire to retrade. You don't want to be in a situation where the buyer is the only one you have dealt with. In that case, the buyer has all the leverage and can consider retrading without much concern that you will terminate the deal and do a deal with another buyer.
Limit retrades through the LOI
Another way to limit the possibility of a retrade is to do so via stipulation in the LOI. For instance, try to negotiate a provision that penalizes the buyer if they retrade based on unfounded or minor claims. That penalty might be a loss of exclusivity. In addition, it's important to limit the period of exclusivity because the longer the buyer is the only one you can deal with, the longer the buyer has time to uncover what they consider major issues warranting a retrade.
What are your options?
You have a number of options when presented with a retrade. However before you act on any of them, you should fully understand the changes the buyer is making and whether those changes are legitimate.
Accept
Accepting a retrade may be palatable if it does not impact the deal too seriously. For instance, even though the retrade lowers the purchase price, it does not lower it below a threshold that is unacceptable to the seller. There are also situations where the seller is in a disadvantageous position and has little choice but to accept the retrade. For instance, he must sell the business and there are no other serious bidders for the company.
Negotiate
Sometimes the buyer's reasons for a retrade are clearly reasonable. For example, the buyer uncovers the fact that a lawsuit has been filed against the seller, or the seller has an undisclosed major tax liability. As a result, the buyer wants to reduce the purchase price or hold back a certain amount of money from the purchase to take care of contingencies. Legitimate concerns like this should be negotiated so that a solution acceptable to both parties can be reached. The reality is that most buyers do not want to risk losing the deal once they've invested substantial time, effort, and money into it. So they are typically amenable to negotiation.
Terminate
If the reasons for the retrade are unreasonable, or if negotiation fails to come to an acceptable solution, you have the option of terminating the deal. In general, it is not in the seller's interest (or the buyer’s interest) to terminate a deal ‒ especially one that has proceeded towards closing. Walking away from a deal is a difficult decision for a seller, but there are times when it is better to kill a deal than accept a retrade that can cost you millions of dollars or one that saddles you with onerous terms. And if you kept other prospective buyers engaged, it may be relatively easy to do a deal with one of them after the previous deal terminates.
How Can Corum Help?
A professional advisory firm such as Corum can help you prepare. They have years of experience shepherding sellers through the M&A process, something that you can rely on to help ensure that you are thoroughly prepared. For instance, they will point out the things that you need to do to protect yourself during due diligence, such as preparing your data room in advance, appointing a dedicated due diligence coordinator, and doing your own due diligence.
Additionally, a professional advisor such as Corum will be a trusted third party helping to resolve issues that can arise as a result of a retrade request. This happened in the case study previously described. After investigating the issues thoroughly and explaining the situation and concerns to both parties, Corum's advisory team was able to get the deal back on track and help drive it to a successful close. Significantly, the team learned that although the seller's biggest customer was looking for alternatives, they were still actively using the seller's product, and had recently resigned with the seller for another year. These conversations would be difficult to have without a trusted third party because the trust between the buyer and seller had been lost.
Selling your business may be the most important transaction of your life. You don't want it potentially derailed by a retrade. Having a trusted advisor such as Corum at your side can help you prepare properly so that potential issues don’t arise that can lead to a retrade. A competent, experienced advisor like this can also be an effective intermediary between you and the buyer when issues do arise, helping to alleviate buyer concerns. Corum’s experienced team of M&A advisors are the glue that keeps M&A deals together and can be your safety net against a retrade.