After 20-plus years of transacting middle market acquisitions, I know the factors that keep people from getting premium prices. (By middle market acquisitions, I’m referring to transactions in a price range between $1 million and $200 million.) Many middle market executives mistakenly believe that external economic conditions significantly impact the timing and pricing of these deals. This is a gross misconception. The reality is that economic conditions should have little, if any, impact on middle market transaction prices as long as a strategic buyer is located.

A selling owner should not allow a large corporate acquirer to take advantage of bad economic conditions to justify a substandard transaction offer. Instead, they should demand a deal that is similarly priced to what would be expected under optimal economic conditions. This is the position that a strong-willed, proud, sophisticated seller will enforce as a prerequisite to selling his or her company.

Acquirers are always trying to “steal” a seller’s company; this psychology is a logical outgrowth of the capitalistic system. This condition exists when you are in an economic downturn, a recession, or even in optimal economic times. In addition, acquirers, by their very size and acquisitive nature, are usually more familiar with the acquisition process than a selling owner. This, combined with the vast financial clout of large multinational companies, enables them to approach the prospective seller in an arrogant manner demanding unreasonably low transaction prices. This is the norm. Unfortunately, most sellers fall prey to this approach and accept the norm.

The pricing of large corporate acquisitions (transaction prices in excess of $200 million) tends to be quite volatile. Without getting into the specific reasons, which is beyond the scope of this article, the pricing for these deals tends to mirror changes in the stock market. Contrary to these deals, the volatility of pricing of middle market acquisitions is minimal. When the economy is doing well, middle market deals have little upside. Conversely, during bad economic conditions, the downside volatility of middle market transaction pricing should also be minimal. However, large corporate acquirers try to use bad economic conditions as the rationale for substandard offers. This shouldn’t be considered a valid argument.

During the recessions of the early ’80s and 1991 and 1992, many acquisition advisory firms accepted less-than-adequate prices for their client’s deals. During the recession of 1991/1992, George Spilka and Associates was able to close 3.5 deals per professional person per year. All deals were priced at the maximum rate, as if economic conditions were optimal, and over 90 percent were all-cash offers.

This is the way middle market acquisition pricing should work during difficult economic times if the buyer is a strategic acquirer. The reason is that middle market transaction prices should be determined with the future in mind. The expected future earnings (cash flow) and the risk in achieving those earnings come from the business foundation presented to an acquirer. The expected future earnings used in developing an acquisition price will more than likely be based on the projected earnings flow through the next business cycle. Therefore, the pricing of a deal should not be significantly affected based on the point in the business cycle when a company is sold.

A strategic acquirer will determine an affordable transaction price based on the expected incremental future earnings produced by the combination of the two companies. To the extent strong synergistic benefits are produced by the deal, the combined future earnings of the companies will exceed the total of each operating separately. This enables the payment of a higher premium price by a strategic acquirer, while still generating an attractive return on investment.

The aforementioned is one reason an owner of a middle market company should avoid selling to a private equity firm (financial buyer) that brings no synergy to the deal. Without synergistic benefits, the optimum acquisition price can’t be paid. In addition, financial buyers are known to be a very anti-risk group. They must generate extremely high returns on their transactions to keep the flow of institutional money into their funds. These funds guarantee their future existence. Because financial buyers usually bring no synergistic benefits to the deal, and typically very little in the way of additional management skills, the sole way they can produce these high returns for their institutional investors is by buying at vastly discounted prices. Their prevalence reflects that so few middle market advisors are willing to put in the considerable time or develop the necessary expertise to locate the domestic and foreign strategic players who are likely to complete a fully priced deal.

Set in Stone
When a seller proceeds to the market, his or her business’s foundation should be in solid shape, as this has a substantial impact on attaining a premium price. A selling owner should have an acquisition advisory firm review its business foundation before proceeding with the sale. If there are any deficiencies in the foundation that would impact the transaction price, a skilled advisor can recommend the necessary changes. The implementation of these changes will facilitate the acquirer’s ability to pay a premium price.

For a manufacturer, there are certain considerations in evaluating a seller’s business foundation, including the following:

  • Strength of the market niche

  • Ability to control the customer base over a long period of time

  • Proprietary nature of the product line

  • Capability of being a cost-efficient producer

  • Modern plant and equipment

  • Strong management group


For a distribution firm, the following might be considerations:

  • Quality of the product lines

  • Capability of management

  • Sales force’s control of the customer base

  • Diversity of the customer base

  • Maintaining strong pricing

  • Operation of a cost-efficient warehouse

  • Procuring goods at a competitive price with large national competitors


Other characteristics might affect the business foundation and its impact on deal-pricing depending on the specific industry. An acquisition advisory firm can counsel you on the most important factors that define the strength of the business foundation in your industry.

There are five key points to remember if a selling owner is to consummate a fully priced deal during an economic downturn or a recession.

1. Locate a Strategic Buyer for Your Firm
Strategic acquirers will be interested in obtaining your market niche to get the full synergistic benefits of the consolidation of the two companies. They will be interested in the intermediate and long-term benefits from the acquisition. Because the short-term earnings and outlook are not of paramount importance to them, they are less likely to allow current economic conditions to be the justification for a substandard offer.

2. Foreign Strategic Acquirers Are Now Accessible
If you are advised by a sophisticated acquisition advisory firm that is knowledgeable in fully utilizing the capabilities of the Internet in the search process, they will have a vast array of foreign candidates to acquire your company.

As business becomes increasingly globalized, the acquisition of domestic companies by foreign acquirers is now a realistic possibility for selling middle market owners. The difficulty for many selling owners is that not many acquisition advisory firms want to expend the time or effort, nor do they have the expertise to master the resources available on the Internet. Therefore they do not have access to this vast base of foreign acquirers. On two current deals that my firm is handling, we are talking to Egyptian, Australian, Indian, Danish, Taiwanese, South African, Austrian, German and Canadian acquirers. Serious discussions are currently in progress with these prospective foreign acquirers. Both of these deals are only in the transaction price range of $10 million to $40 million.

One of the benefits presented by foreign acquirers is that their interest in a U.S. acquisition is usually to obtain a strategic position in a United States market. Therefore, it is almost incumbent on them not to fixate on short-term performance as a serious deal-pricing consideration. As they want to improve their competitive global business posture by obtaining a position in a currently undeveloped market, they will not want to lose this opportunity by trying to steal the company with a substandard offer.

3. There Has Been Vast Consolidation in Many Industries
With the rapid consolidation that has taken place in many industries, the number of domestic acquirers available to selling owners has been greatly reduced. In a few of these industries, this has made the major national acquirers brazenly aggressive in demanding substandard pricing for deals. In these industries, a seller must remain patient and be tough. They must wait until one acquirer is willing to break from the pack and pay a fair price. This means that you must have an acquisition advisory firm that is extremely strong-willed and determined, and only sells when a realistic, fair premium price has been obtained.

4. Absence of Upside Volatility in Middle Market Deals
As previously discussed, the pricing of middle market deals never increases dramatically during good economic times or buoyant stock market conditions. During these conditions, the increase in middle market deal pricing is muted, as compared to those of the large corporate deals. Correspondingly, a middle market seller never gets the benefit of a market top. Therefore they should never accept a reduced price during bad economic conditions. Pricing for middle market deals should not vary significantly during bad economic conditions.

5. Impact of Reduced Earnings During Poor Economic Conditions
When the economic downturn/recession that we are currently experiencing comes to an end, do not allow acquirers to use the reduced earnings generated during this period to have an exorbitant effect on deal pricing. During prolonged good economic times, many acquirers want to discount the value of recent earnings by those that will be realized during bad economic times. These same acquirers, after the end of an economic downturn/recession, will want to price a middle market company solely on the earnings realized during bad economic times. Don’t allow that to happen. The operative concept to remember is that middle market deal pricing is dictated not by historical earnings, but instead by the expected future earnings and the risk in achieving those earnings from the business foundation given an acquirer. In fact, this is the value of your business niche and should govern deal pricing during any economic condition.

Don’t allow a large corporate acquirer to take advantage of bad economic conditions as justification for a substandard transaction price. Insist that your company be priced at a value that reflects the strength of your business foundation. This is the market niche that you give an acquirer, and it will dictate the future earnings potential to be realized from the acquisition. These are the factors that should determine a middle market acquisition price. This position, and not a lesser one, is what strong-willed, proud, independent sellers will demand from an acquirer, before they agree to sell their company.

George Spilka is president of Spilka and Associates, a Pittsburgh-based merger and acquisition consulting firm. He can be reached at (412) 486-8189 or visit his website.




POSTED ON: 9/1/2001