Challenges with asset purchase type acquisitions
May 11, 2021
by a searcher from HEC School of Management, Paris in Bristol, UK
Hello,
I am nearing a deal to acquire my target via asset purchase and I believe there are some challenges in doing it this way
1) Supplier credit. As you are forming a NewCo, suppliers might not extend the same payment terms to the new business as they did to the seller OldCo. If you have to pay earlier to your vendors, it will impact cashflow and WC
2) Customer contracts. Many customers will have contracts with OldCo. These contacts will require permission from the client before they are re-assigned to the NewCo. Reassigning contracts might trigger the customer to re-negotiate terms
3) It is a constantly moving target, where both parties do not know the final price until close to the completion day. This is because the debtor book and inventory will fluctuate day to day. If there is a sudden increase in A/R, there is a risk of underfunding the deal.
Did anyone experience similar challenges in your acquisition journey? Would you consider the above real issues, or non -issues? If the former, what creative solutions did you come up with to address them (& any others you can think of?)
in Limerick, Ireland
1: I would personally look at getting some advice from the sellers regarding whether you can maintain or even extend the payment terms to vendors, it seems that continuity of business would be at the forefront of consideration in order to continue an existing relationship with the business (regardless of who owns the business), I would also have a period of transition whereby the sellers or management remain in the new co to demonstrate to the suppliers there will be no disruption to the existing relationship visa vi payments. I would almost insist that the person communicating with the supplier address this and seek assurances that there would be change of terms as it could indeed be an unexpected cost and affect cash flow and working capital.
2: With regard to the contracts, I would personally take the position that the employees may be concerned that they could be let go and use that leverage regarding the contracts, I think a human resource expert would be beneficial here, also, important to note, many employees will not see the transfer of ownership as an opportunity to negotiate better terms, they will be loyal employees, again I think including the sellers and management in your discussions to ascertain who is most likely to look to negotiate, then perhaps you can be proactive and put some KPIs in place with an incentive upon reaching those targets, then the business wins and so does the employee.
3: Regarding the fluctuation of debts and inventory, the key here is to conduct due diligence (industry expert or finance expert) to determine the average, and apply a scope to what it will not go below and what it will not exceed, have provisions in place if its below or above. Although there would be fluctuations, over a period of time, you will see a trend once you conduct an analysis.
Final point, if your concerned with regard to the property in a deal, extend the lease and have a clause that allows you to lease to buy, or outright acquire at a later date, I would personally do a share deal and exclude the property, or defer including the property in the deal initially, this will allow you to increase revenue organically and retain working capital/ capital.
Just my thought, hope its of assistance,
Regards,
Gary
from Stanford University in Los Angeles, CA, USA
On #1, just have the target enter into a new agreement with the supplier that memorializes the desired terms (and consenting to assignments in the context of an all assets or sale of the business deal). Or leave the credits behind and Oldco and have a covenant for Oldco to send over any credits received when such credits are received.
On #3, I'm not sure I fully understand the issue as you describe it but it sounds to me like you're talking about how working capital affects purchase price, in which case you'd just set an adjusted WC target/peg in advance of signing/closing and do a post=closing WC true-up with a working capital collar (a wide enough collar would reduce the chance of a PP adjustment). You can also just do a one-way WC adjustment.
#2 is a pure business issue. You can always elect (at your risk) to proceed without obtaining consent. I see clients do this pretty regularly unless the clients are particularly and uniquely material to the business but at the end of the day you probably have to assess and rely on the principal's relationship with material customers. You can always make the material consents closing deliverables too (where failure to deliver would be a breach of covenant subject to dollar 1 indemnity).