Confidence, preparation keys to negotiating wins.

An Expert's Advice: Confidence, Preparation Keys to Negotiating Wins

LET'S BEGIN this discussion of negotiations by dispelling a classic myth.

Negotiations are not win-win situations.

They are win-lose situations, especially when conducted by a consummate professional.

The professional negotiator realizes that, like a football game, negotiations are not necessarily won or lost on "game day." The winner will likely be the side that is best prepared. In this article, we will focus on how the development and effective execution of a negotiating strategy will enable you to emerge victorious from negotiations.

Determination of whether your party will be negotiating to victory (or down the road to defeat) begins at your first meeting. From this date forward, and through a variety of mechanisms, you must convey to the acquirer that, in instances of substantive differences, YOUR will is going to prevail.

These are not empty words or esoteric concepts; this is the real world.

After the consummation of successful transactions, I have been told by sophisticated acquirers that they were convinced from the first day that I was going to obtain my objectives. These observations came from acquirers who eventually purchased the selling company and those who lost out in the bidding contest.

Most amateurs read more into negotiations than what is actually there. Negotiations are merely a test of wills and the resultant ability of 1 person to superimpose his will on another.

PLANNING FOR NEGOTIATIONS

As described earlier, a significant determination of the negotiating victor will be the MORE FULLY-PREPARED SIDE.

Planning for negotiations will involve consideration of the following:

1: How will the marketplace perceive your company?

2: What are your company's major vulnerabilities?

3: What impact will expected economic conditions and company results have on the timing of the sale?

4: The impact of the previous items on your company's value.

How will the marketplace perceive your company?

A purchaser will only acquire a company if it represents the best deployment of its available funds. Consequently, your company will only be considered for acquisition when it represents an acquirer's highest rate of return on committed funds.

Therefore, an acquirer must see a strategic advantage in purchasing your company. This advantage could be an outstanding management team, or it could be a rapidly maturing research and development program. There are many possibilities, but the important questions that have to be answered are:

1: What advantages will the market (acquirer) realize in the purchase of your company?

2: How will the market perceive you?

In 1988, my company represented a construction company situated in a major mid-Atlantic market. The company was the number 2 factor in its market and had generated average after-tax earnings of approximately $3 million over the past 4 years.

While the long-term outlook for my client's marketplace was reasonably strong, the short and intermediate-term was not particularly positive. In addition, there were some fundamental problems with the company.

It was my firm's judgment that the company's flaws would not be particularly evident as acquirers would focus on recent earnings rather than the market weaknesses. Based on that perception the company was immediately taken to market. We obtained a price of 10 times aftertax earnings. This represented 3.5 times the company's book value. This is an unheard-of price for a construction company! In the 2 years subsequent to the sale, the company has shown a loss.

The key factor in marketing the company immediately, in spite of its apparent weaknesses, was the judgment of what the market would focus on. The critical point is not the condition of a company but, instead, how the market (acquirers) will perceive it.

What are your company's major vulnerabilities?

Every company has vulnerabilities. At times, these can be of paramount importance. These vulnerabilities can take many forms.

They can be the possible future reduction of sales due to a lack of commitment to research and development, or a changing traffic pattern for a chain of retail stores. For a local distribution company, it can be the expected market entrance of a major regional or national competitor. It can be an aging senior management staff with limited expected longevity.

These and many other vulnerabilities can be problems of prospective sellers. It is your advisor's responsibility to define your vulnerabilities and their impact on the timing and outcome of the sale.

In 1989, my company represented a leading niche machinery producer. This company had sustained record results in both sales and earnings for 4 years.

It was generally recognized as a product innovator and market leader in its product niche.

However, many industry insiders were aware that the company had reduced its emphasis on research and development, enabling certain major competitors to significantly close the technological gap the company's products once had.

As this knowledge was not generally available, it was my firm's judgment to take the company to the marketplace immediately. I envisioned marketing it to a "financial" buyer who would not be as familiar with industry trends as would be synergistic acquirers.

Due to the company's strong balance sheet and continuing earnings growth, financial buyers exhibited a tremendous interest. The eventual acquirer paid a price in excess of 6 times book value for the company. Within a year after the sale, the company's results deteriorated as its product line was no longer technologically superior.

In my judgment, if that company had waited another year to sell, the price obtained would have been 25 percent less.

What impact will expected economic conditions and company results have on the timing of the sale?

In certain situations, economic conditions and short- and intermediate-term company results can significantly affect sale price.

It is critical for your advisors to determine if these factors will seriously affect the marketing of your company. If these factors are a consideration, they can impact the selling price from 15 to 30 percent.

A recent situation might clarify the potential impact of economic conditions and company results.

In late 1988, my firm was retained to advise a producer of a leading product sold to the home building industry. This company had a strong historical record that had been considerably aided by a robust housing market for a 7-year period.

It was my firm's judgment that a significant deterioration in the housing sector would occur by late 1990, seriously impacting the company's results.

We promptly took the company to market and consummated a sale by June, 1990. We obtained a price in excess of 10 times earnings for a company with a "rust belt" type of product.

Within 3 months of the sale, the housing market hit the skids and remained there through the end of 1990 and into early 1991. If the sale had not been consummated prior to the third quarter of 1990, it is my judgment that the selling price would have been impacted by 15 to 20 percent.

To keep this in perspective, as this article is being written, most economists believe that we are in the early stages of a significant recession.

However, in my firm's judgment, this will not cause any price weakness for any client we are currently representing, including one that is a manufacturer of capital equipment. This is due to the companies' particular characteristics and how the market perceives them.

Based on your advisor's evaluation of the aforementioned factors and certain other considerations, a selling price for your company can be determined. It is of paramount importance to establish a premium selling price that has been aggressively, but realistically, developed.

It is essential that pricing objectives are realistic because, once the battle ensues, your negotiating team must be single-minded in purpose, determined and uncompromising to reach those objectives. Only with that approach will you be able to walk away from the battle victorious.

CONTROLLING THE PROCESS

As discussed previously, success in negotiations requires definition of your objectives and implementation of a comprehensive negotiating strategy prior to the first meeting with an acquirer.

Upon meeting an acquirer, 1 of the major objectives is to convey to that in any area where there is a substantive difference, your will is going to prevail.

Obviously, this is not going to be easy. Acquirers are generally a sophisticated, tough-minded group. However, this can be done in all cases.

In 1986, my firm was retained by a major New York City area bank serving as an executor of an estate. The decedent had owned 50 percent of a distribution company. He and the other 50 percent owner had a buy/sell agreement to buy out the others' interest at a defined, artificially-low value.

During the decedent's lifetime, the company had received acquisition offers of 20 percent above the value stipulated in the buy/sell agreement. The other shareholder would never entertain these offers, nor would he buy out his partner at market value. The decedent's attorney had never been able to resolve this matter equitably.

My firm judged that the buy/sell agreement had valued the firm at 25 percent less than fair market value. The law firm that I retained for counsel in this situation indicated that our chances of winning a court care were probably less than 20 percent, which is attorney's way of saying "no chance at all."

I was able to extract a settlement out of the company and the surviving shareholder for a price that exceeded the buy/sell agreement by 33 percent, and without resorting to lengthy litigation. The other shareholder's attorney on numerous occasions said to our attorney "I just can't understand Spilka; he just doesn't think he can lose."

The bottom line is that I knew I could lose. But I realized if I convinced the other shareholder's attorney that I thought I couldn't lose, I could get him to pay fair market value for the shares. The end result was that he did.

It gets back to a basic concept: Negotiations are mind games. It requires a person to superimpose his will on another, to dictate the outcome of the event. The following are certain things that should assure your control of the negotiating process.

OBTAIN THE OFFENSIVE.

Most acquirers come to a transaction with the mind-set that they are doing the seller a favor by buying the company. What you must do is convince the acquirer that you are an attractive entity with a number of excellent attributes to consider.

Only if his company is worthy of being the "lucky one" will he acquire your company. This puts you on the offensive.

In 1988, I was retained by a Midwestern truck parts distributor that was a major factor in its market. It came to my attention that a distributor in a contiguous marketing area strongly desired a presence in my client's area. Being aware of the potential acquirer's extreme sense of need, I was able to use this to our advantage.

I convinced the acquirer that, while we were very interested in talking to him, there were many other prospective candidates (when in fact there were none).

The end result was that we closed the deal with this acquirer within 30 days of our first conversation. The company was sold at our asking price in an all-cash deal.

ESTABLISH CREDIBILITY WITH AN ACQUIRER.

In order to convince a prospective acquirer that your will is going to prevail, you must first develop the acquirer's respect for your comprehension of the situation. He must be convinced that you understand the company and its market value thoroughly.

You must portray a total command of the situation and be able to answer intelligently all the acquirer's questions about the company and its markets. He must believe you have a negotiating plan that will generate the maximum sale price, and that you are not going to accept anything less.

MAINTAIN THE OFFENSIVE.

As the acquirer pursues with due diligence his investigation of your company, you should be scrutinizing him just as thoroughly. In addition to other benefits, this will enable you to maintain the offensive.

Preceding his initial visit, you should obtain his financial statements. As negotiations continue, you should investigate not only his company but also his prior acquisitions thoroughly. This should convey to him your concern over whether he is worthy of running your company.

Never allow an acquirer to feel too comfortable. Although it is my philosophy to be open with acquirers, you never want to show too many of your cards. Always allow the acquirer to feel that there might be an equally attractive suitor competing against him.

Whenever possible, always have more than 1 active potential acquirer.

A significant factor in assuring that your will is going to prevail is the attainment of major leverage points. Toward this goal, it is always a considerable advantage having more than 1 potential acquirer as an active buyer.

In 1986, my firm represented a New England minerals and construction company. We had 4 prospective acquirers that were extremely interested in purchasing the company and chose 1 of them, a party from Maine. A letter of intent was executed between the parties.

As the parties met in Maine to reach a final understanding on the preliminary draft of the definitive purchase agreement, the other 3 potential acquirers were unaware of their precarious position. The Maine company's attorney made unreasonable demands that we would not accept, and talks reached an impasse.

As this critical point developed, I was aware of the location of all potential acquirers. When talks broke off, I called our number 2 candidate at 6 p.m. I indicated that if he could increase his offer by 12 percent, we would sell to him. He agreed and flew up from Boston the next day to execute his letter of intent. Within 30 days, the deal was closed and my client received his proceeds.

An interesting twist to this deal was that the Maine-based acquirer called the day after talks reached an impasse and stated that they would accede to our demands. Their concession was too late.

GENERAL NEGOTIATING TECHNIQUES.

At this point, I would like to discuss some general negotiating techniques to keep in mind when conducting negotiations.

1: Demand the attainment of your objectives without appearing adversarial.

Negotiations, by their very nature, are extremely competitive and adversarial. The prudent negotiator conveys his will is going to prevail in a manner that does not demean his adversary. It is critical that an effective negotiator be totally demanding, but in a positive way.

2: Silence is golden.

As negotiations develop, divulge only what is necessary. I am not a believer in "chummy" relationships with prospective acquirers that include extraneous conversations and socializing. It is amazing how a seemingly meaningless fact can derail what could have been a lucrative sale. Stick to the issues, close the sale, and then do your socializing.

3: Be prepared.

Negotiate only at a time and place convenient to you. Before scheduling a negotiating session, obtain all necessary facts. Determine your adversary's likely positions and your responses to various alternative strategies and issues that he might pursue. Evaluate how the meeting will fit your overall negotiating strategy. Determine the appropriateness of its timing in relation to the status of negotiations being conducted with other prospective acquirers.

4: Win the war

Stay focused on achieving the primary objective(s) of your negotiating strategy. Don't become obsessed with secondary issues.

Consider the case of a client whose manufacturing business was significantly affected by the business cycle. He was scheduled to close his sale on July 31, 1990. Two weeks before closing, the acquirer reduced his offering price by 6.5 percent. Never during my firm's existence had I accepted a reduction from a previously-agreed price. As a matter of principle, I considered discontinuing negotiations.

Upon further reflection, I decided to continue negotiations in spite of the proposed 6.5 percent price decrease. This decision was based on a number of factors, including:

* The second highest of seven offers was 15 percent less than the top bid;

* An economic downturn would probably expose certain of my client company's vulnerabilities.

We negotiated with the acquirer, agreed to a price reduction of 5 percent, and consummated the deal as scheduled on July 31. Shortly thereafter, an economic downturn significantly affected the company's operations.

The results confirmed the validity of my judgment. Although we lost the specific battle by accepting a price reduction, we won the war. The company was sold for a price which exceeded its then-current market value by 15 percent.

SUMMARY:

The essential point to remember is that negotiations are strictly a mind game, a test of wills and the resultant ability of 1 party to superimpose his will on another. Don't make anything else of negotiations; that is their essence.

Success in negotiations requires the definition of your principal negotiating objective(s) and a comprehensive negotiating strategy to obtain them. This strategy should encompass a plan to obtain and provide for the maximum utilization of all leverage points available.

Planning is paramount, even more important than developing a commanding presence. Planning ensures your success on "game day" by forcing your adversary to accede to your will.

Be convinced of the propriety of your position. Never get sidetracked on secondary issues. Remain steadfast and diligent in the pursuit of your major objective(s), and persist until they are accomplished.

If you believe that you will succeed, you will also convince your adversary. By so doing, you will emerge victorious from negotiations.

George M. Spilka is president of George Spilka and Associates, a Pittsburgh-based merger and acquisition consulting firm with an international practice. They firm currently represents manufacturers, distributors and retailers throughout the United States and Canada.