Published: seacoastonline.com
For business owners considering a sale in the foreseeable future, the current M&A market presents both opportunities and challenges. While financing conditions have improved and the buyer landscape has expanded, buyers are scrutinizing deals carefully, valuation expectations can differ significantly, and diligence issues that might once have been more manageable can now derail a transaction. The best way to navigate this transaction environment is to prepare well in advance of going to market and understand what to expect regarding critical aspects of the deal.
What should business owners do before going to market?
Business owners should start preparing for a potential sale early. Buyers scrutinize financial performance, operations, management, working capital, and legal risks closely. Sellers’ preparation can make a significant difference in streamlining due diligence, avoiding surprises, and ensuring that a transaction closes. Similarly, assembling a team of legal, financial, and M&A advisors well before a sale can help identify and navigate problems, establish realistic expectations, and develop a deal structure that will maximize value.
Sellers should identify and address potential problems that could affect value or delay a transaction by reviewing corporate records, ownership documents, intellectual property protections, employee agreements, litigation risks, and regulatory compliance. Resolving these issues well before a transaction gives the seller more control and reduces the likelihood that a buyer will use an unexpected finding to renegotiate terms. Obtaining a realistic market valuation early is equally important; a meaningful valuation should do more than apply a standard industry multiple and should identify the factors driving value and opportunities to improve them before an exit.
Who are the active buyers in today’s market?
The buyer landscape for lower middle market companies – typically those with enterprise values between $5 million and $50 million – has expanded. Strategic buyers remain active, particularly in industries where organic growth is challenging; for these acquirers, acquisitions offer a faster path to scale, new capabilities, or geographic reach.
At the same time, smaller private equity funds, independent sponsors and search funds are increasingly pursuing acquisitions in this segment. Independent sponsors – which typically find a target and then raise capital on a deal-by-deal basis - and search funds – which are often first-time acquirers backed by investors seeking entrepreneurial opportunities – see the lower middle market as an opportunity to create value.
While more potential buyers can create opportunities for sellers, not every prospective buyer is equally qualified. Some lack the capital, industry experience, or operating track record necessary to complete an acquisition successfully. Sellers should conduct their own due diligence and understand who is behind these acquisitions, how the purchase will be financed, and whether the buyer has successfully acquired or operated similar companies before entering serious negotiations.
How important is the LOI?
The letter of intent (LOI) is more important than some business owners anticipate. While most LOI provisions are designated as non-binding, those provisions still establish important deal terms and set parties’ expectations in ways that are difficult to change later. Key terms such as purchase price, transaction structure, working capital targets, exclusivity periods, financing contingencies, and earnout arrangements not only shape the definitive purchase agreement but also allocate risk between the buyer and seller in ways that can materially affect the economics of the deal. Obtaining advice from advisors early, before an LOI is negotiated, allows the owner to fully understand the consequences of these terms before becoming committed to a particular deal structure.
How are deals being structured to address a valuation gap?
Agreeing on valuation and purchase price can be one of the parties’ biggest challenges in negotiating a deal. Discrepancies commonly arise when cautious buyers and optimistic sellers have different views on growth prospects, when the business is heavily dependent on the departing owner, or when recent financial performance has been unstable. When these gaps cannot be resolved through negotiation, one or more bridging mechanics can be used to structure the transaction.
Earnouts are an increasingly common method of bridging a valuation cap. Earnouts tie a portion of the purchase price to future performance of the business, such as achieving specified financial targets post-closing. While earnouts can be an effective tool for getting deals done, they shift performance risk to the seller and can create many post-closing disputes. To be effective, earnouts should be used only when necessary and should be drafted carefully, objectively, and thoroughly.
What is the most important advice for a business owner considering a sale?
Business owners should start preparing early – ideally, two to three years before a planned exit - and continue running the business as though it will not be sold. A successful sale transaction requires more than finding a buyer and agreeing on a price. Owners should use the preparation period to strengthen financials, reduce owner dependence, resolve any outstanding issues, and build a management team capable of sustaining the business through a transition. Market conditions will continue to evolve, but preparation remains within the seller's control. Business owners who understand their company's true value, anticipate diligence concerns, and assemble an experienced advisory team before entering negotiations will be better positioned to maximize value, maintain leverage throughout the process, and close on favorable terms.