A Guide to Confidentiality in Mergers & Acquisitions
Major harm can be done when you are working on deal in mergers & acquisitions when things are not kept extremely confidential. Making sure all parties are aware that fiduciary responsibilities must be kept on a “need-to-know” basis. When we speak of every party involved, it includes bankers, company shareholders, the board, attorneys, accountants and yes even family.
This certainly may seem a bit drastic and extreme, but let me paint an interesting picture. For instance, if information was leaked at the wrong time, customers could find out. And, when customers find out, they can sometimes talk to one another and all jump ship together, running to the competition. You should be able to immediately see why this is not a good thing.
First, if you are suffering from a significant loss of major customers during a time when company valuations are based on said customers, your overall value could drop over night. So, if someone on your board or in your family is the type that likes to flap his/her yapper and cannot keep a secret prior to the complete deal closure, it may be wise to keep them out of the loop.
Secondly, when a deal goes south it can have a ripple effect not only on the value, but the ability to sell the company at all. It may turn off the initial interested parties altogether. Other parties who had shown interest previously may want to walk for fear they would then be dealing with “tainted goods.”
Another aspect of confidentiality comes into play when you are giving potential buyers information. It is certainly important to be open and have complete integrity when dealing with potential buyers, but if you are planning on giving such a prospect a list of customers, employees or even vendors with financial information, it is generally wise to blot out all information relating to who and keep any dollar amounts rounded.
How to Preserve Confidentiality When Selling Your Business
One of the biggest concerns business owners fret over as they entertain the potential of selling their business is how to keep the transactions leading up to the sale confidential. This concern, of course, has merit. Few business owners want word of the potential sale reaching:
- Their customers
- Their employees
- Their competitors
- Their vendors
Depending on your business and the type of industry you’re in, there’s a good chance you’ll struggle to keep the pending sale under wraps. However, there are a few strategies you can put into place to improve the likelihood that your confidentiality will be maintained until you’re ready to announce the sale on your terms.
1. The non-disclosure agreement and buyer qualification
As you begin to sell your business, you’ll have a teaser created that’s provided to prospective buyers. This one-page teaser includes just enough background on your business to entice buyers, without making it easy for them to reverse-engineer your company’s identity.
Buyers, who express interest after reading the teaser, should then be qualified to see if they have the means to buy your business. If they don’t, there’s no reason to move on to the next step.
This next step is to have qualified, potential buyers sign a legally approved confidentiality agreement. Sales managed by a broker or M&A professional will have this form signed even before your company name is revealed.
But how affective are NDA’s?
A common concern brought up by business owners is the true worth of these NDAs. What’s to keep a buyer from leaking information to a competitor? However, keep in mind that if a potential buyer chooses to breach the NDA he signed, he’s risking his integrity and reputation. That, more often than not, is enough to maintain faith in this legal document.
2. Create a hold list of buyers
If you’re in an industry where your closest competitors could harm your business if word of the sale is leaked, it’s best practice to create a hold list. This hold list will be comprised of the companies you’ll contact only toward the culmination of the sale process, and only after you’ve received viable offers.
The benefit here is you might be able to leverage a high valuation for your business, if you contact certain companies (like your competitors) after garnering strong offers elsewhere.
3. Be open with your management team
It makes perfect sense to want to shield your customers and employees from learning of a potential sale. However, more damage can be done to your business if you also choose to withhold this information from your management team.
While it doesn’t happen often, it is possible that your NDA will be breached. If your management team catches wind of the sale, your best approach is to be up front and honest. By bringing your senior managers into the fold, you’ll avoid the repercussions of a management team that feels slighted or undervalued. This might include the spread of rumors as well as a negative impact on work productivity.
Rather, you’ll increase the likelihood that your senior managers will get on board with the sale, because they’ll have time to process the information. In fact, 95% of confidentiality breaches come from within, so managing internal communication and confidentiality is perhaps the greatest struggle.
Furthermore, you might find it beneficial to include your managers in the sale process. This could make your business more attractive to buyers, thus increasing its sale price.
4. If word gets out, honesty is key
Even if you go to great lengths to preserve confidentiality, in today’s information age, your customers, vendors, and employees might still hear rumors of a sale. It’s best not to be vague or cryptic if approached about selling your business. Rather, be up front and honest. Explain that you are considering a transition, and state your reasons why (you may be retiring, or feel you’ve reached your potential with this particular venture).
If history is any indicator, people are far more accepting when someone offers honesty, than when they try to conceal the truth.
Confidentiality is important, but it’s not everything
Business owners have every reason to want to preserve their company’s confidentiality during a sale. However, if your confidentiality is breached, all hope is not lost. It may also be helpful to note that breach of confidentiality is only one area where your transaction can go in the wrong direction. Working with a broker or M&A professional can ensure you maintain your confidentiality, while helping you work through all the obstacles you may face as you look to sell your business.
The Confidentiality Agreement is the First Line of Defense
Selling a privately-owned company often involves privileged information, including details on everything from the electric bill to how much a particular customer contributes to top-line revenue. When it comes to doing deals, sensitive information is often thrown around willy-nilly. The potential for highly-sensitive information to be leaked to competitor’s, customers or both can not only put a wrench in the cogs of the deal but can ultimately lead to the demise of the company’s profits. Some customers may get wind of a change and decide to change providers to avoid the hassles inherent in management transition.
CAs and NDAs: Protection from Leaks
Confidentiality and Non-Disclosure Agreements can help prevent the leakage of pertinent and strategic information. Legal documents can often provide a false sense of security. They’re really only as helpful as the integrity of the executor. However, they are helpful as breaking them can at least provide the seller with some punitive recourse in the event the document is breached. Conversations for company transitions could involve the protection of one or more of the following:
- Financial Information. Financial statements contain most of the story behind a company’s past success and will most likely point out where the chinks in the armor lie.
- Confidential Marketing Memorandum. This document contains even more information than financial statements. It will have information on product/service volumes, key markets, demographics of customers, company strategy, analysis of the value of company assets and information on intellectual property. In essence, the CMM tells the story of the entire business, including strategic business information about the company.
- Letter of Intent. Confidentiality must be mutual. If the buyer knew the seller was being flippant about a signed LOI, then the deal could implode.
- Key Customer Data. If key customers make up a large portion of annual revenue, then losing said customer could be devastating on the profitability of the company. Damaging such relationships can be easily done when information is leaked on the potential execution of a deal. Keeping customers and customer information confidential is absolutely necessary.
- Management. Management could receive incentives to stay-on for a time after the deal closes. Each member of the management team will most likely have a different conversation with the buyer.
- Phone/Email Correspondence. Any phone and email conversations between parties must involve the understanding that each time a conversation takes place, it is done in the strictest of confidence. This also includes face-to-face conversations as well. All conversation content is subject to the guiding rules of the CA or NDA.
If there is a breach, the CA or NDA will usually contain provisions on how the company will be affected along with the punitive damages the potential business buyer will suffer as a result of the breached agreement. State laws for M&A are generally included as they differ in punitive damages and the action that can be taken if a breach of contract is made.
In the even that a deal is cancelled, most CAs and NDAs will require that any and all documents which have been part of the transaction must either be returned without being copied or must be destroyed by the intended buyer.
Most agreements expire in a year or two after their execution and confidentiality is exempt when the facts are in the public domain or if a court document requires subpoena of the information. In the event of a subpoena, the affected party (in most cases the seller) is entitled to notice that such information will be released.
While a CA or NDA is no guarantee that confidential information will not be released, it can be a good first line of defense in the event that a feigned potential buyer intends on being nefarious.
Unlike the real estate world, businesses that are for sale do not have all the information readily available and posted to websites and magazines. Business transactions are highly dissimilar in this way and require a much greater deal of confidentiality. It helps M&A advisors when the client understands the vital importance to keep things quiet and confidential when doing a deal. Sensitive information is best kept under wraps, at least until the deal is finalized and the liquidity event has taken place.
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