We're in a deep recession. How much should I pay for this business?

Acquisitions in a Recession

The sharp global economic downturn has had a significant effect on the chemical industry.  Yet M&A activity continues, although at a slower pace.  What is an appropriate acquisition strategy in difficult times?  How do you value a business that you want to buy these days?  Amid all the uncertainty, how do you know what to do? 

Here are a some acquisition strategies that can be successfully employed in an economic downturn:

HEDGE YOUR BETS  People will often ask  “What are the multiples today?”  The answer, as always, is that it depends.  Are you talking about a multiple of trailing  12 months earnings?  In many cases in the chemical industry, the last 12 months have been significantly down.  A normal multiple on this will yield a very low price.  What about a multiple on future earnings?  Given the uncertainty in today’s markets, can anyone realistically forecast the next 12 months with any degree of confidence?  In many cases in the chemical industry, the answer is no.  So if the last 12 months is not a good indicator of the earnings of a business, and the next 12 months is also very hard to predict, then what’s a buyer to do?  As the man in the cartoon asks, how much do you pay for a chemical business these days that has been in significant decline in the last 12 months and has no prospects for a return in the next 12 months?  If you are dealing with a seller that does not have a burning need to sell, the answer that might be a win-win for both sides is some kind of two-tiered pricing structure, with some amount paid up front and a second payment, or series of payments, based on the performance of the business in the future.  These types of earnouts or contingent payment structures are quite common in the industry even in good times, and can be used even more in difficult times like we see today.

EMPHASIZE SPEED AND CERTAINTY, DEEMPHASIZE PRICE   While price is normally the most important factor to a seller, it is not always that way.  In difficult times, a seller may be more interested in doing a deal with a buyer that can move fast and does not renegotiate terms at the last minute.  This may happen more often when the seller is a large corporation selling off a relatively small business.  Price may not be that important as opposed to speed and certainty of closing.  Buyers who can credibly offer these types of advantages to a seller can often be successful.

STICK TO RECESSION PROOF MARKETS   While a good part of the chemical industry has been in a decline in the last several months, not all sectors are having problems.  Chemical businesses that serve the classic “recession-proof” markets are a much safer investment for the acquisition-minded.  Markets such as food, medical and personal care are examples that come to mind.  Typically the customers of chemical businesses in these sectors are not seeing the kinds of declines that sectors such as housing and auto are seeing for example.  So an acquisition-minded company that focuses on these sectors will have an easier time.

Bottom feeders are having a good time these days.

BE A BOTTOM FEEDER  Many sellers who do not have a strong need to sell have taken their businesses off the market in the last several months.  Clearly for them, it is not a good time to sell and it’s better to wait for another day.  But there will always be those who need to sell, regardless of the dire economic climate.  And in some cases, there are those that need to sell because of the dire economic climate.  Thus, a bottom feeding strategy for buyers who are looking for bargains can be a very successful strategy in time like these.

CASH IS KING  Finally, given the uncertain lending environment today, sellers are asking a lot of questions about a buyer’s financing capabilities to screen out those that may have difficulty coming up with the cash needed to make the acquisition.  This creates a significant opportunity for the buyer that can legitimately say to a seller that it has the cash and/or will do the deal without a financing contingency.  These are the ones that go to the head of the line and who can get the best deals.