At LyteStream Advisors, we work with owners of privately-owned technology companies to realize optimal value. Entrepreneurs often ask us how the process of selling a business works and what they need to do to make sure their company is in the best position when they get ready to sell. To give entrepreneurs a real-world perspective we have documented this recent example of a multi-year relationship where we helped our clients grow and eventually sell an IT Services company.

Company Background

Our clients’ company provides IT services to businesses and government agencies in the extended suburbs of a major city in Texas. The company was a spin-off of a wireless Internet business founded and separately sold by our clients.

When our clients sold their previous company, the IT services division did not fit into the business model of the acquirer.  Our clients elected to buy-back the IT Services business from the acquirer as a standalone entity.  In considering options for this entity, they contacted our team for advice. 

Initially we worked together to determine the market value for their business, which was fairly modest, after the initial spin off from the predecessor company. The owners decided to retain and grow the business, hoping to achieve a higher valuation in an eventual sale.  They retained our team as a strategic growth advisor with periodic check-in discussions to determine progress and fine-tune growth strategy.

Ultimately, the owners felt the time was right to sell the business, both due to growth in valuation and their progress in developing other businesses in parallel, which needed their undivided attention.

Owners’ Objectives

The owners had several businesses and were well invested in their community.  In addition to financial outcomes for the sale of the company, they wanted to ensure that the critical services that the company provides to government and business customers would continue to be delivered with high quality and reliability.  They also wanted to ensure that their employees have great career opportunities.

Preparing to Go to Market

The first step in any M&A engagement is a comprehensive review of the business.  Our team looks at all aspects to identify strengths, weaknesses, and issues that could derail a deal.  Given our long relationship with the company, our business review went quickly.

The company had been managed in an exemplary manner.  The owners employed best practices for running an IT services business and applied our advice for an eventual sale. 

• The company was not overly dependent on the owners.
• Financial reporting was done in accordance with generally accepted accounting practices (GAAP).
• Systems and processes were well organized and documented.
• Contracts with customers were well conceived and appropriately executed.

Marketing the Company

From our extensive experience in the IT Services market, we compiled a list of several hundred potential buyers for the company. 

With the blessing of the owners, we contacted prospective buyers about the opportunity and provided a Teaser document to spur interest.  We also posted the opportunity on specialized websites catering to financial and strategic buyers.

We found a significant amount of interest for multiple reasons: 

• Recurring revenue and IT Services businesses are both in high demand and they are relatively recession resistant.
• Numerous private equity firms are executing roll-up strategies for these types of businesses, aggregating revenue and profits into larger entities.
• The local market was growing rapidly, both in population and in the creation of high-tech businesses.

Numerous prospective buyers executed NDAs and reviewed the information we had compiled in the Confidential Information Memorandum (CIM).

Managing Competitive Offers

Our sales process resulted in a competitive interest in the company from multiple buyers. We met with many interested parties, including private equity, strategic acquirers, and high-net worth individuals.  Given the level of interest, we had the ability to be selective and pare down the list to the best buyers.

The “winning” buyer provided the best combination of valuation, future strategy for the business, and a compelling roll-over equity opportunity for our clients.

Managing Due Diligence

The Due Diligence process can be tedious and time consuming for all parties. It can also be a relatively fast process if both the buyer and seller are well prepared.  In this case, the seller was very well prepared. They were able to satisfy the buyer’s desire for a quality of earnings review on an expedited basis, which validated the financial strength of the company. The buyer and seller also worked together on a survey with customers who confirmed their satisfaction with the company.

We were able to work through the due diligence process in less than 60 days.

The Definitive Agreement

The definitive sale agreement is generally negotiated in parallel with Due Diligence.  In this case, there were no major disagreements in negotiating the definitive agreement.

As with any major contract, attorneys are involved to negotiate the language of the transaction.  Some terms required multiple rounds of negotiation, but both sides negotiated openly and honestly and completed the process feeling that they had achieved a fair agreement.

Closing the Transaction

Closing a transaction is all about timing and coordination. Legal, financial, communications, and human resources all must be synchronized to affect the transfer of ownership. 

While every transaction is different, there is usually some type of last-minute complication that injects a bit of stress and causes all parties to sigh with relief when the transaction is closed. 

On this deal, closing was originally scheduled for April-May 2020, which landed right in the middle of a global pandemic.  The lockdown associated with the pandemic caused complications with site visits and coordination of the closing activities, but the team found workarounds for those issues.

The biggest issue was turmoil in the financial markets.  The original funding sources that the buyer had intended to use were affected by the pandemic and there was a period of time where the lenders simply stopped lending.  Part of this was due to economic uncertainty and part of it was due to the unprecedented wave of applications and loans associated with the Coronavirus stimulus programs guaranteed by the federal government.

Once the torrent of PPP loans subsided, lenders decided to wait to see financial results from second quarter 2020 to determine ongoing profitability and risks associated with acquirer companies and with acquisition targets.

Demand for IT services continued throughout the lockdown and the company continued to grow, as did their proposed acquirer.  Ultimately the acquirer was able to secure funding for the transaction and the deal closed, approximately five months after the original planned close.

Key Take-Aways

• Selling a company can be a lengthy and complex process with numerous potential pitfalls. Engaging competent, experienced advisors can help to avoid pitfalls.
• Market conditions and unforeseen situations (such as pandemics) can cause interruptions and lengthy delays in the deal process. Buyers and sellers need patience and a willingness to work together in good faith to overcome issues that arise.
• Selling a technology business requires more specialized skills and experience than selling a regular, “Main Street” business. Understanding the business by the advisors is often crucial, as buyers are larger, sophisticated national or international entities.
• Adherence to GAAP financial reporting standards will reduce transaction costs and speed up the deal process.
• In the due diligence process, be prepared for an intense period of activity with high demands requiring research into your business records and preparing specialized reports. Avoid scheduling vacations or other time-consuming activities during this period.
• When negotiating contracts with customers, vendors or partners, particularly long-term renewable contracts, keep in mind that you might want to eventually sell the company. Make sure that those agreements have change of control provisions and give a potential acquirer enough flexibility to address changing circumstances.
• During the process of selling your company you should continue to make day-to-day business decisions as if you would continue to “own the business forever.”