John Carpenter
Managing Shareholder
Carpenter, Petersen & Associates
Foothill Ranch
From our viewpoint, M&A activity in Southern California has tracked the general increase in the national level of M&A activity over the past year and a half. Several clients have made acquisitions in the past two years, whether locally or in foreign jurisdictions, in line with the particular company’s business plan and forecasted needs for growth. In many cases, these acquisitions are made with available corporate funds accumulated during the recession or are financed partially by bank or shareholder financing, with earn-out provisions providing additional financing. In addition, some clients are reviewing their own plans for selling their businesses in light of the improved economy and higher multiples for valuations.
Acquirers are always concerned with thorough due-diligence procedures to ensure that the financial and operational information they are being provided by the target is accurate and that a fair price is being paid for the target. In addition, retention of the target’s key employees for a limited period of one to two years, and cultural and operational synergies with the acquirer are carefully evaluated during the process. A good advisory team is always recommended to the client at the outset of the process. In addition to our team, we advise clients to engage a legal M&A specialist. We generally refer our clients to Roger Neu at the M&A Law Firm in Irvine whom we have worked with for more than 20 years, with excellent results.
M&A activity can vary significantly by specific industry sectors, but it appears that middle-market M&A activity should stay strong through at least the end of the year.
This can still be called a “seller’s market,” but buyers are not giving away their money. Buyers are anxious to close deals quickly, but they are doing extensive due diligence to make sure they do not make mistakes that were made in the past. Buyers, however, will react quickly if they see a good opportunity.
This increased M&A activity may continue well into next year—but beware of selling in an election year. Many variables, such as interest rate levels, worldwide economic activity and political decisions, will have significant impact on the M&A market.
Ryan Guthrie
Partner, Transaction Advisory Services
BDO
Costa Mesa
In Orange County, there is an attractive diversity of strong and growing lower middle-market companies. Private equity groups in particular have long seen OC as a fragmented market that is ripe with new investment opportunities and add-on opportunities for their portfolio companies. Part of this diversity is the industry sectors the OC market spans, which include manufacturing, technology, healthcare services, and consumer products—all of which are active industries nationally, as well.
I believe business owners in OC and elsewhere have recognized the current high demand for quality companies, as well as the high valuations being paid for them, and as a result, they have been more inclined to bring their companies to market in recent quarters. Indeed, there are a substantial number of buyers in the market and a growing base of motivated sellers. This supply/demand equation is driving strong activity in the local market and all over the country.
We have been very active in OC in terms of due-diligence assignments recently. On the buy side, three private equity clients hired us to provide due diligence on a design and engineering firm, a software provider, and a packaging business. On the sell side, we advised a nutraceutical company and a family-owned recycling company. All of these were OC-based businesses. In working with these and other clients across the country, the same basic concerns have been in place for a long time—namely, the accuracy of the numbers and the identification and quantifications of issues and risk. However, a notable trend emerging with sellers is the desire to have due diligence or a “quality of earnings analysis” performed on their business in advance of approaching potential buyers. This pre-emptive exercise is becoming very popular, as it allows sellers to identify and mitigate potential issues before going too far down the sale path.
2014 was a very good year in terms of activity and valuations. Recent data suggest these characteristics have continued in 2015. Our volume of work remains strong, and this is also an indicator of continued robust activity. Although it certainly continues to be a seller’s market, it would not be surprising to see a cresting or peak in deal volumes and valuations at some point during 2015. A market this strong cannot be sustained indefinitely.
Bradford Hall
Managing Director
Hall & Co. CPAs and Consultants Inc.
Irvine
With about a 50% failure rate in the U.S., you would think that all parties involved in an M&A transaction would do a better job to increase the odds of success. We have more than 35 years of experience and have seen many issues derail M&A deals, including letting too much time lapse before the closing.
A seller should have all of its accounting records in perfect order. Past audited financial statements add tremendous value to a deal, but few companies have them. Having a CPA firm that handles M&A will shorten the due-diligence period greatly. Poor legal counsel on either side or an incompetent investment banker can quickly sink what would otherwise be a great deal.
Both the buyer and the seller tend to want to use their existing CPAs or outside corporate attorneys to handle M&A transactions, despite the fact that these professionals may rarely handle M&A work. This is an extremely specialized area and requires 24/7 attention when a deal gets hot. In most cases, it requires the CPAs and attorneys to work through nights and weekends to ensure the transaction stays on track.
One of the biggest enemies to an M&A deal is time. I watched a $30 million Southern California manufacturing company acquisition fall apart because a delay of longer than a month took place while a New York law firm representing the buyer went dark every day at 5 p.m. Eastern Standard Time and the Costa Mesa law firm representing the seller didn’t open up for business until 9 a.m. Pacific Standard Time. We were lucky to get a three-hour window per day when both law firms were communicating. It took weeks to get a final agreement, and on the slated closing date, a Monday, the acquirer’s stock dropped below $10 per share, and the financing bank pulled all of its funding. Had it closed on the previous Friday, the seller would have had the $30 million in his bank account.
Business owners must rely on professionals to advise them of all the potholes and landmines in the M&A landscape. It is most likely the biggest deal in their lifetime involving what is often their most valuable asset, and it requires speed and M&A experience from advisers.
Frank Kaufman
Partner
Moss Adams LLP
Irvine
If you operate a profitable company in Orange County and haven’t been contacted as a merger and acquisition candidate, then you’re flying under the radar.
The flurry of activity in the last year rivals any time in history. This is due to many factors: trillions of dollars in available investment funds, low interest rates, banks returning to leverage multiples that allow for purchase price payments, a positive economy, and pent-up demand for exit opportunities, low unemployment, and the return of the IPO.
The most powerful factor, however, is the talent within entrepreneurial companies that resides in Orange County.
Sellers were concerned when they weren’t seeing the numbers they wanted due to the economy. There was a canyon between the ask and the offer because investors were shy in terms of putting in big numbers or slow to even make offers. Now the paradigm has shifted, and the canyon walls are eroding. Low rates, leverage multiples, and available funds are helping to bridge that gap.
It’s exciting to help long-term clients go to market. We were recently on the sell side of Sanuk, an OC-based apparel and footwear company known for its distinct designs that was sold to a large contender in the footwear realm, also based in Southern California. This transaction, which was public, was celebrated locally because of the level of innovation and the impressive multiple—five to six times multiple, which wasn’t an EBITDA multiple, but a multiple on top-line sales.
We also worked with an OC-based cosmetic brand that was a prime target because of the unique talents of the founders and its creative management team, which drove high growth and tremendous multiples.
The IPO market has awoken from its hibernation and is on fire in Orange County. This sends a strong message to investors that a very profitable avenue for exit has returned. Most private equity groups invest with a window of three to five years, and the public exit return fuels their hopes. As a result of this surge, we’ve worked on many more IPOs and were directly involved in the IPO of The Habit Burger Grill. The OC-based burger concept gained national attention, with the transaction raising close to $90 million.
So the question is, “Are you ready?”
The deal process has a lifespan—and it’s short. It’s important to keep the momentum going and remember that distractions cause delays. Opportunity is there, and funds are plentiful; however, interest rates are expected to increase in the second half of 2015, and it’s unlikely that unemployment will remain indefinitely at an all-time low.
David Krajanowski
Partner
SingerLewak LLP
Irvine
M&A was strong coming out of 2014 and continues so far into the first half of 2015. The trend in Orange County is the same. I expect the M&A environment to stay strong as long as the economy stays strong.
Sales activity among family-owned businesses continues to be strong as many owners face the challenges of retirement without succession in place, health issues, and an inability to take the company to the next level or simply an owner wanting to step away. When a company is positioning itself for sale, they need to make sure they have solid financial reporting to stand up to the buyer’s due-diligence process. It is better to fix any weaknesses before commencing the sales process than later.
Conversely, many family-owned companies are considering acquisitions as a way to add value to their companies for the future or to build a stronger legacy. An acquisition program can turn a $10 million company into a $40 million company over a few years, significantly increasing value. A perfect example is a client in the injection molding business who is pursuing a roll-up strategy nationwide to purchase similar smaller companies to create greater value.
One thing to remember on an acquisition strategy is that you don’t have to purchase a company. There are instances out there where you can strategically purchase parts, such as an underperforming division of a larger company, a product line, a location in another geographical area, research and development capabilities, key talent, etc. The advice I always give my clients is to always understand your business first as to your strengths and weaknesses, then pursue a strategy to take advantage of strengths or minimize risks in acquisitions.
Dennis Parrott
Orange County Managing Partner
KPMG LLP
Irvine
In Orange County, M&A activity has remained strong due in part to the robust industries represented in the region, such as technology, life sciences, food and beverage, consumer goods, retail, manufacturing and distribution, financial services, real estate, and healthcare sectors.
Locally, I anticipate that we will continue to see M&A activity growth due to the sustained growth of the economy and the confidence that exists within the marketplace. In fact, this year, KPMG released its 2015 M&A Outlook Survey. In it, 82% of respondents indicated they were planning at least one acquisition in 2015, and 19% said they’re planning to make two acquisitions.
Respondents noted they planned on completing multiple deals in 2015, considerably more compared to previous years.
After years of trimming costs and turning toward organic growth, there is a renewed and concentrated focus on M&A. Market conditions are strong for M&A, with strong balance sheets and increased CEO and consumer confidence.
Even with the uncertainty of a few global markets and the geopolitical instability in a few regions around the globe, economic fundamentals that drive M&A are strong. Any uncertainty in international markets should not halt the progress or impact any activity in Orange County.
One final takeaway: M&A due diligence will only become more sophisticated with the integration of market research, expanding data sets, incorporating a global viewpoint, and providing an automated perspective on the data. Organizations will look more closely at data, assess potential synergies or red flags, and develop more accurate conclusions and market plans. Southern California, especially Orange County, remains on solid footing for sustained growth and activity.
Steve Rapattoni
Partner-in-Charge
Marcum LLP
Irvine
A recent Pew Research study says 10,000 people in the U.S. will turn 65 today. In fact, 10,000 will turn 65 every day for the next 19 years. Owners are looking to retirement and cashing out in record numbers. Orange County is largely made up of middle-market companies, and M&A activity is continuing to grow past levels seen in 2014. What’s driving this growth? What are the trends to watch for? There are many market forces fueling M&A activity in Orange County, not just demographics. In a recent Citizens Bank report, 57% of companies with $100 million to $2 billion in revenue are currently involved in or are actively seeking acquisitions. Here are some trends to look for:
n There’s money to spend, and sponsors are getting creative. Seeking the highest return on capital is forcing private equity to proactively search their sectors for deals.
n Deal multiples are going up. With more competition in the middle market, performing companies will go for a premium. Deals that seemed too expensive in the past will look more reasonable seen through today’s market perspective. If you are a seller, you could reduce your risk by engaging in sell-side due diligence. As a buyer, beware of buying at inflated premiums.
n Healthcare M&A is expected to lead the way in 2015, followed by technology/media, as these industries are the most transformative. Biotech, healthcare IT innovation and hospital consolidation are driving factors.
Volatility will continue, and M&A professionals in Orange County, on both sides of the deal, will have to focus on quality and performance. Performing companies in Orange County are being sold at premium multiples, and underperformers are being significantly discounted. Both financial and strategic buyers are racing to find competitive advantages with their acquisitions. This race is fueling buyers to be proactive and creative while also driving multiples up. All of this is happening in front of a historical demographic shift in our country. Will 2015 be the high water mark for M&A activity in Orange County? I don’t know. What I do know is it will be a year to remember.
Steve Williams
Managing Partner
HMWC CPAs & Business Advisors
Tustin
Our client base consists entirely of private, closely-held companies. When working with these clients you quickly realize that you are not only dealing with a business but also with the individual owners and all of the issues related to their life goals.
The baby boom generation is now making its impact on the M&A arena. As multitudes of boomers move into their retirement years, they are significantly impacting the M&A market as they begin to implement exit strategies for the businesses they own.
One aspect of the M&A market as it pertains to closely-held businesses that is sometimes overlooked is the role that the owners’ emotions play in the M&A process. In most instances, the owner has built his business over the course of many years and is passionate about what he/she does. Overcoming this feeling of losing control is an important step in the process. We have experienced a number of instances where the owner intellectually knows it is time to transition the business but is not yet emotionally ready, despite the fact that the economics of the deal are favorable. We see this in Orange County, especially with professionals. We are currently working with several physician practices to facilitate mergers, and the sticky deal points are not all financial. The physician issues relate to names, governance structure and, of course, compensation.
We also find this to be true as HMWC looks to merge in smaller, niche oriented accounting firms in the area. The owners are certainly interested in the financial terms of the deal, but the smaller firms would also like to know that their name, reputation, employees and clients are well cared for throughout the process.
Another challenge that sellers must contend with is what to do with the sales proceeds in today’s low investment return environment. Asset allocation and diversification are always important aspects of any investment strategy and even more so when an individual is owner and “cashing in” on his/her lifetime business investment. Many seek new business investments and interests, such as real estate investments or venture capital, and seek our advice in that process.
Despite the challenges inherent in the M&A process, the demographics of today’s baby boom generation will continue to drive this activity forward. We may see a shift from a seller’s market to a buyer’s market as more boomers decide it is time to implement their exit strategy, resulting in an acceleration of their businesses coming to market.
