M&A: Bidding opens up opportunities for investors and sellers

last updated on 22 February 2022 | reading time approx. 3 minutes

German companies are sought-after all over the world. The owners can therefore currently achieve high purchase price levels. In the M&A process, bidding has proven to be a good tool to reach the largest possible group of potential buyers. What should investors bear in mind?

 
Anyone who wants to sell their company must first answer the following question: How can a sales process be organised as effectively and advantageously in legal terms as possible? It is in the interest of the seller to be able to reach the largest possible group of potential buyers and achieve an adequate price without the news about the sale of their company becoming public too early.
 
The bidding procedure proves to be a good tool for this. Most bidding procedures in such M&A transactions are conducted as the so-called limited auctions. Their distinctive feature is that the seller determines a limited group of bidders by themselves. The list of the bidders is being gradually reduced until finally the purchase agreement with the selected bidder can be signed.
 
While still some time ago bidding was common only in larger – usually international – sales transactions, it has been increasingly observed in the last 10 till 15 years also among medium-sized companies.
 

The bidding process flow

A bidding procedure is composed of multiple phases: In order to get the process going and for the subsequent contacting of potential buyers, an M&A advisor is usually first engaged in the preparatory phase who manages the bidding process for the seller in the preliminary phase. At the same time, lawyers draw up the necessary legal documents, such as the so-called data room rules for the data room to be used later.
 
During this phase, the seller should still remain anonymous to the potential buyers, which is why the M&A advisor acts as an intermediary. The M&A advisor and the seller together draw up a list of potential buyers, to whom a short presentation of the target company is sent as the so-called teaser. The presentation contains general, anonymised, initial information about the target company.

 
If the potential buyer is interested in participating in the further procedure, a non-disclosure agreement (NDA) is signed with them. Subsequently, the bidders receive the so-called process letter delineating the further course of the procedure and further organisational aspects as well as containing a detailed description of the target company (“Information Memorandum”, “IM”). In certain cases it may be appropriate for the seller to have the so-called Vendor due diligence (“VDD”) carried out in advance in order to have the target company analysed and examined from a financial, tax and legal point of view. This has the advantage that the seller can solve any problems in advance during the preliminary phase and subsequently provide the bidders with uniform information based on due diligence reports. This can also reduce or even partially eliminate any liability on the part of the seller.
 
Finally, in this first phase, every bidder is invited to submit a non-binding, indicative offer to the seller based on the framework terms specified in the process letter, the so-called non-binding offer. The predefined framework terms serve to ensure the comparability of the bids submitted by the bidders.
 
In a subsequent second phase, bidders are usually short-listed on the basis of the indicative offers. The remaining prospective buyers are given access to a data room, often only online via special access authorisations (virtual data room), which contains detailed information on the target company. This is intended to enable bidders to conduct their own due diligence and provide themselves a concrete basis for making the decision whether to buy the target. The bidders are given the opportunity to directly contact the seller and his advisors with questions about the target company in a coordinated procedure. The so-called management meetings are arranged and held.
 
Finally, the bidders receive a draft Sale & Purchase Agreement (“SPA”) prepared by the seller, which is uploaded to the data room. The remaining bidders are invited to submit a binding offer for the purchase of the company (Binding Offer) within a certain period of time, including proposed amendments to the SPA (“SPA Mark-Up”). Depending on the method of valuation, the binding offer should usually present the bidder's specific idea of the enterprise value, the purchase price (equity value) after deduction of all net financial liabilities (net debt) and its composition.
 
In the third, final phase, only a few or one bidder are admitted. They receive a preferred bidder status and are given access to further confidential information that was not disclosed in the previous phases, and participate in the final contractual negotiations. Negotiation exclusivity is generally only guaranteed to the bidder for a limited period of time. Finally, the final negotiated purchase agreement is concluded with the final bidder.
 

Advantages and disadvantages of the bidding process

The competitive situation created as part of the controlled bidding procedure has the advantage of optimising prices and conditions. From the seller's point of view, what speaks in favour of conducting the limited auction is the lower degree of dependence on certain prospective buyers, the stronger negotiating position, especially with regard to the purchase price, as well as the limited issuance of guarantees and indemnities, which are always required by the buyer.
 
What speaks against it is certainly the lengthier procedure and the commitment of management resources. Nonetheless, the involvement of M&A advisors and lawyers in the preliminary phase significantly reduces the expense on the part of the company because, with such a structured process, many aspects of the process can be outsourced to professional advisors. In addition, as information is disclosed and uploaded to the data room, there is certain risk of business secrets being misused and the target’s key employees enticed away, which however cannot be fully ruled out when conducting classic face-to-face negotiations, either. However, it is exactly the staged process of granting the bidders access to such information that serves as a safeguard in the bidding process against the disclosure of sensitive information.
 
From the bidder's point of view, the disadvantage is the lack of an overview of their own negotiating position due to the lack of information on the number and identity of the other competitors. Furthermore, the procedure can be disadvantageous to the bidders financially, because, depending on the stage of the procedure on which they exit, they have to bear their advisory and other transaction costs, i.e. generate frustrated expenses. This weakens their negotiating position.
 
At the same time, the bidding procedure enables international investors in particular to have an opportunity to be treated on an equal footing with national competitors. The most attractive offer in terms of market opportunities and price wins the auction; personal contacts play a lesser role in the sales process than in face-to-face negotiations.
 
Despite certain disadvantages, especially for the buyer, the controlled bidding procedure takes good account of the specific requirements and the special aspects of the sale of a company, as the advantages for the seller considerably outweigh the disadvantages.