M&A: Negotiations Don’t Start Until Someone Says No
Countless books and articles offer advice that can help deal makers avoid missteps at the bargaining table. But some of the costliest mistakes take place before negotiators sit down to discuss the substance of the deal. Sellers fall prey to a seemingly reasonable, but ultimately a false assumption, about deal making. Sellers and their negotiators often take it for granted that if they bring a lot of value to the table and have sufficient leverage, they’ll be able to strike a great deal. While those things are certainly important, many other factors influence where each party ends up.
Three of those “other factors” can have a significant impact on the outcome of the negotiations.
1. Negotiations start when someone says “no”
One of the greatest inhibitions clients have is risking rejection. This is particularly true in the post-’08 meltdown and continuing jobless recovery from the worst economic period since the Great Depression. Our reluctance to negotiate past “no” is even harder because both men and women miss the key point: Negotiation is a conversation whose goal is to reach an agreement with the buyer whose interests are not perfectly aligned with the seller. Invite the buyer to your side of the table to figure out how both parties can get as much as each party wants as possible.
2. Negotiate process before substance
A couple of years ago, two co founders of a tech venture walked into a meeting with the CEO of a Fortune 100 company who had agreed to invest $10 million in their company. A week earlier, the parties had hammered out the investment amount and valuation, so the meeting was supposed to be celebratory more than anything else. When the cofounders entered the room, they were surprised to see a team of lawyers and bankers. The CEO was also there, but it soon became clear that he was not going to actively participate.
As soon as the cofounders sat down, the bankers on the other side started to renegotiate the deal. The $10 million investment was still on the table, but now they demanded a much lower valuation; in other words, the cofounders would have to give up significantly more equity. Their attempts to explain that an agreement had already been reached were to no avail.
What was going on? Had the co founders misunderstood the level of commitment in the previous meeting? Had they overlooked steps involved in finalizing the deal? Had the CEO intended to renege all along — or had his team convinced him that the deal could be sweetened?
Upset and confused, the co founders quickly assessed their options. Accepting the new deal would hurt financially (and psychologically), but they’d get the $10 million in needed funds. On the other hand, doing so would significantly undervalue what they brought to the table. They decided to walk out without a deal. Before they left, they emphasized their strong desire to do a deal on the initial terms and explained that this was a matter of economics. Within hours, they were on a plane, not knowing what would happen next. A few days later, the CEO called and accepted the original deal.
The gutsy move worked out for the co founders, but it would have been better not to let things go wrong in the first place. Their mistake was a common one: focusing too much on the substance of the deal and not enough on the process. Substance is the terms that make up the final agreement. Process is how you will get from where you are today to that agreement. My advice to deal makers: Negotiate process before substance.
The more clarity and commitment you have regarding the process, the less likely you are to make mistakes on substance. Negotiating process entails discussing and influencing a range of factors that will affect the outcome of the deal. Ask the buyer: How much time does your company need to close the deal? Who must be on board? What factors might slow down or speed up the process?
Of course, you can’t always get clear answers to every question at the outset—and sometimes it is premature to ask certain questions. But you should seek to clarify and reach agreement on as many process elements as possible—and as early as is appropriate—to avoid stumbling on substance later.
3. Control the frame, the psychological lens
The outcome of a negotiation depends a great deal on each side’s leverage—the better your outside options are and the more ways you have to reward or coerce the other side, the more likely you are to achieve your objectives. But the psychology of the deal can be just as important.
In my experience, the psychological lens, through which the buyers and sellers view negotiations has a significant effect on where they end up. Are the parties treating the interaction as a problem-solving exercise or as a battle to be won? Are they looking at it as a meeting of equals, or do they perceive a difference in status? Are they focused on the long term or the short term? Are concessions expected, or are they seen as signs of weakness?
Effective negotiators will seek to control or adjust the psychological lens early in the process—ideally, before the substance of the deal is even discussed. Here are two elements of the psychological lens that negotiators would be wise to consider.
- a. Your alternatives versus theirs: Research and experience suggest that people who walk into a negotiation consumed by the question “what will happen to me if there is no deal?” get worse outcomes than those who focus on what would happen to the other side if there’s no deal. When you are overly concerned with your own alternatives, and especially when your outside options are weak, you think in terms of “what will it take (at a minimum) to get them to say yes?” When you make the negotiation about what happens to them if there is no deal, you shift the frame to the unique value you offer, and it becomes easier to justify why you deserve a higher price or better terms and conditions.
- b. Equality versus dominance: Not so long ago I was consulting on a strategic deal in which our side was a small, early-stage company and the other was a large multinational. One of the most important things we did throughout the process—and especially at the outset—was make sure the difference in company size did not frame the negotiation. I told our team, “These folks negotiate with two kinds of companies—those they consider their equals and those they think should feel lucky just to be at the table with them. And they treat the two kinds very differently, regardless of what they bring to the table.” Over the years, I’ve seen many large organizations impose demands on their perceived inferiors that they’d never require from those they considered equals. In this negotiation, I wanted to make sure our counterpart treated us like equals.
In “The Art Of War,” Sun Tzu states that every war is won or lost before it even begins. There is truth to this sentiment in most strategic negotiations. While it would be unwise for negotiators to minimize the importance of carefully managing the substance of a deal, they should make every effort to avoid the mistakes that can occur before the buyer has formulated an offer. By paying attention to the three factors discussed here, you increase your chances of creating more-productive interactions and achieving more-profitable outcomes.
Gary Miller ([email protected]) is the CEO of GEM Strategy Management Inc., an M&A consulting firm advising middle-market private business owners. Read more of Miller’s blogs here.