In my experience, the integrity of buyers and sellers stack up as follows: In 60% of cases both buyer and seller are honest and straightforward. In 20%, either the buyer is trying to get a better deal than justified or the seller is selling more than he has. Then there is the remaining 20%, when both are trying to make a better deal than they deserve.
The deals when only one side is tricking, in most cases don’t work out. CEOs and entrepreneurs are no fools. They know a conman when they see one. The parties try to get common ground for a while and then part ways, both looking for someone else who might deal on their terms.
The interesting cases are those, where both parties angle for something more they offer in return. Sometimes both of them achieve it… at the expense of third parties. These are typically investors who are unaware that their monies are being misspent. Let me explain with a couple of examples:
BALLOON BLOWERS. The management of listed companies is often compensated with stock options. One way to boost the stock is to make acquisitions at lower multiples than what the listed company trades at. This is called multiple arbitrage. The instant the acquisition is announced, the stock price jumps. Management often doesn’t care if target-earnings are overstated, as long as they can cash in their options before this becomes apparent. These CEOs will be willing to make risky acquisitions for short to medium term stock price gains.
EMPIRE BUILDERS. Whenever there are independent managers with wide strategic powers, the risk of moral hazard exists. Namely, that management will make some decisions motivated or coloured by personal, rather than corporate profits. In the M&A sphere, this often takes the shape of unwise acquisitions that enhance the power, the status, and as a result, the earnings of the CEO. He will be prepared to overpay for targets just to plant more flags on the map. In many cases, the CEO will overestimate his own and his bureaucracy’s powers of control and integration and let entrepreneurs leave too early, rather than fight to keep them until their successors are found and groomed.
Sellers are often afraid to part with their companies on the cheap. In my experience the opposite is far more frequent. Balloon blowers and empire builders make companies overpay for targets, all the time.
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