Learn How to Accelerate Through Due Diligence During an M&A or Private Placement

Learn How to Accelerate Through Due Diligence During an M&A or Private Placement

Learn How to Accelerate Through Due Diligence During an M&A or Private Placement

Due diligence commences after a signed letter of intent (LOI) for an M&A or term sheet for a private placement. Due diligence can be the most time-consuming and burdening process of selling a business, buying a business, raising capital, or deploying capital. For this reason, issuers should always have a due diligence package prepared for buyers and investors before the process begins. This gives the issuer control over the conversation while saving time for the buyers and investors. A data room should always be available and well organized prior to the commencement of due diligence.

This will serve as a resource for getting started, but make sure to customize your lists depending on your objectives.

Global Trade Analysis: MENA, UAE, and KSA 

Global Trade Analysis: MENA, UAE, and KSA

MENA Imports and Exports

This article focuses on imports and exports for the MENA region as they relate to other major economies, the role of the United Arab Emirates (UAE) and the Kingdom of Saudi Arabia (KSA) in the region, the region’s fuel dependency, the region’s growing focus on food independence, and finally the Gulf Cooperation Council’s (GCC) role for the MENA region and across the world.

The data and analysis contained within this article are taken from the World Bank, World Customs Organization nomenclature, sector classifications for the harmonized system, the International Monetary Fund, the United Nations, the Food and Agricultural Organization of the United Nations, and J&A’s own market intelligence.

The MENA Region Competes With China and the USA on Gross Import and Export Volume

  • The MENA region’s imports and export are approximately half the volume of the USA and China.
  • The MENA region imports approximately 50% as many goods as China.
  • The MENA region exports approximately 60% as many goods as the USA.

MENA Exports Are Steadily Expanding Across All Categories

  • Fuel represents approximately 50% of MENA’s exports, concentrated regionally in just a few countries. This will be discussed in part three of this series.
  • Fuel exports have been steadily increasing from the MENA region since 2015.
  • Only miscellaneous categories of exports have decreased since 2015, suggesting a focusing of MENA economies. Miscellaneous exports include items like watch pieces.

MENA Imports Raw Materials More Than Any Other Category, Suggesting a Focus on Regional Manufacturing

  • The steady decrease of MENA imports coupled with the steady increase of exports is good news for MENA countries seeking self-sufficient economies.
  • Raw materials are a large portion of MENA’s imports, suggesting a focus on refinement and manufacturing for the region.
  • 2018 showed the lowest total imports since 2015.

The chart below identifies the type of products associated with each import and export category based on World Bank nomenclature.

MENA’s trade position is unique when compared to China and the USA. MENA’s dominance is driven by the presence of oil, a natural resource. The USA and China’s imports and exports are not driven by a natural resource and are therefore more easy to replicate. If the MENA countries successfully diversify their economies, the region can become an increasingly powerful player by building on this natural resource foundation and then competing with other regions on services, technology, and other high-growth sectors. Due to current reforms in major MENA countries, the region is actively accomplishing this.

The MENA region is a gateway between the growing economies of Africa and Southeast Asia and more stabilized regions such as North America and Europe. This gives the region a strong value-added position when participating in trade between these other parts of the world.

UAE and KSA Imports and Exports

The Kingdom of Saudi Arabia (KSA) and the United Arab Emirates (UAE) are the two most dominant countries in the MENA region. These countries possess advantageous economic, cultural, financial, trade, and religious positions. The countries also represent almost half of the imports and exports for the entire region.

The UAE and KSA Make up 50% of MENA’s Imports and Exports

  • The UAE and KSA are the most dominant players in MENA, accounting for over 50% of the region’s imports and exports.
  • Exports for the UAE, KSA, and MENA region have been steadily increasing while imports have been steadily decreasing, suggesting increasing independence of MENA economies.

The UAE and KSA Are Relatively Equal When It Comes to Import Diversity

  • The UAE and KSA import goods and services in relatively equal proportions.
  • The UAE imports more than KSA by approximately 60%.
  • Both the UAE and KSA import and export transportation, machinery, and raw materials more than any other category.

KSA Dominates the Region’s Fuel Exports; the UAE Leads in Transportation Exports

  • KSA is by far the region’s leader in fuel exports, which serve as a major differentiator for the country and economy; there has been no year since 2015 where the UAE exported more fuels than KSA.
  • Fuel is less than 50% of the UAE exports on average while fuel makes up nearly 80% of KSA’s exports in any given year.
  • KSA’s second most common export is raw materials, accounting for approximately 10% of the kingdom’s exports.

The UAE and KSA are the most dominant players in the MENA economy. They account for the majority of imports and exports as well as most of the region’s economic activity. The UAE has been removing barriers to trade that are not tariff-related, such as allowing expedited customs and the use of technology to create more efficient government organizations. KSA has recently started opening trade policies that reflect UAE standards.

Fuel Dependency in the MENA Region

Fuel has been, is, and will continue to be the MENA region’s most dominant export category. MENA countries export nearly 40% of the world’s fuel supply, and fuel makes up approximately 50% of the region’s exports. Global consumption of fuel has allowed the MENA region to grow in power over the last 50 years. However, these opportunities bring risks; fuel volatility can affect the region disproportionately to other more diversified economies. Therefore, the MENA countries are seeking immediate diversification.

Today, the MENA Region Is Dependent on Fuel Exports

  • Fuel is consistently just over 50% of the entire MENA region’s exports.
  • There are major government initiatives within all MENA countries to continue diversifying their economies away from fuel dependence.
  • In 2020, fuel remained the region’s top export.

KSA Is More Dependent on Fuel Exports Compared to Other MENA Countries, Including the UAE

  • Fuel is approximately 80% of KSA’s yearly exports.
  • Saudi Arabia’s 2030 vision is to reduce KSA’s dependence on oil, diversify its economy, and develop public service sectors such as health, education, infrastructure, recreation, and tourism.
  • Saudi Arabia’s economic evolution will also come with political considerations, as the kingdom continues to enhance its global positioning.

The UAE Is Least Dependent on Fuel as Its Major Export Compared to Other MENA Countries

  • Fuel is approximately 20% of the UAE’s yearly exports.
  • This is a result of the UAE’s ability to diversify its economy and increase its services, technology, and trading value.
  • The UAE’s investment in free zones and open economic policies have attracted businesses to the region. These free zones include Abu Dhabi Global Markets (ADGM), Dubai International Financial Centre (DIFC), Dubai Multi-Commodities Centre (DMCC), and many more with specific industry focuses.

KSA Is Expected to Follow the UAE’s Diversification Strategy Through Its Vision 2030

KSA’s Vision 2030 is a framework to reduce Saudi Arabia’s dependence on oil and diversify its economy. This will be accomplished through investments in health, education, infrastructure, recreation, and tourism. The Vision 2030’s goals include reinforcing economic and investment activities, increasing non-oil international trade, increasing government spending on the military, and promoting a more secular image of the kingdom.

The Crown Prince Mohammed bin Salman Al Saud announced Vision 2030 on April 25, 2016.

Food Independence in the MENA Region

So far this series has covered the MENA region’s global import and export position, the dynamics between KSA and the UAE, and the region’s general dependence on fuel that drives the need for diversification.

As part of their effort to diversify, MENA countries are seeking food and agriculture independence. The UAE and KSA are minor contributors to food and agriculture MENA export totals. Food and agriculture imports and exports make up a relatively small portion of total MENA numbers, but they are essential to the long-term stability of the region. The following data indicate the current state of food imports and exports in the MENA region, the UAE, and KSA, as well as key steps being taken to improve food production capability through technology.

The UAE and KSA Are Minor Players in MENA’s Total Food and Agriculture Exports and Imports

  • The UAE and KSA export less food and agriculture products than the average MENA country.
  • Food and agriculture account for approximately 4.5% and 3.5% of MENA’s imports and exports respectively; these percentages are expected to grow over the next five years.
  • UAE food and agriculture exports are growing; imports have remained stable.
  • KSA food and agriculture exports have remained stable; imports have slowly decreased.

KSA Imports More Agriculture and Food Products Than Other MENA Countries

  • KSA imports approximately 2% more food and agriculture products compared to other MENA countries.
  • The UAE imports 50% less food and agriculture than other MENA countries.
  • This stark contrast between the two countries highlights the UAE’s investments in food production capacity and technology.

The UAE and KSA Export Less Food and Agriculture Products Compared to Other MENA Countries as a Percentage of Total Exports

  • The UAE and KSA both export less food on average than other MENA countries as a percentage of total exports.
  • This is less significant than import disparities since food independence is a major driver but not necessarily food production and distribution.
  • KSA and the UAE are expected to continue producing less food and agriculture products than MENA countries in the near future.

The UAE’s Commitment to Food and Agriculture Leadership Is Evidenced in Its Tech Investments

As shown in the previous J&A series, tech investments are on the rise in the MENA region. The UAE has recently made 10 major food-tech investments as part of its continued commitment to food independence and leadership. These food-tech investments include smart farms, food delivery, curated menus, and more. The image above shows three examples of these investments from different categories.

In the final part of our series, we will investigate the Gulf Cooperation Council’s role in global trade for the MENA region as well as steps the council is taking to increase its cooperation and cumulative strength.

The Role of the GCC in Long-Term MENA Development

The Gulf Cooperation Council (GCC) includes Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and the United Arab Emirates. The GCC was formally established on May 25, 1981. The council’s purpose is to unify the countries’ currency, trade markets, and other economic markets. There have been discussions to turn the council into a union with closer unity through a single currency and other economic integrations.

The GCC has made several changes to its policies that support its continued openness to trade. These policy changes include generating unified technical standards, harmonized customs administration procedures, and reduced clearance requirements to lower the amount of non-tariff barriers within the GCC. There are a number of special agencies in charge of creating and implementing technical standards, undertaking commercial arbitration, and registering patents: the Standardization and Metrology Organization for GCC in Saudi Arabia, the Technical Telecommunications Bureau in Bahrain, and the Regional Committee for Electrical Energy Systems in Qatar. These organizations have focused on making trade organizations more efficient.

The GCC Will Continue to Play a Crucial Role in International Trade

The following chart shows the trade openness of the GCC. This index is calculated by adding imports and exports in goods and services and dividing by the total GDP. The larger the ratio, the more the country is open to international trade.

  • All GCC countries are more open to trade than the world average.
  • The UAE has significantly increased its trade openness since 2006 and is currently the most open GCC country.
  • This openness to trade remains a significant strength of the region to attract new companies to offer products and services in and around the region.
  • Bahrain has maintained a historical and current openness to trade in excess of its GCC counterparts, this is likely due to the countries limited oil reserves.

The GCC’s Greatest Long-Term Sustainability Risk Is Lack of Diversification

  • GCC countries remain wealthy due to their dominance of the global fuel market.
  • As global economies move towards renewable energies, the GCC can expect a reduction in oil revenue.
  • Therefore, for GCC countries to continue growing, they must diversify into non-fuel areas such as technology and services.
  • Factoring the oil industry into the GCC’s GDP increases its real GDP by 50%.

The UAE Has Implemented a Successful Path to Diversification and KSA Is Set to Follow

  • As evidenced in this series, the UAE has diversified its economy and will continue to do so as a hub for global trade, technology, and services—particularly in the MENA region.
  • The UAE’s investment in free zones and open economic policies have attracted businesses. These free zones include Abu Dhabi Global Markets (ADGM), Dubai International Financial Centre (DIFC), Dubai Multi-Commodities Centre (DMCC), and many more with specific industry focuses.
  • KSA will be a rising force in the GCC. The kingdom’s Crown Prince, Mohammed bin Salman Al Saud, has made a commitment to the country’s Vision 2030, which includes significant steps to diversify the economy.
  • Saudi Arabia’s debt as a percentage of GDP remains very favorable, in 2019 the Kingdom’s debt was only 20% of the GDP, whereas countries like the USA and the UK have over 100% debt-to-GDP ratios.

The region represents approximately half the volume of imports and exports compared to the USA and China, but produces nearly 40% of the world’s fuel supply. The general volatility of fuel has pushed leaders to diversify the economy.

Food independence is a major objective of MENA leaders. The GCC’s trade openness as measured by the World Economic Forum has significantly increased over the last 10 years. J&A anticipates trade openness to continuously increase in the region, particularly with the anticipated expansion of the Kingdom of Saudi Arabia and its Vision 2030 program.

Sources: IAGS | The World Bank | IMF GCC Banking | IMF GCC Markets | IMF Trade and Foreign Investment | Saudi Arabia Vision 2030 | UAE Ministry of Finance


Joshua Jahani on S&P Reaching 4,000

Joshua Jahani on S&P Reaching 4,000

In this episode of BBC Newsday Joshua Jahani talks about the S&P 500 reaching 4,000 (11:30).

Also in this episode:

Taiwan’s rail company says 36 people are known to have died, and dozens injured. Myanmar’s deposed leader Aung San Suu Kyi had already been accused of breaking COVID-19 rules and illegally possessing walkie-talkies—now she’s been charged with violating the country’s official secrets act. And the story of the Italian businessman who tried to fake his own kidnapping for financial gain, but ended up as a prisoner of a jihadist group for three years.


How to Perform a Disciplined Sell-Side M&A Process to Maximize Results

How to Perform a Disciplined Sell-Side M&A Process to Maximize Results

A Step-by-Step Guide to the Sell-Side M&A Process

The sell-side M&A process is long and complex. Bringing a company to market does not guarantee the company will achieve its M&A goals. The M&A process is challenging for three reasons:

  1. It is difficult to build consensus among a large number of stakeholders
  2. Gathering relevant, transparent, and adequate data is complicated, particularly in private markets
  3. The M&A process contains many steps, and within each step there are many opportunities for things to go wrong

This report contains the step-by-step guide Jahani and Associates (J&A)—an NYC-based global independent investment bank—uses to maximize results for its clients. Each step in the sell-side M&A process is driven by activities, deliverables, and solutions.

STEP 1: Preparation to Solicitation

Preparation to solicitation requires the company and their investment banker to generate the artifacts buyers need to make an offer for the company. This information includes but is not limited to financial information, the growth history of the company, intangible asset information (e.g., customer relationships and proprietary technology), and the reasons the owners are selling the business.1 This information must be woven together and organized correctly so buyers can efficiently formulate their offers.

Industry-standard deliverables, such as a confidential information memorandum (CIM) and audited financial statements, are used in this phase to market the business to potential buyers.

STEP 2: Solicitation to Indication of Interest (IOI)

This is arguably the most important part of the sell-side M&A process. Reaching the sufficient number of solicitations to ultimately find an interested buyer is difficult and incredibly important, particularly in the lower-middle and middle markets. The volume of solicitations necessary is higher than most professionals expect. The methods to generate qualified buyer leads also vary based on the industry, region, and type of investment bank (e.g., healthcare investment bank, agritech investment bank, etc.). Solicitation is initiated with a blind teaser, using a code name in lieu of the company’s name. Buyers may request more information after the teaser—at which point a nondisclosure agreement (NDA) is required. J&A recommends only sending detailed material during the preparation phase to potential buyers after they have signed the NDA. For sellers to create a succinct and consistent story for all potential buyers at this stage, it is very important not to provide too much information.

Common sources of buyer solicitations include direct connections from an investment banker’s warm network, introductions and referrals from partners in the investment banker’s network, direct solicitations of qualified buyers determined from research (e.g., PitchBook), and target emails to qualified lists of buyers. Coordinating all four types of outreach is a complicated task. Figure 2 demonstrates common reasons for failure and how J&A recommends sellers and their advisors avoid them.

IOIs contain valuation ranges and general expectations of earnout. These should be negotiated as necessary to have a smooth transition from an IOI to an executable letter of intent (LOI). IOIs are nonbinding.

STEP 3: IOI to LOI

A site visit usually occurs while transitioning an IOI to an LOI. The visit is an opportunity for the buyer and seller to meet and conduct a deep dive into any outstanding items that need to be settled before executing an LOI. Since LOIs are legally binding, many buyers will require exclusivity after an executed LOI, which is also referred to as a “no-shop clause.” This means the seller will not be able to conduct sale-related conversations during the no-shop period and must ensure the upcoming due diligence will be satisfactory in order to close the deal.

STEP 4: LOI to Purchase Agreement, Including Due Diligence

Due diligence is often the longest part of the sell-side M&A process. Depending on the size and complexity of the deal, it may take up to 120 days.2 Due diligence is the process of affirming the information the buyer has used to make its offer and determining whether or not the company is in good standing with the relevant administrative, legal, financial, technological, security, operational, and other information in its possession.

Once due diligence is complete, executing the purchase agreement is the final step in the sell-side M&A process. These agreements can either be asset purchases or stock purchases. The purchase agreement is the binding contract where ownership officially changes hands. If due diligence went as expected, this step should be relatively simple. The changes that may affect purchase agreement negotiations are material discoveries in due diligence, economic forces, material alterations in the business’ operations, and management changes. It is very important for business activities to go according to plan during due diligence.

Problems and Solutions: Quickly Resolving Challenges Requires Deep Thinking and Preparation

Jahani and Associates collected common challenges that exist in each step of the sell-side M&A process and the best way to resolve them. It is important for M&A stakeholders to plan ahead and know where expected weaknesses may lead to exacerbated challenges.

It is imperative the investment banking team has a plan to resolve these challenges before they even arise in order to avoid disruptions or delays in the M&A process.

Preparation to Solicitation

Companies most often do not go from preparation to solicitation when seller management teams are not aligned or properly prepped for the sell-side M&A process. This can occur when multiple stakeholders are involved, particularly in companies boasting a significant capital raise. A seller may also not move to the solicitation phase due to major market forces negatively affecting business performance. If a business undergoes a change that materially reduces the company’s desired valuation, management often decides to postpone the process.

Solicitation to IOI

Fundamentally, solicitation to IOI is a sales process. Therefore, sellers and their teams are most prepared when they view this as a sales exercise. This is often the most difficult step in the process for unprofitable companies in the lower-middle market.

IOI to LOI

Moving from an IOI to LOI is a matter of negotiation and mutual understanding between the buyer and seller. A site visit is often used in between the IOI and LOI to develop a relationship between the buyers and sellers.

LOI to Purchase Agreement, Including Due Diligence

Due diligence is the process of confirming the buyer’s understanding of the business at the time they made their offer. Due diligence is time-consuming. Material information that changes the valuation and earnout identified in the LOI may be discovered during due diligence. This will be negotiated as part of the purchase agreement. Purchase agreements may be made for either cash or stock, each of which has its own tax, legal, and strategic considerations.

The Sell-Side M&A Process Is Challenging, but the Seller’s Success Will Be Maximized When a Disciplined Process Is Followed

The challenges, solutions, and KPIs in this paper are not exhaustive, but they provide an overview of the way to maximize success in sell-side M&As. It is important that all stakeholders understand the challenges they will face and how to alleviate them as quickly as possible. Establishing a consensus among stakeholders from the outset will also help mitigate any issues that may unfold. Focusing on a problem-solution-KPI framework gives transparency to the client and allows the investment banker to increase the size of their team while preserving client service and information sharing. Experience in dealing with these issues is paramount to successfully delivering M&A results, and that experience must be coupled with actionable outcomes.

Any business owner seeking to sell their business must carefully consider all these factors. Being aware of expected obstacles and how to overcome them early will significantly increase the likelihood that a company successfully completes a sell-side M&A transaction. The analysis contained herein is based on decades of experience and is included to support business owners across the world as they achieve a maximally successful exit.


ABOUT THE RESEARCH

In 2019, Jahani and Associates surveyed hundreds of business owners about successful and failed M&A deals, why they failed, and how those failures could have been avoided. J&A then compared these stories with its own processes and tools to determine the best way to anticipate and avoid these failures in any M&A scenario. The resulting analysis is this document that outlines common reasons for failure and how to avoid them. This document is meant to serve as a resource to business owners and other service providers to give the best strategic advice and service for their businesses or clients.

ABOUT JAHANI & ASSOCIATES

Jahani and Associates (J&A) is an independent investment bank located in New York, New York. The firm specializes in healthcare and technology and provides specialized M&A and capital markets advisory services. The combination of J&A’s unmatched skills in technology, engineering, and business operations allows the firm to create sustainable value for its clients. J&A works at the intersection of cutting-edge financial theory and business practicality. Creativity is highly valued within the firm, which allows J&A to continually improve the way businesses thrive.


Sources

1. Baird, Les, David Harding, Peter Horsley, and Shikha Dhar. “Using M&A to Ride the Tide of Disruption.” Bain & Company, January 23, 2019.

2. Buesser, Gary. “For the Investor: Internally Generated Intangible Assets.” Accessed November 22, 2019.

3. Corporate Finance Institute. “What is the No Shop Provision?” No Shop Provision. Accessed November 22, 2019.

4. Deloitte. “Cultural issues in mergers and acquisitions.” Leading through transition: Perspectives on the people side of M&A. Last modified 2009.


Private Equity Buyers Use Intangible Assets to Maximize M&A Value

Jahani and Associates’ Strategy to Maximize M&A Value Using Intangible Assets

Private equity (PE) mergers and acquisitions (M&A) activity has been steadily increasing since 2008.1

Jahani and Associates (J&A)—a top New York investment bank led by Managing Director Joshua Jahani—has found that these private company buyers create returns for their investors and management through two ways:

  1. They increase the free cash flow of purchased companies to more than the investment made to buy the company.
  2. They improve the company’s operations and finances, then sell it for a premium to another buyer several years later.

This strategy has proven to be very effective. Since 2010, private equity returns have outperformed standard market returns.2 However, PE buyers are faced with two problems when it comes to generating returns for their management and investors. These problems are grounded in the fact that intangible assets matter most when it comes to generating returns and make up over 80% of M&A value. The problems are:

  1. It is difficult to determine the fair value of purchased intangibles accurately, and thus, it is challenging to optimize financial reporting.
  2. When selling a company several years after investment, it is difficult for PE buyers to prove to strategic acquirers, public investors, and other PE buyers that they own intangibles that matter to them.

The following research, evidence, and strategies provide a solution for both these problems. The solution to problem one is to perform a more insightful purchase price allocation (PPA) than is typically done in the market. The solution to problem two is to execute a better sell-side process driven by acknowledging that intangible assets matter most.

Using Purchase Price Allocation to Optimize Financial Reporting for PE Portfolios

Purchase price allocation is done near or after the closing of an M&A transaction. The goal of PPA is to relate the total money paid for a target company to the assets of that target. PPA work is based on five asset categories: cash, tangible assets, intangible assets, goodwill, and liabilities.

What are Intangible Assets?

Intangible assets lack physical properties. They have the potential to either generate income or save costs for the owner. Most of the time, intangibles are not contained in a firm’s balance sheet. These may include customer contracts for health insurance companies and in-house developed technology for consumer product companies. Intangibles are usually amortized between three to 15 years based on their characteristics and useful life. The useful life of intangibles is subject to legal, regulatory, or contractual provisions that are considered during valuation.3

Intangible assets are typically valued by one of three methodologies:

  • Income
  • Market
  • Cost Valuation

Income valuation considers the incremental value an intangible brings to a firm’s cash flow. Market valuation involves identifying the price an asset trades at in an efficient market, then applying that value to an identified intangible asset. Cost valuation requires estimating the amount of money that would be spent to replace the intangible asset. In general, income and market valuation methods value assets at their highest, whereas cost valuation creates a lower asset value.

Landing on a unified valuation method between buyers and sellers can be challenging. Determining a fair value for both buyers and sellers requires a deep level of expertise in operational, financial, and regulatory due diligence. At Jahani and Associates (J&A), our experienced team of tech investors and wellness investors led by Managing Director Joshua Jahani have designed a valuation solution based on the analysis of thousands of purchase price allocations and our collective industry experience for startups and Fortune 500 companies.

M&A studies have shown that intangible assets and goodwill make up most of M&A deal value.4,5 Intangible assets and goodwill are amortized differently. Amortization is the process of writing off the cost of an intangible asset, just as depreciation is the process of writing off the cost of a tangible one. High amortization or depreciation lowers net income in a company’s financial statements. Private companies amortize goodwill over 15 years as an asset, and public companies do not amortize goodwill. Instead, public companies must undergo costly impairment tests for goodwill each year. Goodwill impairment tests include studying intangible assets to determine if their fair market value and useful life has significantly changed since the asset was acquired.6

Intangible assets, apart from goodwill, can be amortized between three to 15 years. Therefore, when a buyer allocates more of its purchase price to intangible assets than to goodwill, it can increase the company’s amortization expense, lower its net income, and optimize its financial reporting.

However, this does not change the overall purchase price; it only changes the amounts allocated to goodwill and intangible assets. Figure 1 is an illustrative example of how allocating more purchase price to intangibles can optimize a buyer’s financial reporting.

The Financial Accounting Standards Board (FASB) and the Accounting Standards Codification (ASC) 805 outline the rules for acquisition accounting that can be used to determine which assets and what asset amounts can be placed into the intangible asset category, separate from goodwill. The key to performing an intelligent PPA is rooted in understanding FASB ASC 805.

Jahani and Associates have analyzed over 6,000 PPAs from publicly traded companies to determine the intangible assets that matter most. The intangibles that matter most are determined by industry verticals. For example, customer contracts are overwhelmingly valued in health insurance companies, but technology developed for in-house use makes up most of the M&A value for consumer product companies.

Steps Buyers Can Take to Optimize Financial Reporting Through Purchase Price Allocation

There is good news for private equity buyers: the performance of a better purchase price allocation process can optimize financial reporting.

Jahani and Associates’ experienced team of tech investors and wellness investors led by Managing Director Joshua Jahani have created this process based on our experience and through researching thousands of purchase price allocations. We offer a step-by-step guide that identifies the intangibles that matter, values them, and subsequently optimizes financial reporting. Each step of the traditional process is disrupted by Jahani and Associates’ methodology.

At its core, the process uses publicly available data and best practices valuation methods to create a strong case for the value of each identifiable intangible asset. The prevalence of intangible assets differs by industry. Therefore, industry dynamics are carefully analyzed during purchase price allocation work to identify the assets that matter most today and will likely matter most in the future. Figure 3 shows this disruption along each step of the process.

Step 1: Understand the Intangible Assets that Matter in the Respective Industries

Jahani and Associates have reviewed thousands of purchase price allocations to determine the most common intangible assets by industry. Before starting a purchase price allocation project, this analysis is required to make sure industry standards are followed, and identified intangibles align with reality.

Step 2: Allocate the Purchase Price Based on FASB ASC 805 Criteria

Based on FASB’s rules, buyers and their advisors must understand what constitutes an intangible asset. The criteria are separability, measurability, and predictability. An asset must meet all three of these criteria to be considered an intangible asset. Income, cost, or market valuation methods can be used to determine the fair value of an intangible asset.

Step 3: Calculate Goodwill and Execute the Chosen Strategy

After calculating each assets’ fair value, goodwill can be determined and minimized for the buyer. Increasing the allocation of intangibles with less than 15 years of useful life will always increase the amortization of the new entity and, therefore, optimize financial reporting. In some cases, amortization may need to be minimized. This may be the case if buyers want to maximize net income for reporting or competitive purposes.

Using Intangibles to Perform a Better Sell-Side M&A Process

Beyond purchase price allocation, understanding how intangible assets perform creates powerful insights for the M&A sell-side process. Sell-side M&A is Jahani and Associates’ most active service offering and has gained popularity because of the focus on intangibles. Intangible assets allow sellers to naturally create the buyer’s business case when running a process. Figure 4 shows the steps that can be used to accomplish this.

Step 1: Identify What Makes Your Company Valuable

This M&A strategy is based on increasing a firm’s valuation according to FASB rules. The valuation process draws from asset and market valuation methodologies with a focus on intangible assets. Because intangible assets are often more elusive and difficult to quantify, the first step is to identify precisely what will be valued, why it will be valued, and how it will be valued. The quantitative drivers for this are often key performance indicators (KPIs) specific to the business. For example, ad-tech KPIs may include daily active users, time spent inside an application, or the number of interfaces integrated into the technology. KPIs must be very specific and consistently measurable. If they are not, then the valuation will be indefensible.

The process to identify a company’s valuation requires a deep understanding of the firm’s industry, potential buyers, M&A activity, and internal strengths. Business owners should conduct an internal assessment of their perceived strengths and then compare those strengths to measurable intangibles identified through market analysis as shown in this paper. The owners must determine how to value these intangibles and collect relevant information as required through income, market, or asset valuation methodologies.

Step 2: Develop, Prove, and Maximize the Identified Value Over Time

The process of developing an intangible asset becomes the process of doing business. In fact, business as usual and intangible asset development are often two ways to describe the same thing. The only difference between business as usual and developing intangible assets is the data collected along the way.

The relevant data collected during market analysis, the process of identifying what makes a company valuable, is also the data that should be used to develop intangible assets carefully. For example, suppose time spent on the application is identified as an intangible asset in the market. In that case, a company should record both the costs and effort to develop those assets through user experience design, added functionality, better graphics, and any other relevant business processes.

Step 3: Monetize Your Assets by Communicating Your Value Better Than Your Competition

For the business owner, monetization happens once the transaction is consummate and the investment banking process is complete. M&A provides an excellent way to measure the impact of intangible assets on a company’s valuation and confirm their role in the purchase price. As of December 2018, all public and private companies are required to allocate M&A purchase prices according to FASB ASC 805.3

Ignoring Intangible Assets Can Cost Buyers Millions of Dollars.

Intangibles make up over 90% of M&A value, according to Jahani and Associates’ research. The best time to maximize identifiable intangibles is during purchase price allocation. This effort creates significant ROI when the business is later sold. Private equity buyers can then reap the benefits of their careful thinking by having proof of the intangibles that exist in their businesses several years later. Without performing more informed purchase price allocations, this case is very difficult to make. Innovating purchase price allocation, which Jahani and Associates does, creates significant financial benefits when private equity firms look to exit. Intangible assets make up most of the value in both private and public capital markets today. Because these assets are not subject to the same standardized reporting as tangible assets, buyers are disadvantaged when it comes to understanding and investing in them.

The principles laid out in this whitepaper give buyers actionable tools to optimize their financial reporting and boost their balance sheet value for future sell-side performance. There is a plethora of evidence that intangible assets make up most of the financial value in both private and public equity markets.

Ignoring intangible assets during purchase price allocation or sell-side M&A is a mistake that can cost private equity firms millions or tens of millions of dollars. The buyers must make purposeful investments to understand, identify, develop, and monetize intangible assets to maintain a competitive edge in increasingly competitive industries.


ABOUT THE RESEARCH

In 2019, Jahani and Associates reviewed M&A activity among the largest companies in the financial services, healthcare, energy, IT services, and branded consumer products industries to determine the intangible assets that matter most in each industry. Intangible-asset pro formas were taken from the Securities and Exchange Commission (SEC) reports only. J&A also surveyed over 15 private equity business leaders in the United States to understand how executives used intangible-asset reporting to make business decisions.

ABOUT JAHANI & ASSOCIATES

Jahani and Associates (J&A) is an independent investment bank located in New York, New York. The firm specializes in healthcare and technology and provides specialized M&A and capital markets advisory services. The combination of J&A’s unmatched skills in technology, engineering, and business operations allows the firm to create sustainable value for its clients. J&A works at the intersection of cutting-edge financial theory and business practicality. Creativity is highly valued within the firm, which allows J&A to continually improve the way businesses thrive.


SOURCES


Using Intangible Assets to Advance Your Sell-Side M&A Strategy

Maximizing M&A Value with Intangible Assets

DEFINING AND COMMUNICATING M&A VALUE IS DIFFICULT AND COMPLEX

All business owners want to increase the value of their company. But defining value is a challenge for most of them. This challenge particularly presents itself when selling a business and considering merger and acquisition (M&A) options. All leaders of companies, from startups to those in the Fortune 500, are faced with the same difficult questions when building their company’s value:

  1. What makes my company valuable?
  2. How can I communicate that value to buyers better than my competition?

Selling a business is a unique process. M&A buyers think differently than customers, vendors, and partners. The skills business leaders develop over years of building their business does not overlap with the skills they need to communicate and negotiate with M&A buyers. As a result, executives are often unprepared, lacking clear and effective answers to questions about the value of their company. To make matters for the business owner more complex, the M&A industry is full of advisors who provide different areas of expertise to the M&A process but often fall short of providing a clear, comprehensive, and long-term strategy for maximizing M&A value. Owners need a strategy that helps them show how their company is valuable and how to communicate that value during the M&A process. The strategy should be customizable to a business’ unique characteristics and simple to implement. Business owners have full agendas. They cannot spend years on exit strategy planning.

INTANGIBLE ASSETS ARE THE GREATEST DRIVERS OF M&A VALUE

Identifying and defining M&A value is only possible with a deep understanding of how valuation is influenced by a business’ assets, proprietary data, and unique strengths. Because of this, top NYC investment bank Jahani and Associates (J&A) analyzed 334 M&A transactions between 2010 and 2016. To uncover what really drives value, J&A examined the purchase price allocations of each M&A transaction and then segmented them by industry. Conducted by J&A’s team of tech investors led by Managing Director Joshua Jahani, the study focused on technology companies and included buyers such as Alphabet, Amazon, Facebook, Twitter, Microsoft, Apple, and Yahoo!. Out of the 334 companies purchased by major tech giants and the more than $94 billion spent between 2010 and 2016, intangible assets accounted for over 90% of M&A dollars. These intangible assets included customer contracts, customer lists, patents, trademarks, copyrights, and business combinations. In contrast, only 10% of M&A dollars were spent on tangible assets. Examples of tangible assets include office space, machinery, and equipment.1

BUYERS SPEND NINE TIMES MORE MONEY ON INTANGIBLE ASSETS THAN TANGIBLE ASSETS

The vast majority of M&A dollars spent on intangible assets is a surprise to many business owners. M&A is generally viewed as a tangible and financial process. M&A valuation methods are almost always driven by cash flows and income analysis. However, due to technology, intangible assets have played an increasingly central role in international capital markets since the dot-com boom.2

Another reason for the increased role of intangible assets in M&A is how their definition has evolved over time. The Financial Accounting Standards Board (FASB) updated its definition of what constitutes an intangible asset (including business combinations) 26 times since 2010.3 As technology has become more sophisticated and businesses have invested more in their intangible capabilities, the FASB updates have become more specific. For example, in March 2018, there was a proposed change to FASB’s accounting rules for implementation costs incurred during a cloud computing arrangement. All of this shows that intangible assets and their measurement are more important now than ever before for business owners, especially in an M&A setting.

Business owners know intangible assets are valuable. But they struggle to understand which assets are more valuable than others and how to measure that value accurately. FASB provides guidance for measuring and defining intangible assets. Valid intangible assets must possess three characteristics. They must be separable, measurable, and predictable.

Separability means they should be able to be sold, transferred, or licensed. An example of a separable asset is a creative work, such as a book. Measurability refers to that which can be quantified (for example, the number of times a book is licensed). And predictability connotes access to historical performance and that historical performance is related to future performance.

Armed with this information, business owners can now understand what truly makes their company valuable. For example, culture is often identified as an intangible asset. But culture can only be an intangible asset as much as it can be separated and sold, as during an M&A, measured through demographic diversity or uniformity, and predicted: if a company has a specific culture today, it will have the same or similar culture tomorrow.

This broad range of intangible asset definitions may provide business owners the opportunity to sigh in relief. They always knew their culture was valuable. Now they can prove it. But the flexibility of the definition of an intangible asset actually creates a whole new set of challenges for business owners. Namely, determining how they can start capturing information and using it to inform the M&A process, thus increasing M&A value.

The shift of value from traditional income-driven metrics like earnings before interest, taxes, depreciation, and amortization to intangible assets means business owners need a very specific strategy to successfully complete an M&A. To understand this, J&A investigated the intangible assets valued at the greatest dollar amount for ad tech acquisitions. Two intangible assets create the greatest ad tech target-firm value. They are data interfaces and data processing power. Acquisitions that support this include FameBit, DeepMind, Adometry, Invite Media, Teracent, Navic Networks, Admeld, and Interclick.

Measuring intangible assets like these are outside the ability of the traditional M&A banker or CFO. Ad tech businesses are fast-moving and highly technical. Because of this, transparency, organized processes, and clear objective outcome–oriented measurements are needed in select business units to create the greatest purchase price for the M&A seller.

Effectively delivering this enhanced separability, measurability, and predictability inside the M&A process requires a technical skillset as well as a deep understanding of M&A. Therefore, business owners must combine diverse skillsets within their organization, from technological to financial, before starting the M&A process. When brought together, this strategy generates a tremendous competitive advantage.

Business combinations and other intangible assets are always process-driven and industry-specific. According to FASB, business combinations are only generated when two processes create something that neither the buyer nor the seller possessed independently prior to the M&A.4 This means the same intangible assets will be valued differently by different buyers. Therefore, business owners will need to plan for a range of valuations based on who they approach to buy their business.

Utilizing this strategy answers both what M&A value a company presents and how to communicate that value better than the competition. During an M&A, FASB rules must be preserved to make a strong case to the buyer. This strategy is successful because it focuses on combining technical components, such as interfaces and processing power, with FASB valuation rules for intangible assets.

IDENTIFY, DEVELOP, AND MONETIZE INTANGIBLE ASSETS TO MAXIMIZE M&A VALUE

The figure below outlines the new M&A strategy successful companies use when selling their businesses. M&A bankers often cite the lack of measurable information as the number one barrier to better negotiation outcomes.5 This strategy removes that weakness and gives business owners a road map for how to combine the right talent from relevant business units to systematically increase M&A value.

This strategy aligns business owners with drivers that will improve valuation and negotiation positions based on M&A market activity. It shows owners and leaders how to determine the market forces responsible for intangible assets in M&A at the business level, not just generic financial indicators. The strategy then walks business owners through implementing these intangible asset drivers.

STEP 1: Identify what makes your company valuable

This M&A strategy is based on increasing a firm’s valuation according to FASB rules. The valuation process draws from asset and market valuation methodologies with a focus on intangible assets. Because intangible assets are often more elusive and difficult to quantify, the first step is identifying exactly what will be valued, why it will be valued, and how it will be valued. The quantitative drivers for this are often key performance indicators (KPIs) that are specific to the business. For example, ad tech KPIs may include daily active users, time spent inside an application, or the number of interfaces integrated into the technology.

KPIs must be very specific and consistently measurable. If they are not, then the valuation will be indefensible. This process requires a deep understanding of a firm’s industry, potential buyers, M&A activity, and internal strengths. Business owners should conduct an internal assessment of their perceived strengths and then compare those strengths to measurable intangible assets identified through market analysis as shown in the tech giant analysis explained above. The owners must determine how to value these intangible assets and collect relevant information as required through income, market, or asset valuation methodologies.

STEP 2: Develop, prove, and maximize the identified value over time

The process of developing an intangible asset becomes the process of doing business. In fact, business as usual and intangible asset development are often two ways to describe the same thing. The only difference between business as usual and developing intangible assets is the data collected along the way. Developing intangible assets means carefully collecting data that was previously identified as valuable and relevant from the market analysis in step one. For example, if time spent on the application is identified as an intangible asset in the market, then a company should record both the costs and effort to develop those assets through user experience design, added functionality, better graphics, and any other relevant business processes.

STEP 3: Monetize your assets by communicating your value better than your competition

For the business owner, monetization happens when the transaction is consummated and the investment banking process is complete. M&A provides an excellent way to measure the impact of intangible assets on a company’s valuation and confirm their role in the purchase price. As of December 2018, all public and private companies are required to allocate M&A purchase prices according to FASB Accounting Standards Codification Rule (ASC) 805.6

M&A VALUE MAXIMIZES WHEN THE SELLER ACCURATELY MEASURES RELEVANT INTANGIBLE ASSETS

Jahani and Associates’ experience using this strategy for our clients has been very successful. With this strategy, our driven team of tech investors consistently creates scientific evidence for why a business should be valued at the highest end of valuation ranges or in a new valuation range altogether. Implementing this strategy allows our sell-side client to speak directly to the corporate development officer’s or private equity buyer’s business case. The buyer no longer has to search for information and make extravagant assumptions. Most importantly, it allows our clients to communicate what makes their business special to begin with, bringing to light decades of the owner’s hard work and sacrifices.

The foundation of this strategy is demonstrated through the study of thousands of M&A transactions from buyers in industries that consistently place more value on intangible assets than tangible assets, such as technology and healthcare.7 Business owners are at a disadvantage when selling their companies because there is no standardized reporting for intangible assets. Most business owners are not M&A experts. They are unaware of how the absence of reporting limits the value of their company. It is difficult for business owners to take time away from serving customers, coaching employees, and developing products or services. But when armed with this strategy and the help of a top investment bank for M&A, business owners have a concrete plan that allows them to build their business and prepare for the most valuable exit possible. Without this strategy, owners face a difficult, uphill battle.

Intangible assets are the greatest drivers in M&A value-driven conversations today. These conversations are not limited to scientists, technologists, tech investors, and software developers. C-suite leaders and financial executives are at the center of them.

As technology continues to play a more dominant role in the global economy, intangible assets will become even more relevant. Business owners must be prepared to speak the language of intangible assets when communicating the value of their businesses in cross-border capital markets.


ABOUT THE RESEARCH

In 2017, Jahani and Associates reviewed 334 acquisitions from technology giants and recorded their purchase price allocations. Information was only collected from publicly available data sources. Intangible asset pro formas were taken from the Securities and Exchange Commission (SEC reports only). J&A also surveyed over 100 business leaders from startups and Fortune 500 companies to explore strategic areas and opportunities where companies are harnessing technology to increase business value.

ABOUT JAHANI & ASSOCIATES

Jahani and Associates (J&A) is an independent investment bank located in New York, New York. The firm specializes in healthcare and technology and provides specialized M&A and capital markets advisory services to its clients. The combination of J&A’s unmatched skills in technology, engineering, and business operations allows the firm to create sustainable value for its clients. J&A works at the intersection of cutting-edge financial theory and business practicality. Creativity is highly valued within the firm which allows J&A to continually improve the way businesses thrive.


Sources

1. All data is sourced from publicly available data sources such as the annual reports for Alphabet, Apple, Microsoft and others.

2. Baruch Lev and Feng Gu, “The End of Accounting and the Path Forward for Investors and Managers.” 2016.

3. FASB Accounting Standards Codification Rule 305.

4. FASB Accounting Standards Codification Rule 805.

5. Conversation with Kenneth Marks in December 2017, managing director of High Rock Partners and coauthor of Middle Market M&A: Handbook for Investment Banking and Business Consulting.

6. FASB Accounting Standards Codification Rule 805.

All data is sourced from publicly available data sources such as the annual reports for WellPoint, UnitedHealth Group, Centene, Aetna, Anthem, Cigna, Humana, WellCare, Molina, and Kaiser Permanente. This document makes descriptive references to trademarks that may be owned by others. The use of such trademarks herein is not an assertion of ownership of such trademarks by Jahani and Associates and is not intended to represent or imply the existence of an association between Jahani and Associates and the lawful owners of such trademarks.

Copyright 2018 Jahani & Associates. All rights reserved


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