Transactions Blog

In deals, Buyers will in a lot of cases drive their target business valuation off a maintainable level of EBITDA.  As the term suggests, EBITDA is calculated ‘before any cost related to the financial structuring of the target business’.

Therefore any debt and/or cash freely available in the business results in an adjustment of the Buyer’s valuation.  In addition, when using EBITDA as a value driver the Buyer is assuming that the infrastructure to deliver this level of profit is in place.  Infrastructure can relate to sufficient working capital as well as tangible operating assets. Therefore, any shortfalls (or indeed excesses from the Seller’s viewpoint) against ‘expected’ infrastructure levels need to be addressed in the valuation.  

Further, the Buyer will want to know that it has the rights to the profit it is paying for and that any indebtedness (in addition to ‘normal’ bank debt) related to historical trading results is at the cost of the Seller.  Therefore, the initial valuation driven off EBITDA (or pre-financing cash flows) does not (necessarily) represent the ‘true’ value of the target business.  

So, a mechanism is needed to move from Enterprise Value to Equity Value.  There are the traditional mechanisms with a completion accounts process or a ‘Locked Box’ whereby the Equity Value is known when the deal is signed, without involving completion mechanisms.

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In case of business disposals, vendors want to maximise the sales price, while at the same time keeping the sales process as efficient as possible.  Experience has shown, however, that lack of preparation, insufficient regard for business performance during the disposal process and poor process management are among the factors in a divestment process that have a negative influence on value.  This is where a vendor due diligence may come into play.

A vendor due diligence is a thorough due diligence of a business, which aims to address the concerns and issues that may be reasonably relevant to a potential purchaser.  The vendor due diligence report will be provided to each potential purchaser, rather than multiple purchasers undertaking extensive individual due diligence exercises.  A vendor due diligence is therefore suitable in situations where there are likely to be a large number of potential purchasers, typically in an auction process.

The  relevant areas of concern may include amongst others the financial, tax (such as corporate income tax, VAT, social security tax and customs & excises), legal, labor, IT, environment and market/commercial situation of the company.

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