The Information Memorandum (‘IM’) is the key document for buying or selling a business via the M&A process. Your IM needs to show your business in the best light while giving potential buyers a realistic view of what they’re buying – warts and all. The truth will always come out in due diligence and the later surprises come, the more damaging they are.
IMs are particularly important for SME deals in the sub-$10M range. These deals have much wider audiences than larger deals because many more buyers can handle a small deal than a large one. But SME target list often include competitors and clients that you don’t want knowing you’re ‘for sale’ unless they’re serious buyers.
A good ‘no-names 1-pager’ will give buyers just enough information to decide if they’re really interested while not letting them identify the specific company. It’s a marketing tool to get good prospects through the first gate and sign a Non-Disclosure Agreement. Only then should you share your name and detailed information. (Sample NDAs are available here and here.)
Some vendors (and some brokers/advisors) try to run small deals with only these brief introductory paragraphs. But if this is all you provide, every prospective buyer needs to meet the principals to understand the business. This leads to a series of investigatory meetings (‘preliminary due diligence’) you find out if they’re legitimately interested.
This can work for large businesses and those with only 2 or 3 realistic buyers, but it takes a lot of management time on both sides. And while this is going on, you really need to keep your numbers looking good for the rest of the process. This is time you can’t afford for more than 2 or 3 buyers, and distant or overseas buyers are often too difficult to work with this way.
But as a broker, I like to have at least a dozen good prospects for any business and overseas buyers often have very different views of valuation from domestic buyers; they can be well worth the effort.
So, we use the 1-pager and direct discussion to gauge interest and then have serious and suitable buyers sign an NDA. Then we give them an IM that’s detailed enough to form a realistic idea of the deal type and value range that’s going to work for them. The IM needs to let a prospective buyer:
- Really understand the business and its strengths and weaknesses – comprehensive
- Decide if it’s worth the serious effort of due diligence – realistic
- Develop confidence that we’re being open and honest – ‘warts and all’
- Estimate valuation to put a conditional indicative offer – detailed
The trade-off for providing all that information is that we expect serious buyers to provide a concrete indication of the price and deal structure they have in mind (All or part? Shares or business/assets? Price? Employees?). This lets us weed out unsuitable buyers without taking up a lot of management time – theirs or ours.
It also lets a broker work with a much larger and more competitive field of buyers. This inevitably brings better valuations and (if handled properly) more ‘fall-back options’ should your favoured buyers drop out later in the process.
We have strong opinions on how to build a great IM – there’s a sample on our blog here (contact me for the editable version for a template and/or help).
The IM should document all aspects of your business and balance open and honest information with being a ‘selling document.’ A good indicator of getting this balance right is that all the different sections line up. For example, if your sales and marketing section gives glowing reviews but your customer base hasn’t been growing, something won’t ring true. IMs that list each and every part of the business as great, but show low profitability or growth only beg the question – are you trying to fool buyers, or really fooling yourself? (Some clients learn a lot from the exercise of building an IM!)
There’s always going to be someone checking every detail. A surprising number of readers, for example, check that column totals are correct in every table before they read anything else.
A good starting point is to choose a single recent date (ideally a year, quarter, or month end) and draw all your reports as at that date. That way, all your numbers will match up and give a consistent and clear picture without timing variations. Done it right, you’ll also have accumulated a lot of the information for the due diligence process – a great head start.
Even if your business has one or two key assets or strengths, you need to cover all 4 dimensions of any business (sales & marketing, delivery to customers, product development, and management & staff – more on this in another post). A common mistake is to focus on key strengths or dwell on the areas that have absorbed managerial focus recently, without documenting the ‘mundane’ parts of the business that are working well – the ‘meat and potatoes’ of your business.
Ahead of all that documentation, we often like to include some background. This may include a timeline of the business and how you’ve built it, which can help explain historical glitches in your financial trajectory or anomalies on your balance sheet. Including background on your specific industry can be helpful for prospective buyers from outside your sector. For example, if you sell to the not-for-profit sector, buyers from other areas might not understand the oddities of this space.
After all that, you need to get down to the nitty-gritty – the financials and the deal itself.
Your financials are going to be read in great detail, so it’s critical that they’re correct, comprehensive, and don’t need a lot of notes (that’s what the rest of the IM is for!). We generally try to include 3 years’ history with 3 years’ forecast, and present 3 levels of detail for different audiences:
- High-level summary in the executive summary for the CEO
- Comprehensive summary in its own section for the CFO, and
- All the detailed numbers in an appendix for the accountants.
It’s often assumed that business owners have ready access to their financial history, but this is seldom the case. KPI-based management reports don’t generally link back to the actual financials and management or operating accounts often don’t account for period-end adjustments (like inventory), taxes, government grants and other important factors for a buyer.
Forecasts are even harder and are often critically important for SMEs. Vendors often expect their business to grow aggressively in coming years and hope for a deal that reflects that growth. Buyers are usually sceptical, and common compromises involve basing valuations on forecasts but including adjustments for actual performance later. Hastily derived forecasts often become the basis for entire deals – causing headaches for years after.
Preparing your financials can be the hardest part of the entire exercise, and of course, every business is different. Here’s the approach we take:
- Start at the most detailed level, not the summary levels
- Create a single spreadsheet spanning the entire reporting period
- Fill in your actual statutory (tax) history, year-to-date, and any existing forecast numbers
- Check that all your numbers add up and that they match your tax returns
- Make any ‘normalisations’ and adjustments clear and separate from the base data (a dark art – more on normalisations in another post)
- Extend your detail-level forecasts out to the end of the period (another dark art) using formulas so you can adjust these later
- Reconsider your forecasts and make sure they’re hand-on-heart realistic
- Use a separate worksheet (linked to the base data) to present detail for the appendix
- Use a separate (linked) worksheet to summarise for the main body
- Use a separate (linked) worksheet for the executive summary
- Check that each worksheet matches the others and the base data
- A separate worksheet (linked to the base data) can be useful for considering various valuation methods and potential deal scenarios
This very useful spreadsheet will also provide a basis for evaluating offer proposals. Complex deals often involve various incentives, ‘earn-outs,’ financing, remuneration, equity, tax implications, and other factors that make them very difficult to compare without careful modelling.
Whether you’re seeking an investment, buy-out or other deal, a last section of the main IM body should provide as much information as possible about the deal you’re looking for. If you prefer to sell your shares instead of a business-and-assets deal or have preferences about how long or in what role you might be willing to continue with the business, these should be stated. Often vendors discuss how some or all employees, products, or customers should be handled by a new owner.
The more specific your deal requirements, the easier it is for a prospective purchaser to decide if they’re interested. But beware of painting yourself into a corner. If you specify a price (which can make smaller deals much easier) you’re unlikely to get more than that, irrespective of how buyers might value your business. Similarly, if you specify only a cash-up-front deal, buyers will not propose performance incentives, even if these might significantly improve the deal for you.
Lastly, the most important element is the executive summary. Often, your buyer will only actually read this and pass other sections to specialists. We generally write and proof the rest of the document first, and then edit and summarise a copy down to 5 pages or less for this section.
When it’s all together, a typical IM outline will ultimately look like this:
- Executive Summary – 5 pages
- Background, Overview & History – 3 pages
- Products/Services and Product Development – 4 pages
- Sales, Marketing and Customers – 4 pages
- Operations and Service Delivery – 4 pages
- Management and Staff – 4 pages
- Financial Performance & Forecasts – 3 pages
- Investment Details – 1 page
- Appendix: Detailed Financials & Forecasts – 6 pages
- Appendix: Marketing Materials (optional)
In addition to informing and helping to sell, the IM also sets up the framework for negotiations. Deciding where negotiations start can have a huge impact on where they finish, so this is something to consider carefully.
A comprehensive IM is a lot of work to produce, but we’ve put so many together that we’ve got it down to a fine art. Contact me through Paul.Hauck@ICTStrategicConsulting.com or at www.ICTStrategicConsulting.com to find out how. We’re always happy to help!