About exits: How does a company exit at a good price?

Israeli hi-tech founders often dream of an exit (mergers and acquisitions, or M&A) deal.

How does an Israeli tech company exit at a good price? A corporate auction may sometimes improve the starting price, but how does a seller company get to the best starting price in the first place? And what are potential buyers likely to look for in an Israeli business?

In this article we briefly discuss some of the factors for buyers and sellers to check out before any M&A/exit deal.

Prepare for the deal: There are a number of stages for all sides, including the following: Prepare objectives, reasons, information, advisers and the business itself. Identify candidates. Auction, woo and negotiate. The seller will check that the buyer has finance in place. Execute the deal. Post-deal integration.

What type of deal do you want? There are many ways to cut the deal. Do you want a share sale? An asset purchase? A management buyout by existing management? A management buy-in by a new hungry, but experienced, team? Or just an exclusive license or supply contract. Much will depend on tax, who is the stronger party and the overall circumstances (see below).

What are the seller’s reasons for selling? The seller will have a reasonable answer to this question. Opportunity to make a capital gain? Realize opportunities? Forced to sell, e.g., bankruptcy, death or sickness? Retiring? Increased regulation? Increased competition or failing business? If it is the latter, is there a turnaround opportunity or an asset opportunity for the buyer?

What are the buyer’s reasons for buying? In the Israeli tech sector, the buyer typically wants access to a new product or new technology. But not always. Other reasons for buying include access to new customers or a sector, economies of scale, market dominance, turnaround opportunity or asset opportunity. But the buyer must do due diligence and be careful not to overspend.

What are the main methods of sale? Methods of sale include a trade sale, financial sale, auction, IPO, exclusive license or supply, buyout or buy-in.

Questions to ask before selling a business

Is intellectual property (IP) protected? Is the business in good shape? Can profitability be reasonably enhanced? How is the cash flow?

Are personnel performing well? Are managers performing well? What will the main negotiation issues be – price and what else?

Are founders prepared to stay on to help ensure a smooth handover? What should the post-acquisition business model be?

Have your business plan ready. As Paul Simon sang, “Get a New Plan, Stan!” (“50 Ways to Leave Your Lover”).

Both sides need a business plan. Set goals. Have a strategy and timetable for achieving the goals. Share relevant parts with employees.

For this, management needs to demonstrate leadership. Leadership means a longer-term vision and entrepreneurial skills to make it all happen roughly to plan.

Check that the seller’s intellectual property is patented or otherwise protected. Assess the market and strategy for reaching the market. Identify unique selling points and points of competitive advantage, e.g., niche product, trend or clientele.

The seller should list competitors and how they compare. The seller should have vision, past financial statements ready and a budget going three to five years into the future, reflecting its milestones.

Predicting the future is difficult but necessary to help identify relevant factors. What matters in particular are the assumptions made; they need to be listed and make sense.

What about the tax side?

Sellers usually prefer a share sale. In that way, shareholders may pay 25%-33% Israeli capital-gains tax, or 0% generally if they are foreign investors. But they should check their home country taxation.

Employees on a stock option plan approved under Section 102 of the Income Tax Ordinance may pay Israeli tax as low as 25% and not have National Insurance Institute payments.

But the buyers typically prefer to buy the main assets, which can increase the overall Israeli tax liability for all selling shareholders to around 50%.

Sometimes buyers, especially those listed on a stock exchange, pay with their own stock (shares), not cash. There may even be a lockup period or installments. If so, the sellers must go upfront to the Israel Tax Authority for a deferral ruling. Detailed rules exist, and advance planning is absolutely essential for both sides.

Moreover, the buyer must withhold tax – typically 25%-30% – from the sale consideration, unless the sellers produce clearance for any lesser rate of tax. The buyer’s Israeli lawyers will usually be mindful of this.

The transaction agreement will need to reflect all these tax aspects among many others.

The above is general and brief. As always, consult experienced legal and tax advisers in each country at an early stage in specific cases.

leon@h2cat.com

The writer is a certified public accountant and tax specialist at Harris Consulting & Tax Ltd.