COVID-19's Impact on M&A

I want to welcome everybody to the M and A Science Live Roundtable. Just a little bit about M and A Science. It's actually started as a podcast four years ago to give our industry a knowledge sharing platform. And this roundtable is designed to allow audience participation. So what I'm going to do is lead the conversation with some canned questions and then pass it on to you to ask some better questions, start a debate, whatever, and just to be able to join the conversation, the only thing you gotta do is just post a link to your LinkedIn profile just so we know who you are. And then when we get into the questions, audience participation, I'll go ahead and queue you up so you can actually activate your mic. And if you choose, your camera as well, if you're not into that, maybe you're a little more reserved. You can also feel free to post questions and comments in chat anytime. If you guys have any inspiration words of wisdom, feel free to post that in there as well. Looks like we got a lot of interesting folks. We got a lot of corp dev folks on here. Attorneys, consultants, we got a lot of folks. We got some celebrities in here too. We got John Ferreira, Capstone, we got Russ Hart. So with that, let's get going. I'm Kisan Patel. I'm the host, I'm the CEO and founder of a company called Deal Room and I'm also the author of a book called Agile M and a. I spent 10 years with M and A advisor and after seeing a bunch of industry problems, I decided to pursue the dream to build the greatest software to manage M and A. With me today on my roundtable is Toby Tester, who is a senior consultant and project manager at BTD, has 20 years of experience delivering strategic, financial and operational value from dozens of M and A deals. I also have Kevin Robbins, General partner at Blue Delta Capital Partners and co founder of Wolf Den associates. Kevin has two decades and over 200 transactions done in the federal space and has successfully started three businesses in that space as well. And also in my roundtable is Fred Thiel, Chairman and Chief advisor of Thiel Advisory. Fred has over 25 years of operating experience leading companies, including roles as a CEO in both public and private companies. Fred's also a trusted strategic advisor to CEOs, board of directors and private equity firms. Today we're going to discuss the impact of COVID 19 it's having on M and A. We're seeing this pandemic having unprecedented consequences on nearly every industry. For today's discussion, I want to bring in some industry professionals to talk about the market shifts, the impact the pandemic is having on closing deals. If we're seeing any new deals arise because of COVID 19, we wouldn't be seeing otherwise. With that to kick things off, I want to ask my roundtable, how have you seen the M and A industry impacted so far? Maybe I'll turn it over to you to kick things off.

Fred, thank you, Kishan. Great to be here. I think right now deals that were kind of in progress are going through closing, if they still make sense. I think obviously material and adverse condition clauses are likely going to be triggered as the impact of the CORONA crisis is felt by companies that are in these deal processes. But I think, you know, a lot of people are dealing with triage in their current portfolios, trying to close the deals that make sense, trying to decrease the damage from the ones that aren't going to close. And then, you know, people are starting to look out the other side. What might, what attractive divestiture opportunities might there be to do acquisitions from. And also there's some distressed assets that are attractive. I know certainly the folks at Blackstone and other places are starting to already look at cross industries to see, okay, what sectors are going to be hit and what quality assets are there that might be able to be picked up and rolled up into some consolidation plays.

Toby?

Look, guys, maybe take a bit of a personal perspective here because this whole coronavirus phenomena has been extraordinary, I should say, at a personal level, like any other M and A consultant. I had a pipeline of work and I actually had an opportunity to do some work in France and that got canned. And that was over a month ago now. And it was directly as a result of this particular epidemic that quashed that one. And then I had another one which also got knocked off and another one that got knocked off. So I can say, personally speaking, it has impacted me totally. I am not doing any work in M and A at this present time in any capacity other than talking to you guys. So that's how it's impacting me. And I'm sure there are a lot of people on the line who've been impacted just the same way.

I think I agree with Toby and Fred. Toby, we had probably, across all my activities, probably about 15 transactions that were in some state of a process, from ones that were just coming to market to ones that were in exclusivity and heading to closing. And the ones that were heading to closing are still closing. By way of additional background, everything I do is in the federal market which tends to be poorly understood. We don't make it easy on people, we're fraught with acronyms and xenophobia. But we tend to be fairly resilient. And so I expect to see more volume continue to play through in that space than elsewhere. But there were a few that punted and said hey, we need a month to sort out the capital markets. And there are some that were on their way to market that if I'm being totally honest, they were kind of B or C properties that probably would not have gotten done in a normal market. But in the 10th year of a seven year cycle they took a shot at it. But yeah, it got quiet for a while. I will say that in the last week or so two or three new engagements have come in. We're still seeing through the transactions that were towards the end of the process. And Fred, I think the only thing you didn't really mention was what's happening with some of the lower middle market private equity firms, certainly the blackstones of the world that can play in the corporate divestitures and the restructurings. We are getting calls every day now from lower middle market private equity firms that are flush with cash. They are looking to come in and over equitize deals because they perceive that with some of the strategics on the sidelines now, there's maybe an opportunity to participate in processes where there's a thinner bidder pool and where if they can come in and equitize the deals and then recap later when the debt markets finally settle down. It's a good way to play offense here. So I think if we had done this call last week, Toby would have sounded like the biggest optimist on the call. In the last couple of days though, the phones have started to ring again as people really sort out what does this all mean? What does the CARES act mean? What's the recovery package look like? And I'm hearing a lot more looking forward the last two or three days than I than I'd heard in the last two or three weeks.

I want to step back a little bit and want to ask you guys if you've seen any similarities between what's happening now and what happened during the 2008 market crash.

No, I think it's very different. If anything this is a bit more like 9 11. You know, it's a major event, shock angst, you know, in 2008 it was a financial crisis, primarily financial infrastructure. And the impact happened over a longer period of time and you know, grew over time and then you know, the return kind of was a nice slow kind of return here. It's a major series of shocks one after the other and it's having a huge impact on demand as people pull back their spending. And you know, the unemployment numbers, you know, we didn't see these types of unemployment numbers appear as quickly in 08 today. And so it's really a question of how quickly can these stimulus packages start actually impacting consumers such that they're able to start spending money and provided that money comes back in the economy like that. And I personally believe that, you know, we're going to see yet another stimulus package come out of Washington sometime towards mid year because it's, this is really about getting just consumers to feel confident that they can spend money. And at the end of the day, manufacturing is such a small portion of the economy in this country. It's mostly professional services and consumers. And you got to get the consumers to buy stuff. And the only way to get them to buy stuff is they have to feel comfortable that their income stream is coming. That being said, I think there will be much more dramatic change in business sectors and how business is done and how people interact from this crisis than the last crisis. You know, this is causing people to change how they do things and businesses to change how they do things, which wasn't something that was quite as impactful last time.

Any other comments? Gentlemen?

There's a big difference and I think something we all know this, this is first and foremost a health crisis, not a financial crisis. Kind of like we got the how the financial crisis kind of follows. And there's a couple of things which, at least to me and how I read it, I think one of the big things here is supply chains and the supply chain impacts and that's going to be as a result of this, totally reevaluated. And I think globally we have been resting on these supply chains because it's costing, always going to lower cost and not questioning the strategic importance of a lot of the things that we actually get from overseas. And I think for a lot of organizations they're just going to have a rethink of this and say do we need these supply chains? Can we manufacture locally? Can we use modern technology, automation, 3D printing? And I think this will if anything, step up the automation, artificial intelligence. Those technologies are going to be, I think going to be accelerated. So there's going to be a lot more work there, a lot more entrepreneurship, which I think is exciting and a positive thing as well. So that is different. Money is cheap like it's never been before. And that's going to be a great savior. But of course the big risks, I think, look, you know, unemployment, I think that's just amazing. I just saw the figures come out overnight in the United States and I forgot. I'm not too sure what it is. How Many is it? 3,6 million that have just been registered? I'm sure you can correct me on that one. So yeah, six. Yeah. So yeah. And the big, the other thing is, by the way, China, and China was the savior in 2008 because it was growing and its GDP rate was very big in 2008. But I just wonder this time around how China's going to be expanding, you know, probably contracting now. So that's going to be different.

I think I would just add that in many respects it feels very different than 08 in terms of, I remember in the immediate wake of the last crash there was an instant vilification of anybody who touched the financial services market.

Right.

Like somehow it was their fault. Right. And they weren't blameless. But this is different. This is a simultaneous supply and demand shock and we're all in this together. There's hardly a sector of the economy worldwide that's not going to be impacted by this. And so I think that that's shaped some of the language around some of the recovery acts that we've seen both here and also abroad where really folks are sort of saying, hey look, there's no one sector that's blameless here or to blame here. There's nobody who's immune to it. We're all in this together. And thus far I think most of the recovery funding that's coming out has been pretty broad based and generally folks are pretty positive on it. It's never perfect. Right. Kind of Russian army slogan that, you know, don't let, don't let perfect be the enemy of good enough. But it does feel a little bit more like we're kind of arm in arm here than we were in 09, where there were definitely some folks that could play the villain when we talk.

About the government funding programs. How do you guys see that impacting small, mid large size sectors? You want to kick that one off, Kevin?

So large companies, they're able to access some of these really large in terms of dollar figure loans that are out there for the small and mid sized businesses. I think that it's interesting, the treasury programs, the EIDL as well as the SBA programs. PPP is an extension of the 7A lending program. Pretty ingenious in terms of making loans that may or may not turn into grants, guaranteeing payroll, et cetera, should have a pretty good stabilizing impact on not just allowing these businesses to stay open, but also making sure that they. They use the funds to pay for employees so you can keep folks employed and, you know, get that consumer confidence moving faster. Interesting that we're doing this, this video chat today since the loans are all allowed to be submitted for the first time tomorrow. So I've been on probably a dozen phone calls today with folks trying to finalize their loan paperwork asking, what does this mean? What does that mean? Because I think that as this Byzantine language that the federal government uses to contract with folks, we're all in the D.C. area, sort of immune to it or numb to it at least. And we're used to reading it as it's been unleashed on the broader economy. People are scratching their heads and saying, what in the hell does this mean? How do I know if I'm an affiliate? And so there's a learning curve, for sure. And they've done some unintended harm, I think, in some of these programs. But by and large, I think the reaction is fairly positive on them across the board.

I would echo what Kevin says, definitely. I think the. It is an ingenious program. And I'll focus on the SMB space because if you force people to collect it by unemployment, you're dramatically reducing the amount of cash in the environment, in the economy. But by giving companies reasons to keep people on payroll and pay them their salaries, you not only provide more money to employees than they would have gotten through unemployment, most probably, but also by keeping them on the payroll, as things turn around, the restart time is much shorter. And so, you know, I'll echo what Kevin said. It's an ingenious program. This is a way to effectively subsidize employment at the employer level as opposed to subsidizing the economy at the individual consumer level. So I think this is critical. I think the challenge is a lot of these people in the gig economy and all these restaurant workers who've been laid off, they don't have an option here other than unemployment. And, you know, that's 15 million people in the US economy. So I think, you know, furloughs and these kind of, you know, government programs to put money back in and support payrolls are great things. Especially, you know, this concept of it could be a grant, which gives people more reasons to apply for them because they don't have to worry about it being a loan. I think also we're going to see more programs around the government backstop stopping financial institutions and owners of large debt portfolios by saying, hey, let's allow people to push out debt payments, let's allow, you know, landlords to push out debt payments, let's allow mortgagers to people who have mortgages to push out debt payments. Because at the end of the day, those are some of the biggest cash outlays that consumers have as their housing payment. And if you can create a way to delay that payment, then, you know, between the combination of the subsidies at the small, medium business side, higher unemployment and reducing the expense load for people, you can create some semblance of stability. The key question is how long does it take before people can go back to work and the economy starts moving again? Because the longer it goes, the harder it's going to be to restart and the longer time it's going to take to restart.

Right? That's true. When I was looking at the loan docs and at glance, the first thing I thought of was the cash based businesses are still screwed because if you don't have it on a tax return last year, you're not getting any options out of it. So which brings me to my next question. How can companies keep from crashing and burning in this market?

I think there's one word, one word that comes in, it's cash. You know, so your usual cliche, cash is king. But look, you know, a lot of organizations are going to have to find out what can they do to keep their cash. You know, make sure they got their working capital, they're doing things now. I'm sure they're radically looking at everything, their suppliers, their landlords, staff, business partners, looking to renegotiate terms, looking to making sure that they've got whatever cash to just keep trading, whatever lines of credit they've got, obviously utilize those and keep going. And so short term, that's the focus. Now obviously Fred mentioned divestitures. Now I think this is going to come up, having said that, and probably the worst thing you can ever really do with Netflix is actually literally start selling assets. Unless you absolutely have to, don't do it now. This is not the right time to be doing it, having said that. And I think a big message for organizations is to look at their asset portfolio now and start making preparations and actually re evaluating what they've got and start looking at what divestitures they should be making at some point in the future. Prepare now, prepare now. Don't actually press the sale button now, but Preparation is key with all divestitures. And I've seen too many divestitures screw up because they just haven't put the upfront effort to prepare a business for sale that's doing the necessary carve out and all that sort of work. There's a lot of prep work that needs to be done. Divestitures aren't easy. They're just as challenging, if not more. Certain acquisitions do the preparation. So prepare now for a sale once we get over this whole health crisis situation and we get some degree of normality.

Toby, I agree with all that and just another funny anecdote, I had a call with somebody today who said, hey, we think this might create a buying opportunity. There might be some, some folks out there that might be distressed that we can pick up. Do you think you could help us buy somebody and this particular part of the market by the summer in time for a bid we're trying to put together And I just posed the question back and said, you're going to, you're going to cold call a stranger and then try to video chat your way into a exclusive M and A arrangement by the summer. Let's stop and be realistic. Right. So I think there's a couple folks out there that have eyes bigger than stomachs in terms of what this is really going to mean. But invariably there are going to be some businesses that even with these loan programs, it will not be enough for them to pull back hard enough on the rudder to write it. And there will be some distressed assets. There have to be. There always are at the end of a cycle.

Yeah. I think at the end of the day there are going to be some great distressed assets out there. There are going to be opportunities to renegotiate debt agreements. That was a big trend in the 08 crisis. A lot of the PE firms renegotiated portfolio company debt, the pennies on the dollar. But I think the challenge is everybody is telling every board, every private equity firm, venture capital group is saying to their portfolio companies, hey, hoard cash. Delay payments, don't pay your rent, try to push off payment on debt, do whatever you can to hoard cash because you have no idea how long this is going to happen. And at a micro level that's fine, but at a macro level, that's devastating to the economy because you're sucking huge amount of cash out of the economy and you're causing systemic problems. You will cause systemic problems across sectors. So I'm a big believer in the fact that once people get through this period of shock Anxiety, it's kind of like this grieving period, disillusionment, etc. And anger. They will start looking at how do we collaborate to. To survive and to succeed. And I think you're going to start seeing kind of companies getting together to solve problems. You know, I've certainly seen it on some of the companies where I'm on the board that are providing products to essential services. You know, just how they have stepped up with their supply chain to rejigger things in an amazing way to be able to deliver faster, you know, to people who need it and amp up productivity and production While they have 50% of their workforce working from home and skeleton crews in factories to avoid infection risks. You know, that type of collaboration and cooperation is going to build quasi, let's call them quasi kiretsu, where it's not through ownership, but they're actually groups of companies who have just aligned with each other to provide strength. And so it's almost in one way a de globalization of the world which is going to occur. And companies are going to be really focused on, you know, what customers do I want to work with. Because, you know, if I have customers that aren't paying me, then maybe I don't want to work with those customers in the future. What vendors do I want to work with, you know, that aren't shafting me with, you know, super high prices and trying to gouge me. So I think we're going to see a big change as we come out of this, that how companies start working and collaborating together with each other. There's going to be a need for more trust and, you know, relationships are going to be fewer in number but deeper in nature. And, you know, I'm cautiously optimistic from a perspective of the fact that, you know, we're kind of awakening the sleeping giant. You know, Admiral Yamamoto said after bombing Pearl harbor that, you know, beware, you know, we've just awoken the sleeping giant of the United States of America. And as our industry and our companies start really collaborating on this, I think we're going to see a huge and very rapid progress on innovative solutions to getting us back to work and getting the economy going. Cures, you know, scientists working together on cures, testing companies figuring out how to test people, realizing that if you can test for antibodies against this, meaning people who have had it, then maybe those people should be allowed to go back to work. Those people should be able to be put into jobs as delivery people. They could be put into jobs in factories. You know, they can work in restaurants and you know, we're going to find ways of doing very rapid testing so that you can test people before they get on airplanes or before they go into certain environments. That being said, I think the industries that are going to be most long term affected are travel. People are not going to get on airplanes to travel to international countries anytime soon and countries aren't going to allow people in anytime soon because they're so afraid of the second wave. And I think that's where we really need to be cognizant of. That's a sector of the economy that's just going to be really hurt at least definitely internationally and to some extent domestically. Nobody's going to travel to New York today and I don't think any state wants people from New York traveling to their locations anytime soon.

Those are some really good points on that and some optimism about coming back stronger as well. I want to switch things up. I really want to get into this deal market. I want to shift a little bit and talk more about the current climate affecting volume valuation and what's happening to deals mid process.

Yeah, I would agree. I think that definitely valuation, especially with the impact to companies, you're going to see much more. A deal being done now is going to have this huge contingency. We don't know what the future looks like. So though the underlying asset is a great potential asset, guess what? Even big deals are now going to have so called earnouts are going to come back into these big deals because there's no way to know what the future looks like. And you know, you're either going to have to take a huge haircut in valuation or if you want to have some hope of getting, you know, value recuperated over time, then you know you're going to find these bigger earnouts. All of that says is, you know, a seller who can survive this is going to push off going to market obviously for a period of time. So I think it's going to be interesting that you know that you have these PE shops that are flush with cash. You know, a number of strategics are flush with cash. They're going to see opportunities and they're going to chase the shiny, you know, the shiny objects that look the most exciting. And you know, in some cases I think in the tech sector specifically you're going to see some deals at quite high valuations for valuable assets. You know, for example, with a Microsoft by zoom, you know you have opportunities like that that are out there. Yeah, absolutely. And by the way, you know it's. There's this theory called habituation, which has to do with, you know, once somebody does something for 30 days, it becomes a habit. And you know, when a company gets comfortable having its workforce work from home, you know, all of a sudden, you know, those rules don't necessarily get unwound 100%. And so you're going to have a definite increase from pre crisis to the volume of sales of these tools and licenses for these tools. You might not have the same level as today, but you'll definitely have a greater extent than pre crisis. I'm seeing in enterprise software that's essential for manufacturing, that's driving productivity and supply chain optimization, I'm seeing increased demand, therefore, hey, let's take advantage of this time period now to deploy these tools because if we can increase our output by 5%, that has a significant impact. So a lot of stuff in the Internet of Things world, if you would, being able to measure where something is at any time, know what its condition is at any time, know potentially if it's been exposed. We're seeing a lot of development of sensor technology around being able to very quickly through a pinprick test for antibodies of COVID 19. And you know, you're going to be looking at, you know, people going into food processing warehouses being tested every day when they come in, such that nobody in the building is infected. Through your testing companies, these test kits, you can see a lot of really interesting, attractive things there. And obviously the life sciences industry is going to be going very quickly. The other area that I think we're going to see some really interesting deals around are around automation, factory automation. Being able to run a factory as a black box, you know, putting 3D printers, additive manufacturing capabilities into facilities such that people can work remotely and you only need a skeleton staff in the actual assembly plant there while the robots do most of the work. You know, robots can work 24, 7, 365. They don't get tired, they're great at doing repetitive tasks and they don't get sick. And so you end up with just a maintenance crew in a factory while stuff is being delivered at one end and output is being produced at the other end. So I think we're going to see a lot of that with factory people being retooled to higher level skills for running robots.

Now Fred summarized that very well, something I alluded to a little bit earlier on. And I think the whole nature of manufacturing, this is going to be a catalyst, no doubt about it, for reevaluating our manufacturing processes, how we manufacture, where we Manufacture, lower costs for manufacturing through automation, through AI 3D printing. People will look at this again and say do we need to have these long supply chains? And the answer is probably not.

What do you guys think about new deals? I'm curious to know if they're buyers that would active now that are all on the sideline. Who's coming out more in the forefront? I know we touched on this a little bit with some of the bigger PE firms and so forth, but I'm curious to see if you guys had any input on foreseeable deals that we would not have otherwise seen coming out of this.

Obviously, and I think Fred already alluded to this, I think obviously the major tech firms, well cashed up, Amazon, Microsoft, Google, look, they'll be looking to fill gaps and I think it's an opportunity for them. Obviously buying options are well cashed up. Another one of course is the retirement funds. For example we have here in Australia about $3 trillion in superannuation funds. It's a massive amount of cash reserves. And so I would imagine that retirement funds will be looking at this as potential buying opportunities. They're cashed up, they've got the money. So I would imagine that there'll be an opportunity, scoop up some cash starved assets out there. So I do see that, but that's my view, interest in others. By the way, what Kevin and Fred think.

All right, so if you look at the small company, the smaller startups that are sort of past Series A that we're going for Series B, I think there's going to be a lot of M and A activity there. As an example, I'm an advisor. One of my clients is a company out of New Zealand that makes digital humans. These are, think of them as avatars that can replace a customer service rep. And they recently built a COVID 19 health advisor model. It took them two weeks. They point the AI engine at the data from the CDC and WHO the system then generates automatically. Questions?

Those are really good inputs on sort of the market shifts that are to come. You know I got John on the line and I wanted to bring him. John, if you can go ahead, unmute the mic. I want to hear some comments from you on our last question.

I do want to say Fred, spectacular insights and Toby and Kevin as well. I've enjoyed listening so far. But Kisan, I think you teamed me up initially when you were asking about volumes and deal trends and impacts on valuation. Is that what you're referencing? I've been doing this for, I don't know, 30, 35 years. And it's funny that you learn something significant in times like this and you learn how spoiled you get right and how humble and learning oriented you need to maintain a posture as an M and a banker. And what I mean specifically about that is we've been on such a great run for so long is as a banker, you can never really lose sensitivity and insight on the supply and demand side of investment banking, meaning supply side business owners looking to go to the private capital markets, either in debt offerings, equity offerings, or sell side, M and A. And on the demand side, you know, the appetite on the other end, it's just been there, there's been a constant flow and you never really worry about whether or not there's going to be demand. So that's funny because now you have to really not take either of it for granted. And there are opportunities in both. As much as there are huge challenges for everybody in this marketplace, I'm also seeing opportunities. And on the demand side, I would agree with everything that was said. I mean, about a third of our deals, I think at any given point in time, for just statistic purposes, we have about 100 to 125 deals in market at any given point in time. And about a third of those that were kind of inside the 20 yard line moving to closing, they're still moving forward, they've got their challenges. A third of them have pressed the pause button, A third of them have been kind of sidelined indefinitely. And who knows what's going to happen there. And, and then we have entrepreneurs looking to go to market. So I'll start there. The folks that have been resilient and have managed services, outsourced services, long term kind of recurring revenue stuff, they're highly attractive and they're going to command more of a premium in the marketplace. But the universe has got a lot smaller real fast. Right, because some people just aren't in business anymore on the M and A side, the acquisition side of the world. So every banker in any industry vertical, no matter how well you think you know the demand side, your first initiative is got to call every strategic acquirer and every private equity firm that's done deals in your space has expressed an appetite in that sector and find out are they in business right now or are they not? Because you can't expose a company to somebody that's not even interested in it. And then if they're not interested, are they going to be interested in soon? And if they are interested now, what specifically are they looking for? Because the guests and you have to assume that if they are in the market actively looking for acquisitions, they're looking for something pretty specific. And that's something we've all taken for granted for a long time. Not. Not so much anymore. You need to know your sector so much more on the demand side than, I think, what we had to do even, you know, three or four weeks ago. And on the supply side with the entrepreneurs, they actually think there's a really good window here. I mean, nobody's got a crystal ball. We're dealing in a very imperfect information flow right now because nobody has any answers. But if you play this out generally in this, in this concept is that, you know, we've got two months, maybe three to four weeks at best, before we know actually where we are on the curve. And if we're hitting the flat end of the curve, and at least we have some visibility in the view of some answers of what this is going to look like in the post COVID 19 spread. So call that two months, and I think you're going to have another six months, specifically, if we're. If things are going well for the economy to get back to any sort of functional capacity. And then where does the M and A market play into that? So at best, you're talking eight to nine months within the M and A markets. So if you're a company looking to go into the M and A markets, now's the time to actually get yourself prepared. Because our thesis is going to. Our thesis hinges on one assumption being when that demand comes back, people looking for acquisitions, that demand is going to be pretty immediate. And anybody that's worked with private companies getting them ready for a sale, that takes a while. There's heavy lifting to do. Companies need to be prepared to go to market. So you're going to have a window where the demand's back and the supply is not there. So if you're preparing or your company's thinking about it, you're advising a business on potentially when to hit the market, you kind of want to be that shiny present under the tree in the first wave of companies that go to the market, because those companies will be the ones that get more attention. And they're most likely, if they're capable of it, will command a premium relative to six months after, when other people are finally mobilized to hit the demand. So there's opportunities, there's pockets. If this plays out the way we expect it to be, people, I think, spend too much time just in defense because of the shock and the emotion of what we're all going through. You got to have an offensive game plan in this process as well.

Yeah, I was curious about what new risk are now introduced to deals.

I mean, definitely you're going to see a lot of deeper diligence and a series of COVID19 conditions added to purchase agreements where, for example, what unknown liabilities are there that the company has? Was an employee infected because they were forced to come into work? You know, this is obviously in the essential industries are going to be hugely affected by this. You know, is there a latent lawsuit out there that hasn't happened yet or might there be a class action lawsuit by a group of employees? So I think the lawyers are going to have a field day with this when it comes to potential litigation down the road. So you're going to have to have carve outs and set asides for all of that. I think you're going to have just a number of other contingencies that are going to have to be put in place because we don't know. I think when we were kind of prepping for this call, Kevin should maybe talk some more about this. As we look at the loans and these SBA things, is there a payback requirement? Isn't there? Who does that money then go back to in the event that it becomes a grant? Who gets that value? Is it the seller or is it the buyer? It's going to be a very complicated world as we kind of sort out all of these various things. But I think at the end of the day, as John mentioned, businesses that have great recurring models where there's still good demand for the product, you will be able to look back and look at cancellations during the crisis. Who canceled and what did they come back? What happened to churn rates? And those businesses will have premium prices associated with them. And I also agree that, you know, a lot of processes will have been put on hold and a lot of people who were considering processes will have put them on hold. And there will be this period of low supply, high demand in the back half of this year and then we'll see some new business come to market in the next year and beyond as things kind of start picking up, you'll also have the opportunity then to see what businesses bounce back the best. And so I think we'll see waves of acquisition where as more data becomes relevant to a certain sector, there'll be a consolidation or an acquisition play there and then another sector will have recuperated and you'll see another wave in that sector. And so I think you'll see this kind of round robin effect with industries that's going to happen, which is going to be really interesting for the M and A guys.

Fred and John, I think you guys are dead on that this is where sector specialization starts to really matter, that what is applicable in one sector of the economy is not going to be relevant in another. And so we are all going to have to work a lot harder and sharpen our pencils and become industry experts if we hope to thrive going forward. And Fred, to your other point about how it's impacting specific deal terms, curious to see what other folks are seeing in the market right now. Again, we talked at the outset that have not seen a lot of Macs invoked. One peculiarity we saw recently is we're in final merger agreement terms on a transaction and somebody posed the question the Target is below 500 employees and so they qualify for some of these SBA loans. They don't know if they're going to take them or not. But as we were turning the merger agreement to add, you know, 75 references to COVID 19 and all the relevant sections, somebody said, hey wait, what if our loan gets approved and we end up getting forgiveness and paid back for things post closing? How are we going to handle that through the post closing adjustments? Right? And sort of it was one of those. You could hear a pin drop on the phone call as two teams of of lawyers, two management teams, advisors, et cetera, all started to think, well, we hadn't really thought about what if the government gives you a loan and then the government forgives that loan to the target post closing. And we quickly agreed that while there's not really a blueprint for this, it should work the same way as a post closing tax refund or AR above a working capital target, et cetera. There are well established ways for handling these kinds of post closing adjustments. We just have to all pause and think and say, okay, what is the COVID 19 analog here? And can I shoehorn into existing deal mechanics before the lawyers go on a billing spree and start inventing new things? One other comment on the diligence requirements and disclosure requirements. For better or worse, those of us that live in the federal market, we're used to having a shutdown every year. We can scarcely remember a year in the last decade that we haven't had some kind of shutdown where for a period people could not go to work. It's never fun to go through. But the one nice thing is every transaction that happens in the federal market, there's already A well worn path of diligence, questions, risks and disclosures around how susceptible your business was in the last shutdown, etc. And I actually expect some of that stuff to make its way into best practices across all industries because there's a playbook you can run and it's a playbook that even kind of reps and warranties insurers have gotten comfortable with. Right. They know it. Now they can leverage the diligence that's being done to get comfortable and in writing reps and warranties policies. And then the in the transaction I mentioned where we're trying to figure out the post closing adjustment for if the if the loan becomes a grant from the government, who gets the proceeds. That's a reps and warranties deal. And so far the underwriter has had no issues around going to closing on this. Now we'll see. Closing is not scheduled for another two weeks here, but so far they've not, they've not put their hand up or hit the panic button.

I like that example. Appreciate you sharing it. I want to switch it over to Q and A too because I know we're about to hit the hour and I want to make sure if anybody of our audience attendees have questions. Feel free if anybody else as well, but love to get any of your questions in here. While I got this awesome panel here.

One of the areas that I was thinking might be a massive impact from this is when all of these businesses eventually go back to work and they'll sit there and they'll go, hey, this remote working process has worked well. They've all mastered it and they'll be sitting there going, why are we spending $1,500 a square meter on office space now? And there will be a massive shift in people just downsizing office space and all that sort of stuff. I wondered what the panel's thoughts might be on that as well.

So with all deference to my good friends in the commercial real estate market, I think you're right. I think a lot of folks realize that they can probably have a lot less footprint of physical office space going forward than they had previously. It's unfortunate because that will cause the landlords to get doubly hit.

Right?

They're going to get the first hit, which is the government mandating the rent forgiveness. And so they're going to get squeezed between rent forgiveness that they're going to be the guys left holding the bag for. And then going forward they probably have flattening if not shrinking demand, which actually raises the question about a Lot of newer properties, properties that are, that are mid construction now. What's the fate of those? What do we end up getting to use those for?

I would agree office space companies are going to go to much more focused on flexible workspaces and the big challenge is temporarily this remote work thing works really well. The challenge is if the kids can go back to school and you can have some peace and quiet at home, it might be workable. But people's homes aren't designed to be necessarily work from home always. So there will be some desire for, you know, flexible temporary use. Office space, think of it as Starbucks. Plus some additional workspaces attached to it where you can just go spend a few hours a day if you need to, you know, have peace and quiet or whatever and then you can go back and work out of your home for the rest of the day possibly. But I definitely think we're going to see a positive impact towards remote work and all the tools and support infrastructure related to that. From this situation.

I just want to say one thing.

I'm going to have to say one.

Thing and that is that innovation and that is that innovation is inherently a human activity and it does require the human interaction and that's not going to go away. So whilst there is a benefit to remote working, there's a lot of people out there, particularly the extroverts out there who are suffering badly from this isolation, who are very, very keen to get back into that office, you know, get to that whiteboard, have people around them and to get back to innovating. And that is a human thing that's.

Not going to go away. You know, Apple has been suffering from this. They are a very tight lipped organization where prototypes never leave the building. And now all of a sudden prototypes are leaving the building because people have to work from home to do this and they're actually finding ways to do this. I was on a zoom call with the R and D team from a software company I'm on the board of and I got to basically be a fly on the wall on their all day long meeting. They basically have a zoom screen up with everybody so that anybody who has a question, they want to interact, you know, they're constantly in touch. It's as if they were all working in one room but you know, they're obviously remote and the team, after doing this for two weeks, you know, there were bumps and definitely issues with it at first but they were starting to feel actually very comfortable because whenever they had a question they could either do a private chat with somebody on Slack or they could, you know, ask the group in general, they could do ad hoc stand ups. And they were actually finding it a really interesting balance of being able to have your alone time to think, but being able to be collaborative when you needed to. And you know, with Zoom you have whiteboard functions that once you learn it, it actually isn't all that bad. And I mean even seen people, you know, writing notes on a piece of paper and then showing, putting, holding up the piece of paper to the camera and you know, here, see. Yeah, and doing things like that. But we're going to see some rapid innovation in these tools which is really going to make it together with some of the augmented reality technology that, you know, Apple and Google and the Android platforms are rolling out with their phones, which is going to make this actually easier and easier to have telepresence. So, you know, I actually expect to see a lot more telepresence use. And by the way, today I know a lot of companies who have offshore development teams where they all interact online and you know, that works well. But I do agree extroverts need facetime with people and you know, doing it through a screen isn't, doesn't tickle the, the, the itch as well as actually being face to face with people. But spending a lot of time at CES over the years, I have a feeling we're going to see some very interesting holographic display technology coming to consumer markets very quickly, which is already available in the military sector and in the oil exploration sector, we're going to see.

More people doing live podcasts and roundtables. There's something to say about that office environment where I'm realizing I'm not getting interrupted every five minutes. So I'm actually getting a lot more time to sort of tackle some of these bigger to do things on the backlog. If anyone's seen any reference terms in any PAs around COVID 19, any language, you'll be the first deal. John to have.

Keith ON we just saw some show up in that latest turn of an agreement as I mentioned, but it's mostly a disclosure item more than it is anything else. Right. It's sort of quantify the depth of the risk you may have, the depth of the exposure you may have, but it's is one of the first ones we know they won't get it Right.

Right. I think the, you know, I don't see PE guys giving money back to LPs right now. I see them, you know, sitting on their cash piles to see what they can either do to improve the debt that their portfolio companies have or buy new portfolio companies or add ons to portfolio companies. But I do agree if you were to go out and try and raise money today, it's a hard flaw. Definitely a hard flaw.

What if you had a really good angle? I mean there's some new interesting strategies you could really build an investment thesis around in this market.

Go to somebody who has a lot of money, a PE firm that has a lot of money and have them sponsor you. It's a much faster way of doing it.

I have heard from a couple institutional LPs that they're looking for things that play on countercyclical trends. Obviously they're looking for oddly managers that are, that are newer managers. And that's counterintuitive. You would think this is not the market be backing new managers in. What they mean by that is if you're a group that has a proven track record elsewhere and you're lifting out to start a new fund, they are more, they see more opportunity in the fact that you're not distracted by mopping up a lot of problems in the existing portfolio in this environment. They see less risk in that than they see opportunity in being able to have all of your GPS market facing to get go take advantage of what should be some good buying opportunities. So it's a little counterintuitive and they may not represent all institutional LPs but their comment was look, our pensioners are still getting older. We still have an actuarial need, we still have to put money to work. If you're not a top quartile fund, it's bye bye if you are out raising. If you've got a differentiated thesis that plays well in the trough of a cycle and especially if you're a manager that's not burdened by a lot of existing portfolio companies that you're going to have to be working, working through. Then we really want to hear the story. Now they'll have to hear the story by video chat and that's always a tough way to get commitments, but at least they're signaling that they're open for business. For stories that sound like that, we.

Ran past our and I want to get to my final question for everybody and it's what's the craziest thing you've seen in M and A? If you guys want to just take a shot at that while we wrap things up, you want to kick that.

One off, Toby, very quick one. This is always a hard one to answer. By the way, because I know you always finish off your podcast this way because there's so many to choose from. I'll just choose one and it'll be really quick. I was working with a finance company. They bought a business. It's quite a big business, about a $300 million business. So it went and closed and then went into the transitional service period. And then the seller was providing transitional service, decided their infinite wisdom to decide to turn off the IT services. They just basically pulled the plug on all the various services and there effectively wasn't a business any longer. So it was gone. There was no business. And for nearly a day there was no nothing happening. People standing idly by while people were busily in the IT department plugging servers back in. So that was a business that was gone for nearly a day. And I thought that was pretty darn crazy.

They took them offline.

They took them offline. There was no business for nearly a day.

How about you, Kevin?

I think the craziest thing I've seen ever in M and A actually wound up in litigation over it. Had a company that was an IT contractor that we bought and there's a pretty heavy earn out and the earnout was keyed to revenue and profitability. And so we thought, well, we've got them pretty well boxed in, they'll either perform or not perform, but there's no way to game the system. And it looked like they were not going to make the earn out. And so with about a month to go, they cut a sweetheart deal with a Buddy to for $1 buy. That Buddy's Fire protection business. So totally orthogonal to it, but that guy's business brought in just enough revenue to clear the hurdle on the earnout and so wound up litigating that yes, you technically met the requirements, but nowhere in there did it say you could go off the reservation and buy a, you know, a hamburger stand to meet the earn out.

That's crazy in deals other than just, you know, some blatant misrepresentations that, you know, were discovered in due diligence. But in the end, you know, the deal never happened. Possibly some stuff on earnouts, you know, not, not same type of thing as Kevin mentioned, but just some real shenanigans around hitting targets and cutting deals where contracts were effectively written as, you know, pay three years of revenue up front. But the contract only looked like it was a one year contract with three times the value. But that's about as crazy as I've seen.

It's funny, these earn outs you get all this time to come up with your little avenues to work around it.

Personally a big advocate of, you know, no earn out. You got to figure out the value of something when you buy it and the same thing for the seller, you know, they effectively many times lose control of the ability to generate the earn out the minute they sell.

That's true. Hey guys, I want to thank you so much for taking your time on this panel. Any little shout outs, any call to actions. I know we have an official announcement call to action.

I think divestitures start the preparation in terms of prepare, prepare, prepare. I've seen too often you talk about this crazy stuff. Too many organizations do the crazy thing on not being adequately prepared for sale and that's what doing all the necessary preparatory work. It's a bit like getting a house on the market. If I can just compare it like that. If you're getting a house, do the note work now to do the painting, the decorating, to fix it all up and then when the time's right, then present it in the best possible light. But the time is now to do it. You know, this is an opportunity, you've got it. Use the time.

Toby. I would just pile on to say that not only should you be focused on, you know, preparing your house for sale, but also understanding who is the buyer you're going to prepare the house for sale for. You know, a PE buyer is very different than a strategic in, you know, what's important to them. Succession planning is really critical. You know, in the PE world, you know, do you have somebody who's going to replace you if you don't want to be the CEO of the portfolio company because otherwise you're going to be stuck in that seat. So it's, you know, it's a two year process and a lot of the companies I work with before they ever get to contacting a banker, it's, you know, really understanding who are you going to sell to, how do you create strategic value in your business. So you know, a lot of medium sized businesses have been tax optimized for the ownership owners to maximize the money they can get out of the business. They might have, you know, nannies being run through the business, all sorts of things and you know, you need at least 12 months of clean financials with the future structure, if you would behind you before you should ever go out and engage bankers and start talking about sale process. So it's, it's, it's totally agree with you Toby. It's take your time, figure out exactly how to get your house in order, who you're going to sell it to and prep it, stage it, as the real estate agents say, in the best possible way so that when you go to market, you're maximizing your value. Because believe me, the buyer has to believe they're going to be able to increase the value of your business when they buy it. And so you need to have a really compelling story and you need to have some relevant data that shows that that story, story is true. So you need at least a year to two years behind you to show that.

I would add, as we said at the beginning, Toby said, you know who your friends are when you go through something like this. Whether inside or outside an M and A context, we've all got to be in touch constantly with our customers, our partners, our employees, et cetera. It's many of us in the M and A world are extroverts and are crawling up the walls at home right now. And so no time like the present to reach out to them and just check in, make sure they're okay. May or may not ever pay dividends in the M and A world, but you know, it's the right thing to do right now.

Completely agree, guys.

Thanks.

Take care.

Hey, thank you.

Take care. Thank you.