M&A Legislation Could Spur More Acquisition Activity This Year

Companies looking to grow have two main options: growing organically or merging with or acquiring another business. Pending federal legislation could make a merger or acquisition growth strategy easier for small and mid-sized companies.

In January, the House of Representatives unanimously passed HR 2274, the Small Business Mergers, Acquisitions, Sales and Brokerage Simplification Act of 2013. This legislation would significantly reduce regulatory compliance costs by allowing brokers who help facilitate the sale of small and mid-sized companies to register electronically. It would apply to the sale of companies with earnings before interest, taxes, depreciation and amortization (EBITDA) of $25 million or less.

In addition, a companion bill was introduced in the Senate (S 1923) in January that would exempt brokers who help facilitate the sale of small and mid-sized companies from having to register with the Financial Industry Regulatory Authority (or FINRA). If passed this year, these bills would move to the President’s desk for his signature, which most observers say is highly likely.

These broker FINRA registration fees range from $5,000 to $75,000 a year, according to FINRA, while set-up and compliance costs even for a small or mid-size M&A can top $150,000. These expenses and regulatory burdens discourage many business brokers from getting involved in small and mid-sized M&As, many experts say.

More Positive M&A Developments

This legislation is one more potentially positive development for M&A activity in 2014. The first is the fact that a generation of baby boomer entrepreneurs is starting to eye retirement. Many of them will be looking to sell their privately held companies in the years to come to generate income to support their retirement lifestyles.

Another positive for the M&A outlook this year: There is a lot of pent-up demand for acquisitions among strategic business buyers and private equity firms that have record amounts of cash sitting on the sidelines. When the potential effects of the legislation are combined with these two factors, the floodgates could be opened for mergers and acquisitions this year, noted one prominent M&A advisor.

Pros and Cons of M&As

If growing by merging with or acquiring another business is part of your company’s strategic plan this year, you should take a close look at both the pros and cons of an M&A. First, the potential benefits:

  • Rapid revenue growth - This is often the carrot that first attracts many business owners to the idea of acquiring another business. An M&A is usually the fastest way to grow revenue - in fact, a company can double in size (or more) literally overnight by acquiring a similar sized or even larger business. Achieving similar growth organically can take years.
  • Rapid expansion - In the same way, an acquisition may enable your company to quickly expand into new geographic areas and/or new customer segments. This can be done horizontally by acquiring a business that’s similar to yours (like a competitor) or vertically by acquiring another business along your supply chain.
  • Realization of synergies - When looking for companies to acquire, owners usually look for business characteristics and capabilities that will mesh well with and compliment those of their own company. The idea is to create a new merged entity that is stronger than either of the companies would have been individually.

Meanwhile, the primary potential drawbacks of a merger include the following:

  • High cost - Completing a merger or acquisition can be an expensive and time-consuming endeavor - not just from a financial standpoint, but from a time standpoint as well. Be sure to gauge the true financial cost (and plan for how the transaction will be financed) before starting down this road, as well as how much time you and your key managers are going to have to devote to the process over the coming months.
  • Loss of business control - Depending on how the deal is structured, you might have to share some business control with the owner of the business you are acquiring.
  • Mismatched cultures - This has been the cause of many failed business mergers. It’s important not to get so caught up in crunching the M&A numbers that you forget that real people are involved in a merger or acquisition. If two companies have vastly different corporate cultures - for example, one’s culture is casual and informal and the other’s is more formal and strict - the owners should plan carefully how these cultures are going to be merged together so that employees on both sides are comfortable in the new merged business.

Next month, we will delve deeper into the M&A process, including ideas for finding good acquisition candidates and the due diligence steps that should be taken before structuring an offer to buy a business. As always you should consult with your legal, accounting and other advisors.

City National, as a matter of policy, does not give tax, accounting, regulatory or legal advice. The effectiveness of the strategies presented in this document will depend on the unique characteristics of your situation and on a number of complex factors. Rules in the areas of law, tax and accounting are subject to change and open to varying interpretations. The strategies presented in this document were not intended to be used, and cannot be used for the purpose of avoiding any tax penalties that may be imposed. The strategies were not written to support the promotion or marketing to another person any transaction or matter addressed. Before implementation, you should consult with your other advisors on the tax, accounting and legal implications of the proposed strategies based on your particular circumstances.