Doing Deals With The “Big Boys”: Ten Tips For Entrepreneursby Scott Edward Walker on September 7th, 2009
Entrepreneurs often find themselves in high-stakes negotiations with big, savvy players (referred to herein as “Big Boys”) — whether it be a venture capital firm in connection with a financing or a private equity firm in connection with the acquisition (or recapitalization) of the entrepreneur’s business; the situation can indeed be daunting. Below are ten tips for entrepreneurs to help them through this process.
1. Diligence the Guys on the Other Side of the Table. Due diligence is often a critical component to any deal. One form of diligence that is often overlooked, however, is an investigation of the guys on the other side of the table. What’s the reputation of the Big Boy — e.g., is this a firm that squeezes the little guy or does it add value? What about the particular individuals with whom you are dealing? Are they good guys with whom to partner or are they jerks? Can they be trusted? When they say they are going to do something, do they do it? Remember, in certain deals (such as venture capital transactions), the entrepreneur will be married, in effect, for a number of years to the guys on the other side of the table. Accordingly, at a minimum, he should get references and speak with other entrepreneurs or CEO’s who have done deals with them in order to make an informed judgment as to whether they are guys with whom he should be doing business.
2. Retain a Strong Team. In dealmaking as in business, you’re only as good as your team. Accordingly, the first step for the entrepreneur is to retain a strong transaction team — and the quarterback of the team should be an experienced corporate lawyer. Indeed, an experienced corporate lawyer will not only watch the entrepreneur’s back (as discussed in paragraph #10 below), but also will help the entrepreneur build-out his team and tailor it to the particular transaction — e.g., in an M&A transaction, (i) a strong tax lawyer is imperative to help structure the deal; and (ii) it may be prudent for the entrepreneur to retain an investment banker and/or a consultant to help on the business side.
3. Create a Competitive Environment. There is nothing that will give the entrepreneur more leverage in connection with any negotiation with a Big Boy than a competitive environment (or the perception of same). Indeed, every investment banker worth his salt understands this simple proposition. Accordingly, a start-up seeking a Series A financing from a venture capital firm, for example, will clearly have more leverage if such firm learns that other venture capital firms are interested in the start-up. Not only does competition validate a firm’s interest, but also it appeals to the human nature of the individuals involved. Competitors can be played-off of each other and, as a result, the entrepreneur will be able to strike the best possible deal. One caveat: this strategy must be played very carefully and is better-handled by someone with strong deal experience.
4. Run the Negotiations Through the Lawyers. The entrepreneur should do what he does best — i.e., build companies — and leave the negotiating to an experienced corporate lawyer (or an investment banker, if applicable). Entrepreneurs are generally no match for sophisticated venture capitalists or private equity or corporate development guys who do deals for a living. The Big Boys may try to do an end-run around this process (and may even criticize the entrepreneur’s advisors and try to turn the entrepreneur against them), but the entrepreneur should remain disciplined and avoid “side-bar” negotiations with the principal(s) on the other side. This approach is particularly important where the entrepreneur will have an ongoing relationship with the other side post-closing; the goal is thus not to poison that relationship with testy, acrimonious negotiations (i.e., let the lawyers fight it out).
5. Develop a Game Plan. Every deal is different — different players, different negotiating leverage, different risks, different timing — and it is thus critical that the entrepreneur sit down with his transaction team and strategize; in short, he must develop a game plan and then attempt to execute the plan. Indeed, doing deals is no different than any other project: the entrepreneur must (i) think through the issues with a smart, experienced team, (ii) set reasonable milestones and (iii) then monitor the progress. Rigorous analysis throughout this process is paramount.
6. Be Careful with LOI’s. A letter of intent (an “LOI”) — sometimes referred to as a term sheet or memorandum of understanding — is often executed in connection with all types of deals. The entrepreneur must understand that, depending on the deal and the context, there are different LOI strategies and considerations that must be addressed. For example, in the acquisition context, a selling entrepreneur should try to negotiate all of the material terms of the deal in the LOI when the entrepreneur’s leverage is the strongest; on the other hand, a buying entrepreneur’s main goal with respect to the LOI is merely to lock-up the seller and prohibit it from shopping the deal for a reasonable period of time. Another major concern with respect to LOI’s is that they may be deemed enforceable by a court of law (i.e., be deemed a binding agreement) — despite express language in the LOI to the contrary.
7. Check Your Emotions at the Door. Big Boys are masters at taking their emotions out of transactions and being extremely disciplined. Indeed, Big Boys will generally walk from a deal if they get out of their comfort zone (e.g., with respect to the risk profile, price, etc.) — regardless of how much time and money they have expended. Entrepreneurs, on the other hand (particularly those who haven’t had much deal experience), often become emotionally wedded to a particular transaction and are unable to maintain their objectivity the further along they get in the process. Too often, an entrepreneur will fall in love with a particular deal — like the first-time home buyer — which will lead to poor decision-making and risky positions. It is critical that the entrepreneur understand this dynamic – and that’s why it is so important for him to develop a game plan early on and to stick to the plan (i.e., the dealbreakers, etc.) and be willing to walk, if necessary.
8. Don’t Blink First. There comes a point in time in just about every deal where both sides have dug into certain positions and the question becomes which side will blink first; e.g., in a venture capital financing, perhaps the issue is the liquidation preference or, in an acquisition, perhaps the issue is carve-outs to the cap on liability. Whatever the issue, the lesson for the entrepreneur is clear (albeit difficult to execute): in order to maintain negotiating leverage and credibility, the entrepreneur should not blink first. Indeed, if the entrepreneur has flatly stated that “this issue is a dealbreaker,” but then blinks and nevertheless agrees to go forward with the transaction despite not getting what he asked for, he will have completely undermined his credibility and will have his clock cleaned with respect to any other significant issues. Like poker, if your bluff gets called, it will be difficult to bluff again. Which brings us back to the important tip in paragraph #4 above: run the negotiations through an experienced corporate lawyer (or investment banker/consultant) who does this stuff for a living.
9. Watch-out for the “Good-Cop, Bad-Cop” Routine. Big Boys employ all kinds of negotiating games, and one of their favorites is the “good-cop, bad-cop” routine. The Big Boy, of course, plays the good cop and is smooth, friendly and agreeable and makes the entrepreneur feel like all of his important issues are being taken care of. But then the documents arrive — chock full of bells and whistles and boilerplate provisions designed to protect the Big Boy and often with significant gaps on the deal points. When the Big Boy is questioned as to what’s going on here, the answer, of course, is “it’s my lawyer’s fault” (i.e., the “bad cop”). This game will continue throughout the negotiating process as the Big Boy charms the entrepreneur while his lawyers pound away on every significant issue.
10. Hire an Experienced Corporate Lawyer to Watch Your Back. This may sound a bit self-serving, but every entrepreneur doing a deal needs an experienced corporate lawyer to watch his back. Indeed, I have worked on billion-dollar deals where, prior to signing, emotions run high (as discussed above), and a few of the significant risks are minimized or pushed-aside by investment bankers and/or business guys in order to get the deals done. A strong corporate lawyer will sober the entrepreneur and lay-out all of the significant legal risks — and then push hard to negotiate reasonable protections. If the deal sours and lawsuits are filed, well-drafted documents with appropriate protections become a kind of insurance policy to the entrepreneur. This is not the time for a “yes man.”