I’ve been doing deals as a corporate attorney for over 15 years, including nearly eight years in the trenches at two major law firms in New York City; and during that period, I have seen certain mistakes made by entrepreneurs (and inexperienced deal guys) over and over again. The purpose of this post (which is part I of a series) is to discuss the following five basic mistakes made by entrepreneurs in connection with corporate transactions: (1) the failure to diligence the guys on the other side of the table; (2) the failure to build a strong transaction team; (3) the failure to run the negotiations through the lawyers; (4) the failure to check their emotions and to remain disciplined; and (5) blinking first. The video version of this post is set forth immediately below.
Mistake #1 – The Failure to Diligence the Guys on the Other Side of the Table
Whether the entrepreneur is doing a venture capital financing, a partnering agreement with another company or is selling his company to a private equity firm – he must investigate the guys on the other side of the table. This means determining the reputation of both the company/firm (if it’s not a marquee name) and the particular individuals with whom he is dealing. Who are these guys? Are they good guys or are they jerks? Can they be trusted? When they say they are going to do something, do they do it? Do they add value? Remember, in certain deals (such as a venture capital transaction), the entrepreneur will be, in effect, married to these guys for a number of years. Accordingly, at a minimum, the entrepreneur should get references and speak with other entrepreneurs or CEO’s who have done deals with the guys on the other side of the table in order to make an informed judgment as to whether they are guys with whom the entrepreneur should be doing business.
Mistake #2 – The Failure to Build a Strong Transaction Team
Every successful entrepreneur knows the importance of building a strong team, yet they often ignore this rule when putting together a transaction team. Now is not the time for the entrepreneur to being using his buddy the divorce lawyer or the attorney who wrote his will to negotiate his financing or acquisition; nor is it the time to use his bookkeeper to handle tax and accounting issues; nor is it the time for the entrepreneur to play lawyer and start pulling forms off of the Web. As I learned first-hand in New York, the quarterback of the transaction team should be a strong, experienced corporate lawyer – he’s the guy who is going to drive the deal, watch the entrepreneur’s back and help the entrepreneur build-out his team.
Mistake #3 – The Failure to Run the Negotiations Through the Lawyers
The entrepreneur should do what he does best — i.e., build companies — and leave the deal negotiating to a strong corporate attorney (or an investment banker in the acquisition context). Entrepreneurs are generally no match for sophisticated venture capitalists or private equity guys or corporate development guys who do deals for a living. Accordingly, a smart entrepreneur will stay above the fray and let his corporate attorney run the deal – and business issues can easily be handled at an all-hands meeting (whether in-person or via conference call). Experienced deal guys on the other side of the table may try to do an end-run around the entrepreneur’s lawyers, but the entrepreneur must remain disciplined and simply advise the guys that all negotiations are being run through his lawyers.
Mistake #4 – The Failure to Check Their Emotions and to Remain Disciplined
Entrepreneurs (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. As I saw first-hand in New York City representing big, successful private equity firms, the best deal guys are masters at taking their emotions out of transactions and being extremely disciplined. Indeed, they 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. It is critical that the entrepreneur understand this dynamic — and that’s why it is so important to develop a game plan early on — because once the emotions start playing havoc, you have to stay disciplined and stick to your plan (your dealbreakers, etc.) and be willing to walk, if necessary.
Mistake #5 – Blinking 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 #4 above: run the negotiations through an experienced corporate lawyer (or an investment banker) who does this stuff for a living.