The perfect storm is brewing and capital is becoming dangerously scarce for the UAE SME market. Credit is drying up, businesses are ill-equipped for capital raising, and entrepreneurial expectations for an exit are unrealistic. This is no longer the world of extraordinary company valuations.
That said, the UAE is still a fantastic natural setting for start-up companies. There are an estimated 300,000 SMEs that contribute to more than 60 per cent to the UAE’s GDP, providing more than 42 per cent of the jobs in the country. This is a result of great logistics, good access to growing markets, and reasonably priced intellectual capital. In addition, there are a number of initiatives for the local population that foster entrepreneurship, such as the UAE’s Khalifa Fund for Enterprise Development.
In spite of these advantages, many of the historic SME success stories are starting to falter. The root causes can be attributed to inadequate funding from banks and private sources, stretched cash-flow management, complacency, lack of planning, and strategic partnerships that never cultivated. In addition, the recent geo-political issues in the region are also starting to affect the growth in many of the primary industries including oil and gas, consumer retail and hospitality. The culmination of these events has created a number of opportunities for buyers in the market who either want to grow through acquisition or gain a strong foothold in the UAE. Conversely, for sellers this has created a difficult scenario where options for an exit become more limited and capital raising becomes close to impossible.
There do seem to be a number of opportunities for sellers. However, for the expat population finding these types of opportunities is not readily accessible. Sometimes these opportunities become further clouded when the business owners become short-sighted and complacent in their growth strategies. This is where intellectual resources and strategic thinking becomes imperative to foster the next stage in the growth cycle. All too often owners sell their companies for far less than what they’d hoped for because they hadn’t prepared for their exit.
There are currently two trends in the market: successful firms are seeking an exit because of the changing economic climate, and SMEs are seeking capital for both growth and survival.
There is a suggested framework for sellers to prepare themselves better in this environment and become more resilient to external forces that are driving down company valuations. In the case of the first trend, exiting is a difficult process and time consuming for the owner, and there are usually two types of exits. In the first instance, a successful firm has built a fantastic reputation but has no succession or knowledge to take the company to the next growth stage, and the owners are seeking an exit at what they perceive is the company’s highest valuation point. The second exit is usually due to the conditions of the firm’s environment radically changing. For those reasons, the effort to continue to grow becomes more difficult and the cost-to-exit opportunity becomes attractive. As such, business owners are advised to consider the following suggestions to ensure the highest valuation and to ease an exit by the owner. Often companies that have been in existence for a period of less than three years are at a significant disadvantage.
Documentation is critical and can be exhaustive, so preparation is essential. The following are some of the key documents that should be available: at least three years of audited financials; a non-disclosure confidentiality agreement; accounts payable and accounts receivables ageing reports; inventory list with value detail; list of fixtures, furnishings and equipment with value detail; supplier and distributor contracts; client list and major client contracts; staffing list with hire dates and salaries, as well as employment agreements; business formation documents which include business licences, certifications and registrations; building or office lease; equipment leases and maintenance agreements; professional certificates; insurance policies; copies proving ownership of patents, trademarks and other intellectual property, outstanding loan agreements and description of liens; product/service descriptions and price lists; employment policy manual; and business procedures manual.
Be thoroughly transparent by including the vision of the company and work with an advisor that understands the sector and has access to buy-side clients. The mandate should always be exclusive to prevent the ‘shopping of the deal’ phenomena which reduces the credibility of the potential transaction. The advisor should also provide a valuation range based on recent transactions in the sector. Disclosure is very important at this stage. Any lumpiness in the financial statements can scare buyers or lead to a low valuation.
A good lawyer is also a necessary party, especially during the negotiation process. In many circumstances lawyers and accountants try to provide a ‘one-stop solution.’ We recommend staying away from these types of organisations. Ask yourself if you would allow a GP doctor to operate on you. Each part of the transaction is specialised therefore needs the adequate attention.
Any transaction has number of key elements. Understanding the process is essential in the exit process can be broken down into six stages.
The first stage is to understand the ‘exit’ options and break down of potential buyers. Next, the business owner has to engage an advisor who has access to the buy-side. A good advisor will work with the business owner to understand the selling requirements, the range of valuation expectations, and strategic goals. The mandate should be preferably exclusive to avoid the ‘shopping of the deal phenomena’.
The third stage is for preparation. Sloppy preparation affects the buyer’s comfort level. At this stage documentation needs to be prepared and accessible in a professional format.
From there, the agent and business owner can shortlist buyers and engagement. Business owners are advised to enter the negotiated process with only one highly-targeted buyer. This strategy is high-risk but can expedient the transaction. At this point non-disclosure agreements (NDA) should be signed with the agent, and a summary of the operations presented to the buyer. The principals should meet face-to-face at a neutral setting. The owner should also assess the seriousness of the buyer and a good advisor should be able to pre-qualify the potential acquirer. The selling price should also be determined at this stage.
Doing due diligence and creating the transaction structure is the next step. There are number of considerations that become apparent at the end of this process, such as earn-outs and employee preservation. At this point a lawyer is engaged and a letter of intent is established.
The final stage is closing the sale and starting the business transition. The purchase agreement is the definitive document outlining the terms of the sale. The transition period typically involves a period of cooperation during which the seller will assist the buyer in the transition.