Doing Deals – 3 Tips for Entrepreneurs (Part 2)

by Scott Edward Walker on July 20th, 2011

Introduction

I’ve been doing deals as a corporate lawyer for 17+ years, and there are certain fundamental mistakes that I’ve seen entrepreneurs make over and over again.  Accordingly, I thought it would be helpful to share three basic tips in connection with doing deals.  This is part two of a three-part series; it was originally posted on Forbes.  In part one, I discussed the importance of (i) being careful with letters of intent, (ii) creating a competitive environment and (iii) using your lawyer as a “bad cop.”

Tips

Tip #1 – Check Your Emotions and Remain Disciplined. As I saw first-hand in New York City representing big, successful private equity firms, the best dealmakers have an extraordinary ability to take their emotions out of transactions and remain extremely disciplined.  Indeed, they will generally walk from a deal if they get out of their comfort zone (e.g., with respect to price, risks, etc.) — regardless of how much time and money they have expended.

Most entrepreneurs, on the other hand, become emotionally wedded to a particular deal (similar to a first-time homebuyer) and are unable to maintain their objectivity – particularly as they move further along in the process.  They understandably get excited as soon as some money is waved at them and often allow themselves to get drawn into the dealmaker’s web.  It is critical that entrepreneurs understand this dynamic.  Entrepreneurs are often negotiating with guys (or gals) on the other side of the table who are far more deal savvy and experienced than they – e.g., venture capitalists, private equity guys, corporate development guys – and are masters at playing on their emotions.

This is why it is so important for an entrepreneur to sit down with his transaction team and establish a game plan (i.e., a set of deal-breakers/parameters with respect to the key issues) before the negotiating process begins; he then must have the discipline to stick to the plan and be willing to walk, if necessary.  Once these deal-breakers/parameters are established, an entrepreneur will then find it easier to take his heart out of the equation and to think with his head.

Tip #2: Don’t Blink First.  Closely related to the first tip is tip #2: don’t blink first.  Indeed, 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; for example, in a venture capital financing, perhaps the issue is the liquidation preference or the size of the option pool; or, in an acquisition, perhaps the issue is the cap on seller’s liability or the amount of the escrow.  Whatever the issue, the advice is simple (albeit difficult to execute): in order to maintain negotiating leverage and credibility, the entrepreneur should not capitulate first.

If an 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 other significant issues.  Like poker, if your bluff gets called, it will be difficult to bluff again.

That’s why it’s often helpful to run the negotiations through an experienced corporate lawyer who does this stuff for a living.

Tip #3 – Leave Some Chips on the Table.  Speaking of poker, the best dealmakers always leave a few chips on the table.  What do I mean by that?  I mean they don’t fight tooth and nail to win every last penny (every issue) – knowing that such a “scorched-earth” approach will create ill-will and may blow-up the negotiations.  You generally have to compromise and give a little so that the other party feels like he or she is getting a good deal (subject, of course, to the set of deal-breakers you have established prior to the negotiations).

This is particularly important where there will be an ongoing relationship post-closing, such as in a venture capital financing or private equity acquisition.  You will need to work with the guys on the other side of the table post-closing, perhaps for a number of years.  Accordingly, you want to have a hugfest at the closing, not a boxing match (as I sadly saw at one closing I had in New York).

Many lawyers do not understand this basic principle and are notorious for not being able to prioritize issues.  Accordingly, you need to make sure your lawyers are on the same page and understand the importance of throwing the other side a few bones.

Conclusion

I hope the foregoing was helpful.  In part 3 of this series, I will discuss the importance of (i) controlling the drafting, (ii) investigating the guys/gals on the other side of the table and (iii) retaining a strong corporate lawyer to watch your back.

 

Tags: cap, corporate lawyer, doing deals, entrepreneurs, liablility, liquidation preference, option pool, private equity