Mergers & Acquisitions
Mergers & Acquisitions
Resources: Glossary
Don’t be confused or intimidated by any terms or abbreviations in the M&A world. You’ll find answers here.
Definition:
A fictitious name used by an entity that does not wish to do business publicly using its legal entity or corporate name.
Example
Acme Inc. (the corporation) may conduct business as Acme Hamburgers (assumed name).
See Also
Doing business as (DBA).
Tips
Assumed names are filed at the state, city, or local level. Jurisdictions require that entities identify the responsible party for an assumed name so the public knows who can be held responsible for acts of the business using the assumed name.
Definition:
The transfer of rights from one person or entity (the assignor) to another (the assignee).
Example
Under a lease assignment, the lease is assigned from the seller (assignor) to the purchaser (assignee). The seller often remains liable when assigning a lease for the premises to the buyer. An assumption, on the other hand, releases the assignor from liability.
Tips
Many contracts are signed when selling a business, but some contracts contain a “no assignment” or “anti-assignment” clause, which prohibits the assignment of a contract. Many transactions are structured as a stock sale to facilitate the assignment of critical contracts to get around a “no assignment” provision. However, some contracts also include a “change of control” provision, prohibiting an assignment even if the sale is structured as a stock sale. With the exception of personal service contracts, most contracts are assignable or transferable unless the contract specifically prohibits assignment. Note that the assignor often remains liable during the remainder of the term. Most landlords require the seller to stay on the lease as a guarantor when a lease is transferred from seller to buyer.
Definition:
One of the two ways to structure an acquisition for legal purposes in which the buyer purchases the individual assets of the seller, as opposed to purchasing the stock held by the seller.
See Also
Stock deal.
Tips
The two main types of acquisitions are a purchase of the seller’s entity or stock, or a purchase of the seller’s assets, known as an asset deal or sale. Asset deals are more common for smaller businesses. Asset deals are less risky for buyers because a buyer is not risking inheriting potential, unknown liabilities.
Related Resources
Definition:
The set of initial documents that are filed with the Secretary of State to form a limited liability company (LLC).
See Also
Articles of Incorporation.
Tips
This set of documents is called the “Articles of Incorporation” for corporations.
Definition:
The set of initial formation documents that are filed with the Secretary of State to form a corporation.
See Also
Articles of Organization.
Tips
Articles of Incorporation are public record in all states and contain a limited amount of information about the corporation. The bylaws, on the other hand, are only used internally and are not public record. This set of documents is called “Articles of Organization” for limited liability companies (LLCs).
Definition:
To convert a figure from a partial year, such as January to March, into a figure for an annual basis (e.g., January to December).
Example
If revenue for January to June (six months) is $5 million, the annualized (12 months) revenue is $10 million.
Definition:
An individual who invests their personal capital in early-stage, potentially high-growth companies.
See Also
Venture capital.
Tips
Angels usually make an investment in the form of a loan that can be converted into stock ownership or other forms of equity. Many angels form groups of angels known as “angel groups” or “angel networks.” Angel investments are typically less than $1 million, while venture capital investments are typically above $1 million. The primary difference between angel investors and venture capitalists is that angel investors invest their own capital while venture capitalists invest money that they raise from third parties (i.e., limited partners), such as pension funds, and insurance companies.
Definition:
The allocation of the purchase price of a business among various classes of assets, such as inventory, goodwill, land, buildings, etc., for tax purposes.
See Also
Adjusted basis, goodwill.
Tips
The allocation impacts both the seller’s and the buyer’s tax consequences and is often heavily negotiated between the parties. IRS Form 8594 (Asset Acquisition Statement) must be filed with the IRS at the end of the tax year for the purchase or sale of a business. There are technically seven categories of assets in IRS Form 8594.
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Definition:
Adjustments to the value of working capital, made after the closing, that affect the purchase price.
Example
If the estimated working capital is $500,000 upon acceptance of a letter of intent (LOI), but the working capital amount is calculated at $300,000 after the closing, then the purchase price is reduced, or adjusted, by $200,000.
Tips
- Working capital is calculated as the value of accounts receivable, inventory, and pre-paid expenses, less the value of accounts payable, short-term debt, and accrued expenses.
- An adjustment to purchase price is common in middle-market transactions, where working capital is often included. That amount is estimated at the closing, and then an adjustment is made between 30 and 90 days after the closing when accurate financial reports are available so that the figure can be accurately counted.
Definition:
An accounting or tax term for the original cost of an asset recorded on the books less any adjustments to the value of the asset, such as depreciation.
Example
If the original cost of a piece of equipment is $100,000 and the accumulated depreciation is $30,000, the adjusted basis is $70,000.
See Also
Allocation of purchase price, book value, depreciation.
Tips
The value of an asset, or its adjusted basis, has little to do with the actual value of a business. The primary relevance of the adjusted basis of an asset comes when calculating the taxes due when selling a business. The tax due on the sale of a business is calculated as the gain on any difference between the adjusted basis and the amount allocated to the asset.
Definition:
The purchase, or acquisition, of a smaller company that is added on to a larger platform company by a private equity firm or strategic buyer, to compliment the acquirer’s business model.
See Also
Tuck-in acquisition , private equity group.
Tips
Private equity groups often purchase a larger company (i.e., a platform company) in an industry and then make a series of smaller acquisitions that are added onto the platform company, which are known as add-on acquisitions. Strategic buyers also pursue a similar strategy when they are attempting to consolidate an industry. An add-on acquisition usually only adds a few specific skills or capabilities to the platform company, such as a new product or geographic market. Add-on acquisitions have accounted for 60% to 70%+ of all private equity transactions over the last few years.
Related Resources
M&A Guide | The 4 Types of Buyers of Businesses
Definition:
An adjustment made to the income or expenses in a financial statement when calculating the true earnings capacity of a business (i.e., SDE or EBITDA).
See Also
Normalize, SDE, EBITDA.
Tips
Most business owners manage their businesses by minimizing taxable income by deducting expenses not directly related to the business’s operations. It’s necessary to adjust the financial statements by “adding back” these expenses in order to show the actual cash flow available to potential investors. Adjusting the financials allows someone to compare a business to other businesses using seller’s discretionary earnings (SDE) or EBITDA.
Related Articles
Adjusting Financial Statements: A Complete Guide
EBITDA | Definition, Formula & Example – A Complete Guide
Seller’s Discretionary Earnings (SDE) | Definition & Examples
Definition:
One of the two primary accounting methods, recognizes income and expenses based on when they are “accrued” or when they actually occur.
Example
If a job was awarded today but the invoice was not paid for 30 days, under the accrual-based accounting system, a portion of the revenue from that job would be recognized now; however, with cash-based accounting, revenue would not be recognized until payment for the job was actually received.
See Also
Accounting method, cash basis.
Tips
The accounting method used (cash or accrual) can dramatically affect the stated earnings of a company and, therefore, its valuation. Cash-basis accounting recognizes income and expenses based on when the cash is received or paid, while accrual accounting recognizes income and expenses based on when they are “accrued,” or when they actually occur.
Definition:
The period of time in which financial activity is recorded and financials are prepared.
Tips
Normally refers to a 12-month period. The two primary accounting periods are fiscal and calendar year. Most businesses use the calendar year; however, businesses in certain industries, such as retail, often use a fiscal year rather than the calendar year of Jan 1 – Dec 31. When analyzing or comparing two or more businesses, it is critical to analyze them using the same accounting period.
Definition:
The method that is used to record a business’s revenue and expenses for tax purposes.
See Also
Cash basis , accrual basis.
Tips
Most businesses use a hybrid of the two methods: cash and accrual. Cash accounting reports income and expenses in the year they are received and paid; accrual accounting reports income and expenses in the year they are earned and incurred. The IRS requires taxpayers and those selling a business to choose an accounting method that accurately reflects their income and to be consistent in their choice of accounting method from year to year. In some accounting software, such as Quickbooks, you can change the format from cash to accrual with the click of a button; however, IRS approval is required to change methods for tax purposes. Note that some businesses prepare their financial statements on an accrual basis and their tax returns on a cash basis. The difference between the two is also outlined in what is called a “reconciliation,” which can be provided by our accountant .
Related Resources
Definition:
A business owner who is not personally involved in the management or operations of a business.
Tips
The application of this term varies; some refer to business owners as absentee owners if they spend a minimal amount of time in the business, while others reserve this definition for when a business owner has no involvement at all. Absentee owners are more vulnerable to theft by employees unless proper internal controls are implemented in the business.
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