In previous articles I wrote extensively about the merits of competitive processes when selling companies or raising equity. However, as with Latin verbs, there are exceptions that strengthen every rule. So in what situations would a non-competitive process be more likely than a competitive process to result in a successful sale?

The first two situations that might arise are both investor-driven. First, an investor may put such an attractive offer on the table that as the owner you may be tempted to forego other negotiations. Second, an investor may insist that there not be a competitive process, for whatever reason (eg. they are not prepared to engage advisors and undertake the effort of Due Diligence unless they have exclusivity).

If either of these situations arise, you should ask yourself the following questions:

• How sure are you that the offer you have received is truly exceptional (especially if you have not yet received competing offers or a valuation)?

• What is the opportunity cost of your time? How much of a setback will it be if you spend several months negotiating with one party and yet the negotiations fall through for whatever reason?

• What is the opportunity cost in terms of passing up other potential investors? Have other parties been identified? If so, have they intimated a valuation range? Will they still be around and interested in negotiating after several months have passed?

There are, as I see it, three other scenarios which might justify considering a non-competitive process:
The third is where maximization of transaction proceeds is not your objective and you have a particular loyalty to one investor, such as, for example, you want to reward your senior management for a long history of dedicated, loyal service, by selling to them via a Management Buy Out. Under this scenario though, (as with any scenario where you are providing exclusivity), it is important that you be clear with yourself in realizing that you are unlikely to maximize transaction revenues.

Fourth, you may be very concerned about sharing confidential information with a large number of investors. In my opinion, however, there are strategies for dealing with confidentiality in the context of a competitive process in the vast majority of situations (for more details see our article on confidentiality at www.europhoenix.com/library).

Finally, you may have another shareholder with a right of first refusal. This can be problematic, particularly if the wording of the rights make it difficult to sell your interest to third parties, and you may have little choice but to at least attempt a negotiation with the party holding the rights of first refusal. In such cases, the holders of first rights of refusal usually believe that they hold the upper hand in the negotiation and it is a challenge in such situations to strengthen your own negotiating position.

Should you grant any party exclusivity, give careful consideration to the duration of the exclusivity.

You may want to pin them down on a written valuation (eg. in the form of a Term Sheet), and even stipulate that in the event that they attempt to reduce the valuation, the exclusivity may automatically expire.

Having put forward five situations where a non-competitive process might be appropriate, I would still advise business owners to try every means possible to sell your business via a competitive process, particularly if maximization of transaction revenues is among your objectives. If you do close a non-competitive sale process, how will you ever know that there was not another investor out there who would have been prepared to pay more or provide better terms?

In conclusion then, it is best to view a non-competitive process as a fallback situation when a competitive process is not possible.

My previous column (Part I of this series) dealt with risks in the valuation of companies, stressing in particular that the higher the risk associated with a company, the lower the value of that company. This is not static: investors' perceptions of risks constantly evolve as they assess a company and the valuation process is consequently also evolving in tandem. In the context of privately-owned companies, few things are more crucial than the due diligence process, when an investor reviews - in detail - all of a company's title documents, financial records, contracts, etc. Because of this, it is in the interests of all owners to identify and manage risks well in advance of engaging in serious discussions with investors.

So what types of risks are we talking about? There is always the risk of a surprise, but here are just some of the types of risks about which investors are usually cautious:

• Client risks: Is a company's client list well diversified, or does one client represent a disproportionate volume of revenues or profitability? What are the chances of losing the most profitable client(s)?

• Technological or industry risks: What are the chances of a company being left behind by technological change? What other industry-related risks are there (eg. changes in the business model in the industry?)

• Competitive risks: What is the probability of competition intensifying, whether through the entry of significant new players, or renewed efforts from existing players?

• Financial risks: How high is the leverage of the company and what are the chances of default? If a company is listed on a stock exchange, what are the chances of a hostile takeover? What are the possible effects of currency exchange rate fluctuations on the company's profitability? In the event of a change of control, what rights do the company's banks or financiers have? What is the risk that there may be a mis-statement in the financial statements or tax returns?

• Human resources risks: What are the chances of losing key staff? How difficult would they be to replace? Is there an ample supply of blue collar labor? What are the chances of staff costs escalating rapidly? Does the company have one or more unions covering its labor pool? What risks might this entail? Does the company have unfunded pension obligations? Do staff members have stock options that might have an acceleration clause regarding certain events such as a change of control? Will there be any extraordinary severance payments in the event of a change of control? Has the company regularly paid its social security and payroll taxes? If management receives a big payout under a liquidity event, will their motivation be diminished?

• Supply risks: Does the company have an ample supply of raw materials and other inputs it needs to carry on business? What are the chances of disruption?

• Regulatory risks: Are any relevant laws or regulations changing in a way that could have an adverse effect? Are there any ambiguities in laws or regulations that could be construed by government authorities or third parties against the company?

• Environmental risks: Has there been any water, air, or land pollution associated with the product or the property used or owned by the company? An increasing number of legal jurisdictions have strict liability provisions which don't ask questions about how the pollution was caused: if the pollution is on your land, you may be liable to remove it, even if you did not cause it.

• Product liability risks: What are the chances of products being recalled, repaired or replaced? Similarly, if it is an advisory business, could there have been any errors or omissions that come back to haunt the company?

• Intellectual property risks: Does your company have strong and valid rights to its intellectual property? Does it own patents or trademarks, for example? When do these expire?

In Part III of this series (which will appear shortly), I will deal with the issue of how to deal with some of these risks, once they are identified.