Confessions of a Corporate Dealmaker

Colgate Buys In

I don't feel sorry for Mainers Tom and Kate Chappell, after all they now have a hundred million unhappiness soothers.  In fact I don't think they sold out.  I think Colgate bought in.  I've witnessed many times in my career large corporate buyers drawn to the light of a small craft product or technology thinking it will change their old, tired ways.  It never does.  Within a year Colgate will be pumping its toothpaste into TOM packages, within two sales will have plummeted and by year three the brand will be gone.  Colgate will be left with a bad taste in its mouth and a negative ROI.

Does the CIA Know About This?

Time for another edition of the ever-popular Deal Lab.  Today's deal has been bugging me since last week, so I thought I just better get it out of my system.  Similar to my post on Google's last acquisition, I thought for sure someone in the mainstream financial media or blogosphere would write about the structural issues with WebSideStory's (NASDAQ: WSSI) acquisition of Visual Sciences (or ViSci as the kids call it) for $57.3 million in cash, debt and stock.  But alas no one did.  As usual in the Deal Lab, I will only write about the structure of the transaction and not it's merits, or lack there of.

(Note to WSSI shareholders: the consideration was under-stated by at least $7.3 million, as the value of an in-the-money warrant to purchase over one million shares and newly issued stock options weren't included.)

The transaction was closed and announced after-market last Wednesday, the same day WSSI disclosed its financial results for 2005.  In fact, the two news items shared the same press release.  Therein lies the first problem for the ViSci.  WSSI missed its Q4 guidance and put out lower numbers than the street expected for 2006, thus the stock has been off almost 25% since.  Had the deal been all cash, no problem, but remember this thing is part stock.  If ViSci didn't build any price protection provisions into its merger agreement, then they just lightened the deal by $6.5 million or 11% due to extremely bad timing.  In addition, WSSI was kind enough to allocate a pool of options to ViSci's employees - oops, they're under water now, but welcome to the company anyway!

This mistake could have easily been avoided.  If you're taking public stock as consideration, pick your close date instead of just letting the acquirer choose it.  Check the buyer's earnings calendar, and ask hard questions about upcoming or planned announcements.  If you are getting public stock, hedge it immediately after the deal.  In many cases shorting the acquirer's stock or purchasing put options is a lot easier than trying to get price protection agreements.

The second structural problem I have is the unsecured $20 million note at 4% that ViSci's shareholders took back.  Since WSSI has no other debt, there was no reason for the note to be unsecured.  Especially since 27% of the total consideration was equity that's either restricted, in escrow or in a convertible form that's now out of the money.  ViSci's shareholders are now the largest creditor to a company with $20.8 million in tangible assets and $38.2 million in liabilities.  And why take 4%?  The leveraged loan market is at LIBOR + 300-400 bps, or 8%-9%, for a company like WSSI.  And even 2-year U.S. T-Notes are yielding 4.375%.

Who was the VC on this deal anyway (hint: your Federal tax dollars at work)?

Cool Geek Deal

OK stop with the emails on my Google post from last week.  I wholeheartedly agree and predict that Google will make an acquisition in 2006, for $3,141,592,653.58 in consideration with an earn-out that lasts 137 months.  Nerds around the world will rejoice.

Google Did What?

I've been sitting on this all week thinking that someone is going to write about the structure of the latest Google acquisition.  So far the deal has generated 178 articles by mainstream press, 578 blog posts and 1.18 million search results.  Now I haven't read them all, but I have yet to see anyone mention:

1. Total cash consideration $1.238 billion?  What's with the 1.238?  Why not just 1.2 or even 1.25 but 1.238?  And how about $102 million in up-front cash?  What kind of negotiations end at 102?  If they were using stock as consideration it would make sense, but it was an all cash deal.
2. 92% of the total consideration, over a billion dollars, in the form of an earn-out.  I never do earn-outs, and I have yet to see one work for the seller.  But therein lies the problem, they almost always result in litigation.  I've never seen an earn-out this big in terms of percentage.  This isn't a billion dollar lottery ticket for the shareholders of dMarc, it's a billion dollar lawsuit hanging over Google's head every time they want to change strategy or direction.
3. But wait you say, isn't Google being really smart by not over-paying and linking future consideration to actual success?  Well not if you read the last line of the press release which says, Substantially all of the payments [upfront and contingent] will be accounted for as part of the purchase price for the transaction.  This wont have a big impact on Google's financial statements now, but if the acquisition doesn't work it could mean a billion dollar asset impairment in the future.  Granted they wont loose a billion in cash, but a big write-off could negatively impact the stock price.  This is another good reason not to do earn-outs, they're too hard to account for under GAAP.

I wish them the best of luck, and I hope it works out for both sides.

This is the first in a series called Deal Lab where we will break-down interesting structures and characteristics of recently announced acquisitions.