Reading: Introduction

The first step to bridge the valuation gap usually is to try and find out why the valuations differ. The key to this is to exchange more information and to communicate better. As we have argued before, each valuation is the result of a broad set of assumptions. Instead of debating the resulting valuation, it is often more helpful to go over the key assumptions made by both parties to make sure that there are no misunderstandings.

Due Diligence

A core element of this process is a careful due diligence by the buyer and the seller. The buyer should establish that the firm's assets (including intangible assets such as patents), liabilities, revenues, and costs are indeed as claimed by the seller and that there are no hidden liabilities looming over the firm. This is especially important when dealing with privately held firms, as these firms face comparatively laxer accounting standards and audit requirements. Otherwise, unpaid pension contributions and sales taxes, erroneously declared earnings, etc. could cause unpleasant surprises for the buyer also years after the transaction. A careful due diligence also allows the buyer to better understand the business model and the organisational health of the company. For a possible list of issues to check in a normal due diligence, check here.

The seller, in contrast, should establish that the counter party is actually authorized to negotiate on the buyer's behalf and that agreements reached with the counter party are actually binding for the buyer. Also, the seller may want to ask for proof of financing by a reputable financial institution.

Mediators

In many instances, it might also be useful to hire a neutral third party, a so-called mediator to help reach an agreement:

• Mediators facilitate communication. Especially in entrepreneurial settings, transactions can be highly emotional for one or both of the parties and emotions sometimes get in the way of effective negotiation.
• Mediators also help the parties understand each other's point of view. This is especially important when the parties have very different backgrounds and do not speak the same language
• Finally, mediators can also provide valuable expertise and experiences.

Gather Third-Party Opinions

In some situations, it might also make sense to gather third-party opinions on the whole deal or specific elements of the planned transaction. This could be an independent valuation report or a legal expertise on a controversial subject. Some deals also include so-called "Go-Shop" provisions. These provisions give the target firm the right to solicit better offers during a predefined period of time after the signing of the deal. 

A famous case of a deal that included such a go-shop provision was Michael Dell's offer in 2013 to take his company Dell private. The provision granted Dell a period of 45 days to "actively solicit, receive, evaluate and potentially enter into negotiations with parties that offer alternative proposals" (from Dell's webpage).

It is important to note that all these measures (exchange of information, due diligence, hiring of mediators, go-shop provisions, etc.) should not be considered as elements of distrust. Quite to the contrary, they would in fact often seem to help to build trust and credibility, as they imply that the parties are committed to working on a deal that meets a certain level of objectivity. For example, a potential buyer who grants the target firm a go-shop provision sends the signal that the offer is fair and that it will withstand the interest of other potential buyers.