The Acquisition Finance Playbook is Broken – Here’s the Smarter Way to Structure Deals

The use of conventional structural parameters to evaluate the strength of a deal has not changed much in the acquisition finance world over the last 35 years. There is a bit of smug overconfidence that acquisition finance professionals have regarding their ability to micro-calibrate deal quality using leverage multiples.

Is there much of a difference in deal quality between a deal at 2.9 times and a deal at 3.25 times? It seems the industry ascribes too much credence to these superficial lines. This convention vastly oversimplifies an approach to judging deal quality for the sake of deal screening efficiency. This approach is an example of the over-financialized group think that has taken hold in the acquisition finance arena. Acquisition finance is as much an art as it is a science. To be good at it, a professional needs to appreciate the inner working, strength and greatness of the business independent of any financial ratios.

Without the ability to see the underlying greatness of the business – that which makes it special – one cannot arrive at the proper debt multiple for the deal. It makes little sense that acquisition finance lenders use hard debt multiple caps instead of flexing them based on the quality of the company. How can a 3-times multiple be appropriate for two very different businesses, one highly specialized and one far less specialized. Surely for a great business valued at 10 times EBITDA, a 4- times multiple should be doable for an enterprising lender.

Similarly, for a business valued at 4 times EBITDA, a smart acquisition finance lender should lend no more than 2 times or even pass. Acquisition finance lenders would be better off having a stronger appreciation of the quality of the business, before assigning half-baked, one size fits all leverage multiples to the deal. The overuse of this thinking results in the commoditization of asset quality and misallocation of capital in the market.