M&A Lessons from Private Equity Trenches

Reading people is one of the most important parts of an M&A transaction. Here are 5 red flags.

I worked with some of the top private equity practitioners as a BigLaw lawyer. They were sharp, strategic, and often ruthless. Watching them work was beautiful. The great ones develop a keen sense for reading people. They quickly bring serious people closer and identify red flags to identify and distance themselves from unserious people. Here are five red flags I have found to steer clear of people who will derail your transaction:

First, it is critical to identify these people early on. They engage in risky and counterproductive behavior and their proximity to you will cause collateral damage. While each one in itself is not a deal-breaker, it should set off alarm bells:

1. Dishonesty. Blatant dishonesty will usually not present itself for a while. However, it will show itself in small ways almost off the bat. If a story seems like a stretch, assertions are made that are not founded in reality, or numbers are exaggerated. This is the number one factor correlated with disastrous results. Go back and read my Private Equity Story Time: Fraud and A Lynx Farm. In that deal, there were signs of dishonesty, the Buyer ignored the red flags, and ended up buying a nightmare deal.

2. Dunning-Kruger Zone. There is a famous study showing that those who know almost nothing about a topic overestimated their intelligence and think they know everything, while those truly knowledgeable know what they do not know. I see this a lot and it is correlated with trouble. Serious people may be knowledgeable in some areas, but have the modesty to know what they do not know. People who think they know everything will blunder into bad deals and make bad decisions all the while thinking they are the smartest person in the room. On a prior deal, a Seller fired his M&A Advisor because he knew more than him. It cost him millions of dollars and I am not sure he even knows how much he lost.

3. Habitual Line Crossers. These are people who do not respect lines or boundaries in business or otherwise. Eventually, they will step on a land mine and you do not want to be near them when they do.

4. Ultra-Self-Focused. We live in an individualistic society and in some sense, I think it is good for people to focus on their own interests. Skyscrapers are built, roads are paved, and people rise out of poverty due to capitalist individualism. It has brought the most good for the most people of any other system.

However, in partnerships and business relationships, people have to see and care for other's needs as well as their own. If a person consistently puts themself first, it is a red flag. I represented a sponsor group (three partners) and one day one of them called me with a nefarious scheme to take equity from the others after closing.

5. Every Last Dollar Guy. There are people who believe in zero-sum business. They will try to grab every last dollar, then reach into your pocket to grab yours. These people are tiresome and their incessant focus on the pennies will deprive them of dollars.

There may be other red flags, but after closing hundreds of M&A deals (over $40 billion) and interacting with tons of people, these are the red flags that I look out for and try to protect against.