Message from buyer to seller (Bill, co-founder & CEO)

Question

10:07AM

Greetings, Bill.

As per our last conversation, we'd like to offer our bid at $20M for your internet website business. While this is lower than your stated selling price that we received from our mutual colleague (though not more than 40% lower than your offering price), we believe it can be a fair price taking into account current market conditions and future growth risk.

At an 8x revenue multiple (implying annual revenue * 8 = valuation of $20M), this already reflects a premium to many "established" companies - and among profitable internet companies, this is a healthy multiple.

Let us know if this is in the ball park range for a deal to be done.Message from seller to buyer

1:58PM

Thanks very much for your bid.

$20M is much lower than what myself and my team were expecting.

We expect our business to grow quickly in the coming months and at a revenue multiple of 8x, the valuation bid is lower than the potential value which will surely rise much higher than $20M.

We are a team of entrepreneurs and believe in the success of our business. Perhaps we can negotiate in terms of stock and options in place of a 100% cash acquisition. We wish to be part of the identity of the business going forward, even after acquisition.4:52PM

Unfortunately, as the current team has not been able to increase unique users and pageviews over the past six months, we feel we have the appropriate talent to bring this business to the next level and wish to keep the transaction in cash only - which means existing management would have no part in the business going forward.

We realize this is tough on you guys. After some discussion among our executives, we are willing to raise our bid by 25% to $25M, under terms that we have the right to replace existing management.

satish_sahoo · Accepted Answer

Hi, I would like to weigh in here. Below is how I solved:

1. The proposed transaction structure offered by the buyer comprises what percentage of the deal in stock?  
- 0%. This was pretty straight forward, since the entirety of transaction proposed by the buyer was  100%  cash.

2. For each of the following statements, choose Definitely True if the statement is absolutely true. Choose Possibly True if the statement can be true but might not necessarily be true all the time.

The seller's original selling price is greater than the revised offer from the buyer in "Email 3" .-   Possible. 
-  “though not more than 40% lower than your offering price ”. This means, that the max we can think of Buyers stated price would be $33M. How? Assuming its exactly less than 40%. So,
 (Original stated amount)*\frac{60}{100} = 20  --> Solving this we get the upper limit of the asked amount as 33M. Therefore, it has to be less than 33M. 
How is this possible? Bcoz, The revised price was 25M, so there’s a possibility that this scenario can happen but not definitely.

Annual revenues for the selling business exceed $2M. –   
 Definitely True. 
- In email 1, we got the valuation formula,  implying annual revenue * 8 = valuation of $20M . Now, The annual revenue can be  \frac{20M}{8} = 2.5 , which is more then 2M.

The seller's business was worth less than $20M last year. -   
 Possibly true. 
- We don’t know, it can be and cannot be, we have no concreate data to validate this.

3. Consider each of the following statements. Does the information in the three articles support the inference as stated?

The buyer does not believe existing management in the target company has the expertise to grow the business into its next stage.  
-  Yes, can be inferred clearly from email 3.

The sellers' asking price for their business is at least $30M.  
-  No, cannot be inferred. We already know that the asking price cannot be more than 33M, it has to be less than that, but what’s the least amount that’s still not clear. It can be 29, 28, 28.5, etc.

It is possible for the buyer and seller to make a deal in which neither side needs to change its opening offer by more than 30%.  
-  Yes, can be inferred. So, a 30% decrease in sellers’ amount would drag down the price to ~ 23.1M & if there’s a 30% increase in buyers price it would move up the price to ~ 26M. So, there is a possibility of deal happening since, the numbers overlap.

4. The buyer refers to a "transaction in cash only" primarily to

There was a confusion in Opt C and D. AND here is how I eliminated C. 
 C-   introduce a new experienced team that would replace the incumbents during this next stage of growth for the company. 
“  wish to keep the transaction in cash only - which means existing management would have no part in the business going forward.  ” - The problem here is, cash only transaction was to remove the entirety of existing management and that’s what the buyer is primarily focusing on. And not to just replace the existing workforce. His main objective is to remove the management and deny them any role whatsoever.

D-   reward the sellers for the company they have created thus far while denying them a right to have an ownership stake or operational role after the company is acquired . -  Yes, this is exactly true, to deny them ownership or operational means- deny them any role whatsoever.

5. For each of the following statements, select Yes if true. Otherwise, select No.

Buyer feels the target company's initial selling price is too high.  
- Yes. Well of course, that’s why the negotiation started and the buyer gave all kinds of reason why the seller’s asked price is high.

Seller feels his company's "revenue multiple" is greater than 8x.  
- Yes. “ We expect our business to grow quickly in the coming months and at a revenue multiple of 8x, the valuation bid is lower than the potential value which will surely rise much higher than $20M. ”

A 100% cash acquisition of the target company would still enable the founding entrepreneurs to continue working for the company they created.  
- No, never. Remove management and deny any role whatsoever.

That’s my reasoning. Hope it helps.

KarishmaB · Answer

"Not more than 40% lower" means that the 20 million is 40% OR LESS lower than the offer price. So theoretically, 20 million could be 35% lower than offer price or 30% lower than offer price or even 20% lower than offer price. This means that the offer price could be anything above 20 million UP TO 33 million. 
And that should sort out your issue in both the questions. 
If the initial price/offer price of the seller is between 20 million and 33 million, it is POSSIBLE (though unlikely in a real world case) that the offer price is less than 25 million.

Apt0810 · Answer

1)A,0% since the buyer wants to do 100% cash based acquisition.
2)a)No,since nothing like that is given
b)Yes,since the seller is saying 20/8= 2.5 is amount which is greater than what seller is already expecting
c)No, nothing as such is mentioned

3)a)Yes,in the Email 3 it mentioned to replace the existing management
b)No,we cannot comment on the final value on what seller is asking
c)Yes,the possibility is there

4) It's straight and clear option D:
reward the sellers for the company they have created thus far while denying them a right to have an ownership stake or operational role after the company is acquired.

5)a)Yes, that's why it has quoted a lower value
b)Yes, that's why seller is asking for more amount
c)No,100% cash acquisition means there would be no rights on the company for the current owners

Posted from my mobile device

priyadabas01 · Answer

KarishmaB   GMATNinja  please explain Q2, part (i) and Q3 part (ii); I am confused in stem wording here, please also give general advise to deal with such stems, it's very open ended:
Q2. Part i) The seller's original selling price is greater than the revised offer from the buyer in "Email 3".
 I am assuming "original" here stands for initial price, it is given in Email 1: "though not more than 40% lower than your offering price" i.e. original price is atleast 33M and this is greater than 25M; please explain where am I wrong?

Q3 part (ii) The sellers' asking price for their business is at least $30M
 I am assuming asking price also here refers to the initial price, please explain where am I wrong?

KarishmaB · Answer

Question 3.

There is one point of significance in question 3.

Buyer Price = $20 million.
This they say is not more than 40% lower than the seller price. So say the seller is offering to sell at $S million. They are saying the 20 million is not more than 40% lower than $S million. 
So 20 million could be 40% lower than $S million
20 million could be 35% lower than $S million
20 million could be 30% lower than $S million
20 million could be 25% lower than $S million
etc.

But 20 million is NOT 45% lower than $S million.

Let's find our the possible values of S.

20 million = S - 40% of S
S = $33.33 million

20 million = S - 30% of S
S = $28.6 million

...

So S could take the value of $33.33 million at the most. Otherwise it must be less than $33.33 million. There is no way it is more than 33.33 million. If it is, then when we reduce it by 40%, we will get an amount greater than 20 million. Then the buyer price of 20 million will be more than 40% lower than $S million.

This means that seller price lies between 20 million and 33.33 million.

3. Consider each of the following statements. Does the information in the three articles support the inference as stated?

The buyer does not believe existing management in the target company has the expertise to grow the business into its next stage.

Given:   Unfortunately, as the current team has not been able to increase unique users and pageviews over the past six months, we feel we have the appropriate talent to bring this business to the next level and wish to keep the transaction in cash only - which means existing management would have no part in the business going forward.

Select     YES

The sellers' asking price for their business is at least $30M.

Not necessary. The seller's asking price could be 25 million also. Nothing stops it on the lower side of $30 million. It cannot exceed $33.3 million.

Select NO

It is possible for the buyer and seller to make a deal in which neither side needs to change its opening offer by more than 30%.

It is possible. Buyer offer is $20 million. Seller offer is at most $33.33 million. Even if we assume that there is max possible difference between the two prices, we can make a deal in which neither side needs to change its opening offer by more than 30%.

30% of $33.33 million is about 10 million. So if the seller price were to come down by 30%, it would become $23 million.  
 The buyer offer is $20 million. If buyer were to increase the offer by 30%, the buyer could offer unto $26 million.  
 There is enough margin between the two.

e.g.  
 The deal could be struck at $25 million. 
 The buyer raised his offer by only 25%. The seller reduced his offer by only about 25%. Both percentages are less than 30%

Select YES

KYC · Answer

Hi:

KarishmaB

Thanks for the explanation.
I do have one more thought regarding to Q3-3:   It is possible for the buyer and seller to make a deal in which neither side needs to change its opening offer by more than 30%.

I chose "NO" for this with the logic that the buyer wants "cash only (Buyer does not want the current team)" and the seller wants "cash + options" (The current team wants to stay). They have a contradiction other than price and that is why I do not think they can make a deal.

A deal can be made as long as the either side makes an offer. This is an one way street in this scenario (Ex: I can bargain, make a deal, for a cheaper price at the farmer's market but the farmer can also reject me.)

However, the question is "possible for the buyer and seller to make A deal", meaning both sides need to come up with a deal together that they will be willing to take (Agreed on price, options, stocks, management...etc. There maybe tweaks in details but both are happy with the deal in a general standpoint). (Can I safely infer that both sides need to be happy to take this deal?)

With this logic, I do not see it is possible for them to make a deal.

Can you help me with this? Thanks in advance:)

KarishmaB · Answer

The seller does not insist on staying. 
 He say, "Perhaps we can negotiate in terms of stock and options in place of a 100% cash acquisition." (TAB 2) 
He says this to seek a compromise when he sees that the offered price is much lower than the ask price. He does not say that there is no deal without it. We only have to look at whether there is a possibility within 30% of the two opening cash offers.

punwani7 · Answer

A very good practice question!

siddhantvarma · Answer

I doubt the OA for Q5, statement (2).

This implies the seller accepts 8x as a reasonable or standard multiple, but believes the business’s revenue will grow, making the resulting valuation (based on 8x) worth more than $20M in the future. For example, if their revenue is $100 today, an 8x multiple of that $800 but if the revenue grows, say to $200, the same 8x multiple will grow to be $1600.

Seller feels his company's "revenue multiple" is greater than 8x.

The issue is not that 8x is too low — it's that the revenue is projected to increase soon, and 8x of future revenue would exceed $20M. No where in the above text can you infer that the seller feels that their "revenue multiple" is greater than 8x.

KarishmaB   GMATNinja  can you help out with this one?

KarishmaB · Answer

I understand where you are coming from but consider this:

The buyer proposes the figure of 20 million as  fair price taking into account current market conditions and future growth risk. He says that it comes out to 8x revenue multiple which is healthy. The seller believes that he should get more than 20 million because of high potential. The valuation today needs to take the potential into account and hence the multiple that he should get today needs to be more than 8x. 
So the seller does feel that 8x is not enough. Else he would have accepted 20 mil.

jainsaloni · Answer

KarishmaB   GMATNinja  Request you to please explain why does the Q2 - 2nd point is correct when it states "Annual revenue" and the passage states "Implying revenue".

Bunuel · Answer

You’re misunderstanding the wording. It’s not saying “ implying revenue ” as a phrase or some special term meaning not final. It’s saying “implying  that  annual revenue * 8 = $20M.” The word  implying  just introduces the formula. From that formula, annual revenue is $2.5M, which is definitely above $2M.

manish8242 · Answer

For Que % a and b part

Q a says 'too high" we cant decide what 'too high" meant it was less than 40% high bcz the buyer said what we offering is not more than "40% less" means the max fluctuation is 40% which should not come under 'too high". The tone is very extreme and we should not take it as a TRUE.

Q b part says that seller expects the growth of revenue "AT 8X" so first of all seller is not saying he would "EXCEED 8X" and secondly seller is talking about sometime in future not present.

Please clarify the doubt

Bunuel · Answer

For part (a), “too high” is justified because the buyer’s $20M bid was up to 40% lower than the seller’s asking price, which puts the seller’s price around $33M or less, say about $32M. By offering only $20M, the buyer clearly felt the seller’s valuation was too high. That is why the answer is marked Yes.

For part (b), the seller says that at an 8x revenue multiple the valuation is too low given expected growth. This means the seller believes the company deserves more than what 8x revenue currently gives ($20M). So, the the seller effectively treating the multiple as higher than 8x, so the answer is also Yes.

	give the sellers a more liquid form of payment, in gratitude for all the work they have done thus far.
	deny the buyers the potential upside value of the future company
	introduce a new experienced team that would replace the incumbents during this next stage of growth for the company.
	reward the sellers for the company they have created thus far while denying them a right to have an ownership stake or operational role after the company is acquired.
	explain the importance of the strategic step of replacing existing management.

Message from buyer to seller (Bill, co-founder & CEO)

Prep Toolkit

Top 5 GMAT Debrief Videos

615 to 715 in 15 Days (Ria's Strategies)

More than Quant/Verbal Abilities: Speed vs. Accuracy

745 with Only Self-Prep and GMAT Club

From 555 to 765: 210-point Improvement

Perfect 805 Score Debrief by Julia

My Rewards

Definitely True	Possibly True
		The seller's original selling price is greater than the revised offer from the buyer in "Email 3".
		Annual revenues for the selling business exceed $2M.
		The seller's business was worth less than $20M last year.

GMAT Multi-Source Reasoning (MSR) Questions

Message from buyer to seller (Bill, co-founder & CEO)

Prep Toolkit

615 to 715 in 15 Days (Ria's Strategies)

More than Quant/Verbal Abilities: Speed vs. Accuracy

745 with Only Self-Prep and GMAT Club

From 555 to 765: 210-point Improvement

Perfect 805 Score Debrief by Julia

My Rewards