Monday, November 10, 2008

On Selling Out

What's the difference between this woman and this list of officers?
One knows to seek a liquidy event when exterior perceptions of asset valuation far exceed internal and intrinsic valuations, and the other does not.

As I said earlier, Yahoo should have sold out to Microsoft in May .  Even Jerry Yang thinks so, now, but not then.  But this happens too often in business, and I saw it happen again on a  recent engagement.

We were recently doing due diligence for a private equity client on a heavy industrial manufacturer they were considering buying.  The target had experienced tremendous growth over the last few years, which management attributed to their strategy and execution.

Their growth, however, basically lined up with the overall market they competed in.  The market was growing  like crazy from 2004-2007, reflecting global economic indicators which drive demand for heavy industrial products.
All those global economic indicators in the last year have reversed direction.  In technical terms, you could say that they have "shit the bed."
Interestingly, the target and their bankers cheerily forecasted similarly robust growth for the next 3 years.

Our due diligence revenue forecast, needless to say, applied a steep haircut to the management forecast and lower margins.  The firm, if sold, was going to get a far lower price than they would have 12 months ago.  And therein lies the lesson.

Key Takeaway:

Sell when you're flattered, not when you're battered.

One of the greatest insights company leadership can have is to identify when everyone thinks they are better than they truly are, and sell out.  Unfortunately, leadership usually starts believing everyone else's bullshit about the firm.  The typical result is that eventually outsider's perception returns to alignment with insider's innate view and reality, and the firm's valuations drop back down.

I'm surprised at how many HBS grads don't understand this takeaway.  I know 23-year-old Russian models who recognize this as self-evident.  Yahoo's board, evidently, does not.

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Monday, November 10, 2008