MWA: Murray Wise Associates

Do Your Homework

It’s back-to-school season, and if there’s one lesson we can apply to farm and agribusiness transactions from the messages we tell our kids, it’s this: “Do your homework!”

We’ve all heard horror stories of money pits – the acquisitions in which people overpaid and later discovered material issues. In many cases, those issues could have been uncovered earlier, had the buyer not been so hasty and applied proper due diligence.

The most important step is to hire the right professional for the job.

  • Need to evaluate conditions of a vineyard in California? Hire a qualified water consultant.
  • Planning to sell the family farm? Hire an attorney well-versed in estate planning and tax issues.
  • Wanting to invest in Midwest row crops? Hire a firm with extensive experience vetting such opportunities.
  • Looking to acquire an operating agribusiness? Hire a financial adviser with specific agricultural experience.

You get the idea. Finding professionals with the specific expertise – whether it’s regional, crop-specific, regulation-based or deal-type – can be crucial in the information-gathering stage of a potential acquisition.

When performing due diligence, you should consider factors such as water rights, leases and contracts, permits, titles, mineral rights, taxes and zoning, weather, customer lists, vendors, macroeconomic market conditions and any anticipated changes in legislation that could materially affect the profitability of your investment.

In more complex deals, it’s also important to consider different deal structures and terms to craft the most advantageous purchase agreement.

Too often, people associate hiring brokers and professionals with the “sell” side of a transaction, but they overlook the value of professional guidance to buyers. The mistake can be attributed to a few factors:

  1. Overconfidence. “I don’t need to hire someone to tell me how to run my business.” If you are buying your neighbor’s farm, you’re probably right. You likely ARE the expert in that specific micro-climate. Do a quick scan through the title search, and you can be confident in your decision and valuation. But if you are expanding into a new region and different crop or buying an operating business while continuing to operate your current portfolio, it’s likely you’re not an expert in every facet of the deal you’re about to sign.
  2. Inexperience. Despite having extensive operational experience, many buyers who are looking to expand their business or land holdings into new regions or business lines don’t have the volume of transactional experience to anticipate the challenges they might face. Depending on the size of the deal, it may be a once-in-a-lifetime transaction for you, so you will want to consult professionals who specialize in those areas and deal with the issues on a day-to-day basis.
  3. Expense. Most often, buyers simply don’t want to spend the money on hiring professionals to evaluate a deal on their behalf. Slim margins in many areas of agriculture have led to thinking like this, but it’s often penny-wise and pound-foolish.

Consider the alternatives:

If you spend the money and find issues, you can reject the deal or modify your offer to mitigate damages and adjust the purchase price. If you spend the money and don’t find issues, you’ll simply have a sunk cost akin to “insurance.”

Conversely, if you don’t spend the money and later find issues, your future losses will be greater because your investment decision was made with inadequate information. There’s also the possibility of not spending the money and finding no issues – but that amounts to luck, and luck is not a strategy.

In essence, if the property or acquisition target has no defects and no areas of weakness and due diligence would not turn up anything, the limit of your “losses” for hiring professionals is your out-of-pocket cost. But if due diligence would turn up material issues, those losses could be crippling and ongoing.

Imagine a situation in which an almond orchard is purchased without exhaustive due diligence. After the purchaser is in the second or third year of operation, it’s discovered that not enough water is available to irrigate the orchard adequately. Without enough water, the large investment in the property and trees is handicapped for the duration of the plants’ life, affecting productivity and overall return on investment. Detailed due diligence would have uncovered the precarious water rights situation and would likely have convinced the investor to pass on the opportunity or to adjust the valuation significantly. This would have been an upfront cost well worth its price in the long run.

The same could be said for acquiring a business without proper vetting of its customer contracts, supply agreements, market share and management team. Spending millions of dollars, and upon closing, finding that your key customers have switched suppliers — or that your suppliers have terminated long-term contracts — could be crippling.

In short, if there are aspects critical to your deal’s success, don’t act solely on gut instinct, and don’t assume. Know! And if you don’t know – or don’t know how to find out reliably – consult experts and professionals who do, so that you aren’t left with a true mess on your hands. MWA is well-versed in the scenarios mentioned in this article, as well as with many other unique agricultural transactions, through direct experience or partnerships with other professionals.