When engaging in the sale of your business, most well-informed buyers will have a comprehensive acquisition plan to assess potential synergies and assign a valuation range for a given acquisition target. Many times, the plan can be as simple as a master checklist that must be satisfied for an acquisition to be considered. These lists can be long and may include many categories and performance criteria. One of the most critical items on the list, because it relates to the core of any business, includes relationships and the related contracts that may or may not be in place. A pharmacy can have contracts that fall in several categories, including vendor, customer, payer and others. Healthy and financially viable relationships can be a great benefit for a buyer, and they can also create valuable synergies. Because these relationships are so important, their details are considered assets and can directly influence valuation and deal structure.

Perceived Value of Business Relationships

A pharmacy can have contracts that fall in several categories, including: vendor, customer, payer, provider and several others.

To better understand the value of a business relationship, it is important to identify the various components of an agreement. Many relationships are quite simply a mutual understanding sealed by a handshake. After years of service, these understandings can grow into valuable agreements that may or may not be defined by a written contract. There are several values a buyer will assign to the seller’s relationships depending on their strategic needs. For example, these needs can be driven by market access, defensive measures, and/or synergistic in nature. The types and terms of the agreements will frequently be reviewed when the buyer is conducting their due diligence. This is also a time when the existence and solidity of the contracts will encounter issues if they are not properly polished prior to marketing the company. For example, many buyers will assign more value to an agreement if it is transferable and/or assignable, has preferred terms, sets forth dates and pricing, and includes certain legal criteria (e.g. confidentiality, representations, warranties, indemnification, etc.).

Whether or not a company’s relationships are based on a handshake or a written contract, the buyer will evaluate if they consist of well-defined, economically favorable pricing and terms. Poor pricing can negatively affect valuation. At the same time, if pricing can be improved, a buyer could identify this inefficiency as an opportunity post-close. Generally speaking, it is best for sellers to optimize their contracts and pricing before going to market with their business.

Regardless of price and terms, there are particular relationships which, if lost, would cause substantial disruption of the business’ current operations. Limited distribution drugs, just-in-time medical devices and other services are examples of critical relationships that are integral to the on-going success of the pharmacy. As such, they can increase valuation, and at the same time, create a dependency that introduces risk for a buyer. Sellers who can provide backup or alternate vendors or customers in these circumstances are better insulated from negotiation counterpoints when a buyer uses concentration as grounds for risk or a possible reduction in valuation.

Service Obligations and Equipment Warranties

Contract rights represent another point of value. Buyers will inspect all seller’s rights stated in vendor contracts, including service contracts. Some buyers will see service contracts as a positive, ensuring continued support after the sale of the business. Other buyers might perceive them as a negative, in that they may have a long-term commitment to make service-contract payments. Buyers may also inspect equipment warranties and a solid warranty on mission-critical equipment can add value.

Moratoriums and Prized Contracts & Relationships

Prized vendors and customers can add significant value to an offering. Some buyers seek to purchase a business only to gain access to these entities. In these circumstances, buyers may justify an acquisition even if it represents a poor value. Therefore, the integration of the vendor or customer post-close is critical to the consideration. Contract assignability and transfer of rights for such agreements can add immense value, even more value than other assets. Holdbacks and contingent payments are often used to offset these situations.

Proactive Communication and Collaboration Can Enhance Value

Sellers should consider conducting a full review of their business relationships prior to marketing the business. If market timing does not allow for optimizing their relationships, it can be valuable to understand how terms, pricing, and other elements of these relationships will impact value. Are vendors delivering as promised? Are well-defined contracts in place to ensure continued support and operations for the buyer post-close? Are the contracts assignable or transferable, allowing for a seamless transition? A good sell-side advisory firm will also conduct consistent and clear communication with the buyer to identify the elements they consider most important. This type of communication allows sellers to be proactive and can also enhance value.