Paul A. Rianda is an attorney who has specialized in providing legal advice to the bankcard industry for more than 10 years. His e-mail is email@example.com.
Merchant portfolio sales reached their height in mid-2008, when lots of buyers with ready funds existed and the valuations reached the highest I have seen.
But that changed when the financial crisis hit. The buyers mostly disappeared and for more than a year the market came to a halt.
In the last six months, however, the market has shown signs of a revival. Buyers are back, valuations have risen and sellers have reset their expectations to a reasonable level. As the market continues to strengthen, it is a good time to discuss some tips for buyers and sellers about the portfolio-purchase process.
Know Your Buyer
Making sure the portfolio buyer is a reputable, financially sound company is an important first step for any seller. Justin Milmeister, the owner of Elite Merchant Solutions, a Van Nuys, Calif.-based ISO, learned this lesson the hard way. He had decided to sell his portfolio to a buyer in 2008 and was ready to sign the final purchase document. “We were in the hotel one Thursday signing the purchase agreement and were told the funds would be there on the following Tuesday,” says Milmeister. For many months after that meeting, the buyer told him the money was coming, but “the money never came,” he says.
Milmeister eventually found another buyer, but he had wasted months of his time and tens of thousands of dollars on attorneys, travel and other expenses with the first buyer. The first buyer “had champagne tastes and a beer budget. We should have asked for a bank reference or for them to show us the cash in the bank to know that the funds were available. It was a pipe dream. They did not have the money,” he says. The next buyer worked with a nationally known investment bank, which gave Milmeister confidence the deal would work out.
From the experience, Milmeister learned “you are selling your life’s work and need to make sure not just the company but the people you are working with are a good fit and that they are honorable people,” he says. “You need to be careful in that you are providing them with information about who your merchants are and they can go call on your merchants if the deal does not go through. You may not want to provide the buyer with your merchants’ names and other important information until the very end.”
What Do Buyers Look For?
Sellers should have a well-balanced portfolio with not too many merchants concentrated in specific standard industrial classification codes (a system for defining businesses by their products and services), chain locations or in groups with common ownership because if one goes, you may lose them all, says Darrin Ginsberg, the owner of Super G Funding, an Arlington, Va. -based company that buys and sells portfolios and also provides loans secured by residual streams. Ginsberg has been involved as both a seller and buyer in more than 50 sales.
Additionally, a portfolio with 30 basis points of profit is better from a buyer’s perspective than one with 90 or 100 basis points of profit because accounts with large margins give competitors the ability to rewrite the merchants at lower profit margins, says Ginsberg. Sellers also should ensure that the top 20 merchants in a portfolio do not make up too large a percentage of the overall portfolio income because in many cases buyers find that such merchants are “connected” to the seller and their loyalty may not extend to the new owners, he says.
Sellers also potentially can drive buyers away from a deal with certain actions, such as failing to provide full disclosure, says Ginsberg. “I expect that each deal will have some issues or ‘hair’ on it. There is never the perfect deal,” he says. “But be honest and tell me everything up front so I can understand the full situation. Most times these are not deal-breaking issues unless it is concealed until late in the due diligence process. The due diligence process is bound to expose those issues.”
The Seller’s Perspective
Some deals include an up-front payment followed by later payments typically tied to the portfolio’s performance. Sellers should “get as much as you can up front. The average earn-out is over one year and you never know what could happen to the buyer,” Milmeister advises. “They could go insolvent in a year. The earn-out is the icing on the cake but don’t count on it.”
It also is critical to review the purchase agreement. Sellers “need to know all the items in the agreement especially the earn-out,” Milmeister states. Sellers should “use examples in the purchase agreement about how to calculate the earn-out so there is no gray area. The earn-out is important, and if it is not mapped out clearly there will be a problem.”
Sellers also should use a bankcard attorney because the industry is very specific, and not all attorneys may understand the business details involved in it, says Milmeister. “Mistakes can be made if you do not understand the terminology of the industry,” he says. “Chances are if you use a bankcard attorney he or she has already worked with the players in the transaction and they know each other.”
Since the market remains weak, ISOs have been looking at different ways to get value out of their portfolios. “Many people have been turning to loans instead of selling over the past year or two,” says Ginsberg. “If you are thinking of selling and are planning on staying in the industry and building your business for at least the next few years, you might be better off getting a loan against your portfolio.
This way, at the end of your loan term, say two or three years, you will still own your merchant portfolio. The larger your portfolio is, the more it is worth and that means you will get a higher multiple on a sale and make more money.”
The market for portfolios is coming back, and you might decide that now is the right time to sell your portfolio. By keeping these tips in mind you hopefully can build a more valuable portfolio and handle the sales process like a pro.