Understanding M&A Advisor Fee Structures: How to Get the Best Outcomes for Your Business

If you are preparing to sell your business, one of the most important decisions you’ll make is whom to work with as your M&A advisor and how to align your interests. This is a crucial step to consider, irrespective of whether you plan to work with a boutique M&A firm or a bulge bracket investment bank’s M&A division.

The amount and structure of the M&A advisory fees have a considerable impact on how much money you walk away with after the transaction is complete. Having a clear understanding of these fees can help businesses make more informed decisions and evaluate the transaction’s overall cost and potential return on investment.

In this article, we’ll discuss the different types of fees M&A advisors and investment bankers typically charge, other fees and costs that can arise during an M&A transaction, and how to ensure you get the best outcome for your business.

Introduction to M&A advisory fees

Before taking a deep dive into the specifics of the different M&A advisory and investment banking fees that are typically charged to clients, it’s worth understanding what services they provide in a sell-side advisory capacity.

1. First, there is preliminary work that an M&A advisory firm or investment bank needs to undertake to prepare all the necessary promotional material to market it to potential buyers. Reliance on the expertise of the advisors can ensure that the right data is being shown and can save considerable time and energy for the seller.
2. An M&A advisor or investment banker can act as a matchmaker between the buyer and seller thanks to their extensive network. The advisor will have a good understanding of the buyer`s needs to get them to pay top dollar for the company.
3. Once the buyer has been selected, they assist with the due diligence to ensure that the right data is being collected, analyzed, and presented in the appropriate format.
4. The M&A advisor will take part in the negotiation to ensure that the deal terms are beneficial to their clients and that potential problems throughout the transaction are managed and minimized.
5. Lastly, they help get the deal done by helping to draft the sell and purchase agreement and managing the signing and closing.

For the services they render, M&A advisors typically charge two types of fees: retainers fees and success fees. Retainers are a flat fee that is paid upfront, regardless of whether the transaction is successful. There are multiple variations of success fees. They are typically agreed upon as a percentage of the final sale price and are only paid if the transaction is completed successfully.

Retainer Fees

How does it work?

M&A advisors typically charge a retainer fee. This is a fixed upfront fee, typically non-refundable and usually paid monthly over an agreed number of months. As a general rule, the number of months is usually capped at six to 12 months to avoid paying it indefinitely if the deal takes longer than anticipated. The level of the retainer fee will always be subject to negotiation between the parties and can vary based on several factors.

The most common influencing factors include the size and complexity of the transaction. The level of competition between advisors to win the given mandate can also be a factor. Lastly, the services of some firms (e.g. a large investment bank) may simply be more expensive due to their expertise, strong reputation, network, etc.

Why pay retainer fees?

Retainer fees allow the M&A advisor to allocate the resources necessary to manage the project properly. Also, it exists to provide the adviser with some financial security in case the deal is unexpectedly delayed or canceled. Lastly, paying a retainer fee is a powerful signal that the buyer/seller is serious about its intentions.

Retainer fees are an essential part of M&A deals and can help ensure that both sides are committed to completing the transaction. The trick is to find the amount that keeps the investment banker engaged, but also motivated to close the deal and earn the success fee.

Occasionally, you may encounter M&A advisors that do not charge a retainer fee for working on a deal. It may appeal to you as a business owner, but it’s important to remember that the retainer fee is there to keep the advisor engaged and committed to your case. Under normal circumstances, for an M&A advisor or investment banker to provide a level of services that is adequate in a typical sale process, you should expect some upfront expense. Ultimately, it is a win-win situation because both parties show their commitment to working together.

Milestone fees as a substitute for retainer fees

Some M&A advisors and investment bankers may offer to substitute retainer fees with milestone fees.

Milestone fees are payments made at specific points when reaching certain stages of the sale process. For example, a milestone fee may be paid upon signing of the letter of intent, completion of due diligence, or when a draft purchase agreement is delivered.

Milestone fees can be a helpful way to align the incentives of the advisory team with the client’s objectives. They also provide a way to structure the project so that progress can be measured and verifiable deliverables are produced.

However, it is essential to carefully consider the appropriate fee structure before agreeing to it. Make sure you understand what deliverables are expected at each milestone and that the fee is commensurate with the value of the deliverable. Otherwise, you may find yourself paying for something that doesn’t provide much value to your M&A project.

Success fee

How does it work?

Success fees are the largest source of compensation for an M&A advisor and usually make up most of their income. This is to motivate the advisor to work hard towards closing the deal and not get comfortable with the retainer fee only.

The success fee is typically a percentage of the total transaction or enterprise value and is paid out only if the deal is completed. This helps to align the interest between the advisor and seller in working towards the deal closure at the highest possible price.

M&A projects can be highly complex and often involve a great deal of financial risk for the advising firm. If a deal falls through, the M&A firm will not receive any compensation for its work. As a result, M&A firms typically only take on deals they believe have a high chance of success or that offer very high fees in the event of the deal closing.

In some cases, the M&A advisory firm or investment bank will deduct their retainer fee from their success fee. You should be aware of this when negotiating fee structures as it can significantly impact how much money you end up paying to your advisor.

Common types of success fee structures

There are multiple success fee structures and it’s up to the involved parties to select the most appropriate one for the given mandate. If done well, the success fee will create a win-win situation as the advisor’s work will ultimately pay for itself by increasing your company’s enterprise value.

Flat Percentage

Under the flat percentage agreement, the success fee is a fixed percentage of the target’s transaction value. This approach does give some incentive to the advisor to strive for a higher selling price, but the incentive can be quite marginal. It can be argued that this is not sufficiently compelling for the advisor to “go the extra mile” in maximizing transaction value.

Flat percentage success fees may be appropriate when negotiating the highest prices is not the primary objective of the seller or in cases where it will be difficult to garner competitive bids.

Scaled Percentage

A common extension of the flat percentage fee is to put in an ascending percentage scale. Here an array of percentages is applied to successive portions of the final sale price.

The below example is for illustrative purposes only.

A scaled percentage success fee structure will give the most incentive to an M&A advisory firm or investment bank to work hard and achieve the highest possible transaction value. However, the thresholds should be prepared with care to ensure that the final success fee paid is in line with the service provided.

This fee structure is more commonly used when the M&A advisor or investment banker will be responsible for finding multiple prospective buyers, as those situations generally require additional time and effort to position and market the business favorably.

Fixed Fee

Under the fixed fee structure, the advisor agrees to receive a fixed amount if the deal is completed. This kind of arrangement gives no incentive for the advisor to work towards maximizing transaction value.

A fixed fee can work well when the buyer and seller have already been identified and the advisor is only needed to help in the due diligence and negotiations.

Fixed Fee + Bonus

This is an extension of the fixed fee where the advisor will receive an additional bonus if the sale price is above some threshold.

Compared to the scaled percentage success fee, this fee structure gives less incentive to the M&A advisor to work towards achieving the highest sale price. Similar to a fixed fee, this agreement is usually used when the buyer and seller have already been identified.

Minimum Fee

Under this fee structure, a minimum success fee sets a floor of what the M&A advisor will receive, independent of the deal outcome. This minimum fee will be earned if the deal falls apart or is closed at a much lower-than-expected valuation. However, in case of a successful closing, the advisor will receive a higher scaled percentage fee.

A minimum fee gives some protection to the M&A advisory firm or investment bank and at the same time, pushes the advisor to remain committed to closing the deal at the highest possible value.

Other M&A fees

Breakup fee

A breakup fee in an M&A transaction is paid by the seller if it decides to back out of the deal. It’s there to compensate the prospective buyer for the time and resources used to facilitate the deal. Not all investment bankers use them in their engagements.

Fees paid to other professionals

In addition to M&A advisors’ fees, you will most likely also incur fees from other professional services firms such as legal advisors, tax advisors, and accountants. These fees can add up quickly, so it is vital to be aware of them in advance.

Unlike M&A advisor success fees, other fees involved in the transaction are rarely contingent. Lawyers typically charge by the hour, with a cap. Tax advisors may also charge by the hour or have a fixed price. Accountants usually have a fixed budget or charge by the hour.

Total fees paid during an M&A transaction will vary depending on the size and complexity of the deal, so it is essential to get an estimate from your advisors and consultants beforehand.

Other potential costs in an M&A transaction

Certain costs that are incurred in connection with the M&A transaction may get reimbursed by the client to the M&A advisory firm or investment bank. The most common items include travel, accommodation, meal, and technology.

These are usually minor costs and have been on the decline as online meetings are becoming more mainstream.

Engaging an investment banker

When hiring an investment banker, you may be inclined to negotiate the lowest possible fees. However, this may not be in your best interest for multiple reasons and the focus should rather be on creating a win-win situation.

Advisors with niche expertise or strong relationships with the most likely buyers can add value to your business. They can help you get a higher price for your business and sell it faster. The success fee is typically a percentage of the sale price, so you will still come out ahead even if you are paying a higher fee.

When engaging an M&A advisor, consider their experience, success rate, drive to get the deal done as well as the fees and choose the one that is most likely to get you the best result.

These additional resources can help you if you are considering selling your business and if you want to know how to best prepare your business for sale.