by Philip H. Steckler, III , Certified Business Intermediary
As a business owner, you’ve worked hard to achieve success. You’ve met and overcome many challenges during your career. Yet, despite the experiences and success, most owners are not prepared for what is usually a once in a lifetime experience- selling their business.
The decision to sell is one of the most complex and difficult decisions an owner will make. The desire to pursue personal goals and the ability to achieve financial independence from the sale of the business must be balances against challenges, and stimulation of owning and operating a business. Family considerations, health, age and concern for employees, are all factors to be considered. Despite the complexities, most owners realize that they should begin thinking about the ongoing succession of their business a few years prior to the actual sale. Property planning and positioning the business for the selling process, will increase the value of the business and enable the owner to maximize the sale price he will receive. The steps outlined below will assist you in the process.
Business Valuation
A business valuation identifies the realistic market value of a business. This provides necessary information which enables as owner to determine if his personal and financial goals will be achieved through the sale of the business.
A competent professional can accurately estimate the parameters of an equitable price and terms. Historical operating performance and future projections will be factors in determining value. Often the valuation process will identify specific areas of improvement which, if implemented, will increase the value to the business.
Properly pricing a business generally enable the owner to achieve a relatively quick (9-18 months) sale at full price and terms. Many businesses are initially offered at a price the market will not support. As a result, little interest is generated and no sale occurs. Remember, the criteria which makes the price fair for a purchaser. Fairly prices businesses generate interest quickly and usually sell at the offering price. In pricing a business, it is useful to view the opportunity as a prospective purchaser. Purchasers require that at least three, and generally four criteria be met.
- Debt. The income from the business must be sufficient to cover debt – the principal and interest of outstanding obligations.
- Owner’s Salary. The purchaser/owner of a business should be compensated for his role in the business. If the income from a business doesn’t generate a responsible salary, why should anyone purchase the business? A reasonable salary depends on the type of business. A relatively sophisticated business requiring significant capital will call for a relatively larger salary, while a “lifestyle business” which may include such benefits as food and lodging will demand less.
- Replacement of Assets. Almost all businesses have fixed assets, and over time, these assets wear out. The income of the business should be adequate to replace the assets as necessary.
- Return on Invested Capital. After the above criteria are met, most purchasers require a return on invested capital.
Use the above criteria to test the price (and terms) established. If the criteria are satisfied, it is likely that the market will support the offering.
Prepare A Business Plan
The most successful businesses almost always utilize a business plan to establish goals, measure progress and guide the operation of a business. A plan should identify the current market position of your company, set forth goals and an action plan for meeting these goals. This document will assist a prospect in understanding your business and indicate the business has a firm sense of direction. Employee and operational manuals are also valuable.
Maximize Profit
A variety of criteria often enter into a decision to purchase a business. Yet, the ultimate driving factor of an acquisition – whether an individual or corporate purchaser – is the ability to make money. Simply stated, a more profitable business will always generate a higher price, and sell more quickly than a similar, less profitable business. Almost as important, particularly in the current banking environment, profitability is an essential ingredient to obtaining financing.
Maximizing profit on the surface may seem to counter another common goal – minimizing taxes. But not really. Proper reporting and documentation can often accomplish both goals.
Many small businesses in New England generate significant revenue in cash. Report all revenue. While some owners suggest that ” there is a lot of cash in the business,” most astute buyers won’t pay for non-reported revenue. And, banks won’t finance a transaction which doesn’t have a strong cash flow.
There are many personal benefits, often expensed by the business to minimize taxable income, yet which accrue to the owner as a benefit (often non-taxable). An automobile, travel and entertainment personal pension, insurance, and payments to children are typical examples. In positioning a business for sale, it is important to identify these “owner perks” to provide a clearer view of the real profitability of the business. Accurately documenting these “expense” items will enable the owner to realize a higher sales price. Banks will often accept these adjustments if well documented. Some owners reduce or eliminate benefits for the years immediately prior to a sale to achieve the best possible sales price.
Reduce Unnecessary Assets
Businesses tend to accumulate assets over the years – many of which may be unnecessary.
Inventory should be clean and up-to-date. Inventory should constantly be monitored, and in most cases, older slower moving inventory should be sold. Purchasers are reluctant to acquire outdated inventory and will pay little or nothing for it. Yet, with proper planning and attention, at last a portion of this inventory can generally be sold off at or above cost.
Machinery, equipment, display figures and other assets no longer utilized in the business should be identified and possibly sold prior to the sale of the business.
Present you business as a clean opportunity with assets which are productive, providing the maximum return in investment.
Personal-Allocate Responsibility
Developing people in key roles enhance the desirability of a business. As a business grows, allocating responsibility to others reduces dependence on the owner. By acquiring a business with key operating and management personnel in place, a new owner can make the acquisition and learn the business while the company’s personnel effectively carry out the day-to-day operations. Corporate purchasers generally prefer acquisitions with existing management teams in place. Steps an owner can make to delegate more responsibility to others will assist in the transition of ownership.
Environmental and Regulatory Considerations
Where pertinent, appropriate site tests and inspections should be made to insure the business conforms to regulatory codes. Waiting until a purchaser appears can cause untimely delays which may result in losing a sale. Most purchase and sales agreements will contain language making the transaction contingent on meeting regulatory requirements.
The Selling Process
Selling a business is time consuming and complex. In order to realize a sale and maximize value, the process should be carefully planned and organized. Once material is prepared and the marketing effort commences, nine to eighteen months is a normal time frame in which to culminate a sale.
A few owners attempt to sell a business on their own. Yet the required time and effort involved in selling often detracts from the day to day operation of the business and often ends in frustration. A qualified business broker or merger and acquisition specialist significantly broadens the base of the qualified purchasers and assists in every aspect of the selling process. The role of the professional should include properly pricing the business, establishing terms, preparing an accurate offering prospectus, attracting and carefully screening qualified prospective purchasers, negotiating the transaction, assist in obtaining financing and guiding the transaction through closing.
In addition to the broker, a competent accountant and attorney are important professionals to include on your team. An accountant will assist in the financial analysis and in properly structuring the transaction to minimize tax obligations. An attorney will protect the client’s legal interests and draft the appropriate documents. These three professionals should comprise a team which can assist you in obtaining a satisfactory transaction.
Other Considerations
Employees. The time to notify employees that the business is for sale is usually a sensitive issue. While this concern may be justified, it is advisable to inform key people that the decision to sell has been made. They will appreciate your taking them into your confidence; they can be relatively assured that a new owner will value their continued service, and they can be helpful in the selling process
Terms. The terms of a transaction are often as important as the price. The equity investment from a purchaser should be significant. 25% – 35% of the sales price is a reasonable range. While the bank requires adequate cash flow, often the amount they are willing to lend generally corresponds to the value of the assets purchased or other collateral which may be offered. In most transactions today, the seller can be expected to finance a portion of the sale price. Seller terms may take the form of a fixed note, a consulting or non-competition agreement, or some type of pay out based on performance. Equity, safety and tax considerations are all important factors. The profitability and desirability of the business and the existing banking environment all influence the terms which may be called for.
Choosing an Advisor and Costs. There are many brokerage firms, as well as merger and acquisitions companies (for the larger businesses). Choose a firm which has the ability to close transactions. Does the firm have an established record? Do they have the staff and expertise to understand your business and represent you well? Do they succeed in selling businesses at prices they recommend? Is the firm a member of the International Business Brokers Association with its professional code of ethics? Your personal relationship with the firm and with the people with whom you will be dealing is important – you should feel confident that you can establish a close working relationship and that your interests will be represented.
Firms are generally compensated as a percent of the sales price, commonly ranging fro 5% to 12% (as the sales price increases, the percent paid will decrease). While most compensation is paid on performance – completion of the transition – a retainer or a monthly fee is often charged at the outset of an assignment.
Asset or Stock Sale. Most small business transactions occur as an asset sale with specific assets transferred; a mid-sized company varies and its subject to final negotiations. Consultation with your professional advisors as to tax implications is necessary.
Selling a business is often the culmination of years of hard work to succeed. The sale of your business should be a continuation of this success. Planning, positioning and the following above steps can vastly enhance this final success!