The decision to sell your business is one of the most complex and difficult decisions that face an entrepreneur. And, after the decision has been made, the real hard work begins. Many corporate and sophisticated buyers acquire or create a business with a definite exit strategy in place. However, most entrepreneurs and small business owners start or buy and manage a business with little or no thought about is eventual sale, until the time for sale arrives. The reason for sale may be some factor beyond the control or the owner; or may be a definite personal decision that it is the right time to sell. Preparing your business for sale can greatly impact the value and marketability of your business when it is presented to potential buyers. If time allows, you should plan for the sale and prepare the business. Engaging a Business Intermediary early in this process can pay dividends later.
Keystone Business Advisors is often asked: “How can I ensure that my business is prepared so that it best demonstrates its market value and I receive the best market price?”
We suggest you consider the following areas when deciding to sell your business. This is an overview of key components and should you like further information or have detailed questions, please contact us and we will respond to your inquiries as soon as possible.
- Awareness of Marketability
- Financial Performance Indicators
- Infrastructure and Human Resources
- Personal Objectives and Goals
Awareness of Marketability
This is perhaps the broadest component that a potential seller should consider. Sellers must recognize that the best time to sell his/her business is when things are going well, both for the business and for the particular industry. This is when your business is at a premium and is most desirable. However, often businesses are not sold as they are approaching their peak, but instead somewhere in between the peaks and the valleys—whether growing or declining.
Sellers should give consideration to how the business is performing in relation to the rest of the market and their competitors. In addition, market expectations for expansion, contraction or consolidation are very important factors in business sales and acquisitions. Another element for consideration in the marketability of the sale of your business is its competitive advantage and market standing. For instance,
- Does the firm service a general or a niche market?
- Is the firm seen as a market leader?
- If it is a leader, is it a cost or service advantage?
- What are the barriers to entry for competition? Are start up costs low or high?
- For retail, food service or related businesses, what are the demographic conditions in the surrounding area? And what is the future outlook or development plans for the area?
These are all just initial considerations that help sellers for a well rounded perspective on the business sales and acquisitions environment as it relates to their business and industry.
Financial Performance Indicators
Does the past and present necessarily predict the future earning potential of the business? Simply stated, buyers purchase future earning potential and look to historical performance to predict a certain future. This is not an easy task and is where much of the focus is spent in the selling process. Ideally, a seller needs to demonstrate a steady trend of profitability and growth over the past 3 to 5 years to help solidify the forecast for future earnings. The more stabile or predictable the financial picture, the better pricing and terms a seller can seek. But is should be noted that, as a general rule, a buyer buys for potential but wants to pay for what is there now. Somewhere, in between, is often where the deal is struck, especially for the stronger, more growth-oriented companies. It is often the insights and guidance of the intermediary that helps buyers recognize and sellers attain the higher value.
However, this financial portrait is being viewed by multiple perspectives and not everyone will view it the same. The financial statements, net income or loss is only part of this picture and one perspective. Businesses are established to reach the goals of reliability and diversity, but instead are often sidetracked by a variety of economic conditions or the demanding needs of one or two key accounts. This is where predictability starts to wane and risk starts to rise.
Business owners must take a look at several factors (to name only a few) that may impact the marketability and business valuation:
- Concentration of accounts
- Quality of financial statements and tax returns
- Economic outlook for the market
- Margins and other industry comparative ratios
- Additional capital expenditures required for growth
These are all important factors, beyond analysis of the firm’s financial statements, which can impact the fair market valuation of the business. A business owner should consider these in relation to his/her firm when establishing selling expectations.
Infrastructure & Human Resources
Another key element that a seller must be cognizant of is the importance of the infrastructure that the business has in place. Entrepreneurs are instrumental in the creation and growth of the business, but is the owner/operator an instrumental part of the business going forward? And how replaceable is he/she? If the business is too closely tied to the owner alone, the sale becomes more difficult and generally requires an ongoing role for the seller.
Further consideration to the market value of the business and compensation to the seller must be given in the case of an ongoing role for that seller. If a buyer must pay the seller at a reasonable market rate for the services being rendered, it may lessen the earnings of the company for that time period. This is a typical negotiating point where a “give a little to get a little” strategy can be very helpful. A seller wants to consider which is more important at the time of sale:
- A higher purchase price and upfront payments with a slightly lower ongoing salary for the duration of the transition period or employment contract; or,
- A slightly lower purchase price with more upside potential for an earn out and a more aggressive ongoing salary.
Knowing this upfront can help the seller and his/her intermediary establish a plan of attack for negotiations.
The buyer will look at the working capital and the additional capital expenditures he/she will have after the acquisition of a business. The buyer will also take a close look at the existing human resources and access to further skilled personnel as another essential element. For the business to grow, is the right staff already in place or will further skilled, experienced staff be needed? This is just one more example of a buyer’s perspective and how he might approach the acquisition opportunity.
Personal Objectives & Goals
The ultimate sale of the business, and the satisfaction of the seller, comes back to whether the sale will achieve the goals that the seller established. A seller has to consider two divergent perspectives for the sale of the business: his own perspective and needs versus that of the buyer.
First, a Seller has to set goals for where they would like to be 12, 18, or maybe even 24 months after the sale. Retirement with certain amount of money in the bank, reinvestment in another business, an employment contract with the new, more funded owner or many other motivating factors must be weighed. Also, in setting the price, the seller must consider whether time or money is more important. Some sellers establish a specific price they want to achieve and have the time to wait until that price is achievable, even if it means focusing efforts to grow the business and its earnings to justify the desired price. Other sellers have a desired price, but getting out of the business within a year is their primary motivating factor. Which are you?
Second, the seller must recognize and be able to present the true earning capabilities of the business. A buyer will need to receive a salary commensurate with the industry averages for that position; and, needs earnings that are sufficient to cover the debt service owed on the purchase of the business and to provide a reasonable return on the initial investment. The objectives of buyers will vary. Some require an immediate compensation and return. Others are buying for the future and consider the initial period of fostering growth to be part of their investment. Others are attracted to a perceived synergy or perhaps the cost savings of consolidation or centralization of certain functions.
In the end, if the needs and objectives of both the buyer and seller can be met at a price and structure that makes sense to both, then you are on your way to a sale. But, be aware that there will be other obstacles along the way.
Is now the right time to sell your business? First, answer subjectively. Then, review the decision objectively. And, because you have the continuing operation and profitability of your business as your primary responsibility; engage a Keystone Business Intermediary.