Advice About Selling A Business
On average, a business owner sells their business after seven years. Not because the business has gone bad but because of what business brokers call “entrepreneurial burn out”.
Is it time to sell your business?
When it comes to selling an existing business, I would recommend that you consider buying my book. The small price can translate into more than a thousand times its cost in more after tax profits from the sale of your business.
What You Need To Know Before You Buy Or Sell
Buying Or Selling A Small Business is a wisdom-packed book that was written for the entrepreneur either considered buying someone else’s business or selling their existing business. Throughout the text, there are links to exclusive streaming videos from experts in the Merger and Acquisition (M&A) space as they comment on key aspects and provide valuable insight based on their professional experiences with buyers and sellers.
In the book, the author describes six different ways to value an existing business. Learn the real reasons sellers sell and buyers buy businesses. As a seller, discover techniques to maximize value while as a buyer learn about all the different forms of payment and financing options to make your purchase. Discover how the terms of the deal can be more important than the actual sale price when it comes to taxes both for the buyers and the seller.
As a serial entrepreneur, the author has built, bought, and sold several companies for huge profits using the techniques described this book. Buying Or Selling A Small Business is a concise and easy to read guide packed with solid advice that will help you avoid costly mistakes either buying or selling a business.
Before we dig in too deep into what it takes to sell your business, when it comes to selling a business, I recommend finding and using a business broker. They often charge an up from listing fee, to cover the upfront business packaging effort, plus a back-end success fee. The advantage of using a broker is that they expose your business to more buyers than you can do. Moreover, they can act as a voice of reason during negotiations. Since they are a 3rd party, they are not as emotionally attached to the business as you are and can deliver objective feedback when necessary.
I like to think of the business broker like I do a Realtor when you sell a house. They understand not only the industry and the location but also the process. Then can often negotiate a better deal than you can as a seller and often sell your business at a higher price that will more than cover their selling fees.
So why do most owners sell? Here is a quick video from two prominent business brokerage firm CEOs explaining the top reasons sellers decide to sell their business.
Why a buyer should buy an existing business
When you sell an existing business, you are selling a business that has a system, employees that know their jobs, and customers that know you exist. Moreover, they start making money for the new owner on day one. That is why, if done properly, buying an existing business is the least risky option when you want to become a business owner.
Another reason a buyer should consider buying your existing business is related to your ability to carry back a note or to structure the deal in such a way that you get paid out of the profits of the business vs. one large upfront payment. Getting paid over time can be good for you as the seller since it spreads out the proceeds of the sale, thereby lowering your marginal income tax rate so you get to keep more of your sale price.
The buyers perspective is to:
Take advantage of awareness that a company is undervalued
Achieve growth more rapidly than by internal effort
Satisfy market demand for additional product/services
Avoided risk of internal startup or expansion
Increase earnings per share
Reduce dependence on single product/service
Acquire market share or position
Offset seasonal or cyclical fluctuations in the present business
Enhance the power and prestige of owner, CEO, or management
Increase utilization of present resources ( E.G. Physical plant and individual skills)
Acquire outstanding management or technical personnel
Open new markets for present products/services
So, who buys an existing business? There are several types of buyers that are interested in buying existing businesses.
Here are what two prominent CEO’s of M&A firms have to say about the type of buyers they see most often
If you are selling the business to:
Competitors or Vendors
Make sure you run credit reports, prioritize whom you are going to see first, and ask them to volunteer a “ballpark” value and criteria.
Make sure you discuss price and terms before discussing the profits, establish precise time limits for acquisition, be prepared for a special price and special terms, and do not begin discussions with anyone else while employees are in the buying picture.
Be aware that they are often anxious to make a career change. They are willing to risk their personal net worth and are often motivated buyers. About 2/3 will likely be from a different state and for them, location which may mean moving to your city is often more important than the price. Individual investors are more difficult to find and you may have to carry paper or offer an earnout.
Be aware that they have available cash as well as lender relationships. They have business relationships and your business may be a cog in a larger strategy.
Be aware that they may have a need to grow that your business can fill or that your business is a strategic fit for them. Be aware that they have available funding, are smart/sophisticated buyers, and most often have merger and acquisition experience that eclipse yours. They often have a narrow range they are will to offer for your business and their deals often include stock for stock. Be sure to do your due diligence and look at their price to earnings ratios.
So where do you find buyers?
You can find potential buyers by searching investor group directories and specialized databases. You may want to consult with your local library to see what resources they may have. Another option is to use targeted mailings and doing blind ads in major newspapers. If you do blind ads DO NOT do them in hometown papers or trade journals. It is better to post your ads in the Wall St. Journal, NY Times, Chicago Tribune, LA Times, etc.
Here are few national websites to list your business for sale:
Of course, you can also list your business on craigslist in various cities.
There are lots of ways to value a business. Here are the primary components of value.
Here is a simple and quick valuation method for an existing lifestyle business or micro business with revenues under $1 million dollars in revenue.
Here are several more specific valuation methods.
I also summarized the 6 typical business valuation methods in the following paper.
There are several factors that can affect the valuation.
To find the best valuation method for your business I often refer people to an article from Inc magazine that looks at dozens of industries and includes the 3 best valuations methods for that industry.
Intangible assets such as the seller’s business contracts, employees and its intellectual property also factor into its value.
And here is what they have to say about factors that discount a valuation.
Another factor that affects value is the economy at the time of the sale.
There are several process mistakes that can also reduce value. First and foremost is an uncontrolled disclosure of the sale that can cause key employees to leave, customers to flee to the competitors, exclusive suppliers to sell to your competitors, and finally, competitors can use the rumor of a sale to pirate your existing customers.
In addition, inadvertent disclosure of proprietary information to competitors/customers in the due diligence process can cause you to lose your appeal.
Recasting is the practice of taking your P&L and editing it to reflect a more accurate picture of your company’s income potential to a new buyer.
“Private companies tend to minimize profits to avoid income taxes. It is almost impossible to buy a private company without recasting because the owner is understating profits.” The Wall Street Journal.
Recasting from a business brokers prospective.
And recasting from the CPA’s prospective.
Here is a list of P&L lines items that are often recasted.
Owner related direct/indirect expenses
Non-trend bad debts
Discontinued product lines/business
Here is what the experts have to say about the items they see most often recasted.
When you are recasting your financials, you should go back 3-years and footnote every change.
Your job as the seller is to explain the past but your real job is to sell the future.
Buyers buy a well-documented and believable future. Your job as the seller is to prove value and the buyer’s job is to define the price.
Unlike when you sell a car or a home where the seller assigns a value or list price, when you sell a business it is often better to prove the value and let the buyer define a price. Because as Peter Drucker said:
“The buyer rarely buys what the seller thinks he’s selling.”
So, he who mentions price first often is the loser.
Here is what a business broker has to say about listing your business with a price or making the buyer come up with a price after you have proved the value.
So, what contributes to a business’s value? Basically, balance sheet assets, the business’s cash flow, its contracts and employees, the location of the business, and its intellectual property such as patents.
However, keep in mind what Justice Holmes said:
“The ultimate value is what a willing and informed buyer will pay a willing and informed seller, neither of whom is under any duress.”
And remember that:
“Knowing when and how to sell your company is an essential aspect of entrepreneurship.” SUCCESS Magazine
Remember that it is not how much you make but how much you keep in the end that is important. Therefore, a deal structure is a key ingredient in arriving at a workable equation.
A business sale can be structured as either an asset or as a stock purchase.
The deal structure is often more important than the actual sale price.
There are three forces that play into the deal structure. They are tax issues, business issues, and your personal needs.
When it comes to taxes, your business entity affects how you are taxed on the proceeds from the sale.
There are three primary business issues to consider that include economic, legal and technological issues.
Some economic issues include; your willingness to accept a note or stock from the buyer in lieu of upfront cash.
Some legal or contractual issues may be the need to offer warranties, representations, and indemnifications to the buyer.
Lastly, some technological issues include: using earnouts, royalty, or an employment agreement as part of the deal.
As the seller, your personal needs might include health and retirement considerations. Other personal needs include estate planning issues like using the proceeds of the sale for a trust for your kids or spouse. Additionally, other personal needs are debt resolution, a need to continue your business involvement, or your need to exit entirely.
Type of purchases
Forms of payment
Here is an M&A lawyer describing the forms of payment he often sees in M&A transactions.
If you are a C-Corp here is how double taxation will affect the net proceeds you will receive from the sale.
A more detailed look at the role of an M&A CPA.
A more detailed look at the role of an M&A Lawyer.
From the buyer’s perspective expect to see six personas each with a different agenda.
CEO – focuses on the vision
CFO – focuses on financials, ratio analysis
Legal – focuses on liability potentials
Marketing – focuses on market potential
Sales – focuses on distribution
Human resources – focuses on employee benefits, salary
Here is a quick overview of the documentation you will deal with when selling a business.
When an owner has a business they want to sell, they generally produce a one-page ad that generally speaks about the opportunity without disclosing the business by name. If after reading this one-page ad the prospective buyer wants to know more about the business opportunity, they generally contact the phone number/email on the ad or the listing broker and express their interest to learn more about the offering. Frequently, they may be asked to sign a Non-Disclosure Agreement (NDA) or Confidentiality Agreement at this point. Here is a sample confidentiality agreement I used when buying a business.
Once you verify the seller’s intent and you make sure that they are not just a competitor trying to get some dirt on your business, you provide the prospective buyer with a numbered copy of your Confidential Business Review (CBR) document. The CBR is a kind of a business plan tailored to provide enough additional information to convince the buyer to make an offer. Here is an outline of a Confidential Business Review document I have used and shared when I teach people how to sell their business.
To make an initial offer the buyer will submit what is known as a Letter Of Intent. Similar to buying a house, making an offer is not binding but gives the seller a basic idea of what you are willing to offer, provide all their claims check out. Here are two sample letters of intent that you can download to provide some idea of what to expect from a letter of intent.
If you accept the prospective buyer’s letter of intent, the next step is for the buyer to perform a proper due diligence.
Here is what to expect in the due diligence process.
When I sold my first business to a publicly held company, I had the extensive resource of a pool of in-house lawyers to help draft a VERY comprehensive due diligence checklist. While it may be overkill for most small business purchases, it will give you some idea of the kinds of information you should be prepared to provide to the potential buyer
If at the end of the buyer due diligence effort and assuming everything that you said checks out and the buyers want to move forward with the acquisition, they will prepare a Definitive Purchase Agreement. Here is a Sample Purchase Agreement Outline.
With the price and terms acceptable to all parties your lawyer will draft all the final documents and set a closing date where the final documents are signed and money changes hands.