Selling a business

What to think about

Some of the issues you should consider before selling are:

• What are you selling, e.g. are the assets to be sold separately? is the business a going concern? is the goodwill for sale? is there proper title for each asset?


• What information will be provided to the potential buyer, e.g. accounting records; the accuracy of statements made to entice the buyer.


• Whether the buyer can continue to run the business successfully during any transition period following purchase, e.g. training the purchaser and introducing them to established customers.


• Whether the financial records of the business are up to scratch and what should be done to get them into shape, e.g. detailed information about business debts, loans, whether the debt will be assumed by the buyer etc.


• Is the business is leased premises? If it is will the landlord agree to transfer the lease?


• Tax implications, e.g. capital gains tax, value of stock, roll over relief etc.


• The business's market and the nature of competition.

Valuation

Formal valuations of businesses are normally carried out by people with the appropriate qualifications. There is no specific method or manner of valuation, and often it depends on the type of business and the circumstances of its sale.

A valuation may also include a determination of the "net tangible assets" of the business, i.e. taking into account the liabilities of the business and the current value of the assets. The current value must reflect the written down value of the assets, which may be different depending on whether the business is a going concern or the assets are to be sold.

Goodwill

This is part of what is being sold in a going concern, and will often be the largest percentage of the saleable assets of the business. Considerations should include whether:

• the business name and any trademarks or other intellectual property is part of the sale;


• the seller has an obligation to maintain the goodwill until the transfer of the business;


• training of the buyer is included in the sale;


• the buyer will be introduced and promoted to established customers;


• contracts with customers and suppliers are part of the sale;


• there will be a restraint of trade agreement, e.g. the vendor agrees not to open a similar business within a certain geographical area or restrictions on the right to assist a competitor.

Selling expenses

Don't underestimate the expenses that you may face in selling the business, for example:

• repair and maintenance of assets before sale;


• advertising the sale;


• professional costs to lawyers, accountants, business brokers etc.

Who sells?

• Brokers are professionals who sell businesses in a similar way that real estate agents sell private property. They may be able to identify a competitor or investor as a potential buyer;


• Accountants will often be able to help in the sale of a business and its valuation;


• Lawyers are a good start when beginning negotiations with potential buyers, and can handle the legal aspects of the transfer.

Advertising

It's important to choose the best method of advertising the sale of the business, and to take professional advice before you make any decisions. Possibilities include:

• Newspaper advertising, which usually has a separate classified section devoted to "businesses for sale". You should also get advice about whether an advertisement should be placed in a trade journal and specialist publications;


• Sending letters to potential buyers, usually competitors;


• Direct approach by a broker or other professional who can also negotiate on your behalf.

Payment

You should think about:

• the deposit that will be required following the agreement to sell and bind the parties to the contract of sale;


• when and how the balance of the purchase price will be paid, e.g. the number of days for settlement (usually 30 days);


• ensuring there is no doubt about the buyer's obligations to insure the business when this becomes applicable.
  
  

Sell your business

Recent statistics reveal that over the next 5 years, 40% of small business owners’ surveyed plan on selling. If the survey results reflect a broader trend that means 400,000 business owners trying to get the best price for their businesses over the coming 5 years.

The increasing supply of businesses coming onto the market is unlikely to be met by demand. As a result, buyers will focus on either price or value. Only a limited number of businesses will achieve the value anticipated by their owners.

But don’t let the statistics scare you. With good advice and planning, Australian Business Sales can help you achieve the best possible result.

Whether you are 3 months or 30 years away from selling, your ultimate sale objective is something every business owner needs to think about. After all, your business is an investment and selling it is all about realising the full dollar value.

But before you sell, there are a few key questions you need to consider. Issues like:

Timing: What’s the best time to sell or when do I need to sell?

Value: What is my business worth? And what can I do to improve the value of my business before selling?

Market: Who will buy my business? Is my business saleable?

Structure: How should the sale be structured?

Tax: What are the tax implications of selling my business and how can I manage the tax consequences?

Protecting your company secrets in a sale

You need to show the goods to make a sale, but at the same time you don’t want to give away your value-creating edge to competitive shysters. There is the safer way.

Many entrepreneurs are wary of giving away company secrets during a due diligence process involved in selling their business. Their fear is that that the potential buyer will pull out and then use that information to compete against them.

Since most firms don’t have the luxury of unique, patented or protected assets or processes, this is a very reasonable position to take. Imagine how foolish you would feel if you gave away the very competitive advantage that had created the sale value.

However, you still need to get through the due diligence process for the honest buyer.

What you need to do is to balance the need of the potential buyer to be able to assess the quality and impact of your confidential information with your desire to not give away the store to the dishonest scavenger.

To do this you need to have a process that gets rid of the latter but keeps the former in play. But how much can you provide to satisfy the serious punter while still protecting yourself against the dishonest or opportunistic competitor?

Your best protection against the theft of confidential information during the sale process is to be very well prepared for the due diligence investigation. This information can then be released in stages, subject to your own due diligence on the potential buyer.

You should be looking for commitment from the buyer at each stage of the investigation. Buyers who are only fishing will not want to spend much effort in the process and will soon fall away.

You should balance their effort with your own. Thus, as they require meetings with management, you should request similar meetings with theirs. As they require more detailed information, you should request similar data from them. If they are not prepared to share information, you can probably assume that they are not serious and terminate the discussions. You can also have them sign a non-disclosure document with damages for use of confidential information.

Your second level of protection is to withhold sensitive information but have it examined and verified by an independent and credible third party. Thus you can cite performance data, market statistics and forecasts but hold back the detail. This data would then only be released to the successful bidder as a final condition of the sale but could be done in such a way that, if validated, the sale would then be concluded.

Your best strategy, however, against this type of invasion is to have pre-selected the potential buyers. If you have determined that the potential buyer has a real need for your business, is capable of funding the acquisition, and has the capability and capacity to make it work, then you should be dealing with genuine buyers who would rather buy than copy.

By ensuring you have several willing potential buyers, and that you are well prepared for due diligence, you can also speed up the sale process and dramatically reduce the exposure period.

In the end you will have to take some level of risk to get the deal done. But with some investigation you can determine the ethical values of your potential buyers.

Just make sure you steer clear of the doubtful ones.

How to sell a business

There are essentially two major steps in selling your business.

Step 1: Business readiness

Your first step is to gear the business so it is ready to sell. This means understanding the business, the potential buyers and valuation methodology so that you have the best chance of selling your business and maximizing its worth.

In most cases this process should commence 2-3 years before you intend to sell the business. Most businesses start reviewing their business and preparing for a sale 3 to 6 months before they decide to sell. This then reduces your ability to maximise the worth of the business by altering some of the basic business fundamentals.

You need to follow these steps:

1. Business review: Conduct a business review which focuses on how to emphasize the businesses strengths. What are the weaknesses? Are there some major strategic areas, product development, employee or legislative work that we can complete prior to selling the business that will multiply the worth of the business? For instance, is the business in the owners name? This is often a factor that would lead to a reduced sale price of the business as the business is seen to be reliant on the goodwill of the owner.


2. Business systems checklist: Understand what systems the business has and determine the areas of weaknesses. If there are weaknesses that can be changed, start immediately. Set a joint action plan and develop templates to help the business reach an acceptable standard. (Job descriptions, policies and procedures, employee manual, production manual etc)


3. Business mentoring: Get monthly advice and guidance on the direction of the business from someone that is experienced in the area. Explore directions that will maximize the ultimate price.


4. Business profile: Analyse the business to a level at which you understand the strengths and are able to portray the strengths of the business in the best light to potential buyers. This is then written into a two page profile.


5. Agree on a basis for business price and concepts for deal structures: Understand the concepts of business valuation and explore possible best outcome deal structures and modeling methodology. Have all shareholders agree.


6. Develop a simplified strategic plan: Potential buyers are interested in the future of the asset. An overview document should be produced which will highlight the growth path of the company.

Step 2: Find a buyer and sell the business

1. Prepare a detailed information memorandum: This document would explain your markets, products and financials and is a detailed listing of your business strengths and market opportunities. It also lists your intellectual property and your intangible assets.


2. Market your business: Develop a broad based marketing plan based on financial or strategic investment considerations. This plan would be tailored to suit your business. Look at your industry and your business. Look at the possible types of business buyers and then construct a campaign around this target market. In many cases your company would make direct contact with acquisition managers of large companies and utlilise the contacts and resources of possible business brokers that have a network across a broad range of industries. The final campaign will generally include a combination of the following:

• Newspaper advertising


• Campaigns direct to potential buyers


• Internet advertising


• Magazine advertising

Negotiation: You need to then negotiate with the interested party considering the following:

• Initiating contact with the decision makers.


• Establishing trust and confidence in your business and the negotiation process.


• Building a relationship and a rapport with potential purchasers.


• Ensuring a negotiation style that places you in the best position to maximize the price.


• Exploration of deal winning formulas such as strategically examining your business and the potential acquiring partner and developing a blueprint for how the merged synergies may operate.


• The selling of the vision of the potential combined entities to maximize price.

Agreement: Once agreement is reached you draft an action timetable to ensure the transaction is completed in an efficient and timely manner.

Find the value of your business

Sometimes when I get into the topic of establishing a business's value, I think I am entering a world where opinion counts for more than fact. Certainly, from what I have seen over the years, the process seems to involve as much guesswork as cold figures.

Most business owners will be familiar with sales of businesses in their own sector and will know what the typical valuation formula is. Generally this is some multiple of profit – normally referred to as EBIT (earnings before interest and taxes) – but in some sectors it will be a multiple of revenue or a value per client or per member. Few will, however, understand why a specific multiples apply in their sector.

When I have asked for clarification of the specific multiple that is being applied, I usually get the arguments that it is “typical” in the sector, that it reflects industry volatility and risk, or that it includes adjustment for industry growth.

The truth is that most business owners, business brokers and business advisers don’t know why a specific multiple applies. They just know what norm has been established over many years and many sales.

When you ask “How can I get a higher multiple?” the answer will be “grow faster!” How much faster? – well, more!! Not very useful, and certainly not very scientific.

Excluding liquidation or break-up value, there are only two fundamentally different models for establishing a value for an operating business. The first is based on the future stream of free cash flow generated by the business; the other is the strategic value of the business to a large corporation.

Most conventional businesses, such as retail, wholesale, transport, property, and services businesses, achieve value by producing profits (EBIT) for the new owner. It is the size, duration, growth and likelihood of that profit stream that creates the value.

By the way, it is only ever future income streams that create value, never past ones. You don’t put money into a savings account to get the interest rate the bank paid last year. The only relevant rate is the one they are going to pay. Thus, it is only projected future profits that are relevant. While past profits may give you some indication of the likelihood of future profits, you can dramatically improve your valuation by creating a different future.

Conventional valuation theory can be applied to business valuations. This is based on net present value (NPV) of a future stream of income relating to the initial investment. Once we know the income streams and the discount (risk rate) to apply to them, we can calculate the value of the investment (or the business in this case).

It then follows that conventional valuation using EBIT multiples should be able to be expressed in a NPV formula. Thus 2 x EBIT is a 50% discount rate, 4 x EBIT is 25% and 6 x EBIT is 15%. A business valuation can therefore be improved by reducing the applied discount rate and improving the visibility and probability of future income streams.

You reduce risk by improving recurring revenue, account penetration, customer and employee churn, and by implementing better systems and processes internally to set and monitor performance.

Visibility of future income streams is improved with long-term contracts, greater recurring revenue and deeper account penetration as well as establishing good competitive advantage around patents, brands, trademarks and deep expertise.

This should gradually improve the EBIT multiple. Further increases in valuation will come from increasing sustainable profitability and building income (EBIT) growth in the business.

This process is fairly conventional. Now comes the clever part!

To gain a premium on the sale, you can build growth potential into the business that the buyer can exploit. Can you identify how a much better-funded, more-skilled, more-able buyer could grow your business and can you provide the framework or template for that growth?

Where you can set out a path for higher growth and profits, and clearly demonstrate how that can be achieved, it is possible to gain some of that increased profit in your valuation. But you will need to find the right buyers, and you will need to put the business into a competitive bid in order to extract that premium.

A business that has underlying assets and/or capabilities that a large corporation can exploit is a very different proposition. These are businesses based on patents, brands, copyright, trademarks and deep expertise. The valuation in this case is not based on what your business can generate in future profits, but how much profit the buyer can generate by exploiting your underlying assets and capabilities.

Imagine a very large corporation that has a customer base 100 times the size of yours that would be highly receptive to your product or service. The large corporation may be able to quickly sell your product or service into an existing customer base, reaping 10 times your revenue, or greater, in the first year of the acquisition.

Therefore, what would your business be worth to a large corporation that had a ready market for your product or service? The value of your business is based on what they can do with your business, not what you can do with it. In fact, your own revenue, profits, customers and numbers of staff may be quite irrelevant in putting a value on your business. It is now all about them, not you.

Working out a valuation based on strategic value is very difficult but not impossible. What you have to do is estimate the revenue and profits that the acquirer will generate from your business. Thus, if they have a customer base 100 times yours, then it might be fair to say that the value is 100 times your conventional valuation.

Will you get that for your business? Probably not, but you will gain some portion of that value if you set the deal up correctly with the right potential buyers and ensure you have a competitive bid running when you come to sell. With strategic selling the task is to work out what you have or do that could be of interest to a large corporation, identify the potential buyers, set up a relationship to educate them on your potential and then manage the final competitive bid. Generally strategic buyers are prepared to pay many times the conventional value of a business.

If you compare these two models, what you will see is that the value of your business is solely in the eyes of the buyer, and especially in the manner in which the buyer can exploit its potential.

What this should be telling you is that the identification of potential buyers is one of the most critical aspects of gaining the best price for your business. The best buyers are the ones that have the experience, willingness, capacity and capability to best exploit the potential in your business. Your task then is to create that potential, and then find the right buyers.

Building to sell

You have to plan if you want the option of selling. There's a lengthy process you have to go through to get a company ready for sale.

Timing is everything in business, and now is probably not the ideal moment to put your company on the selling block. But don't let that stop you from getting your company ready for sale if you think you might be looking for a buyer in the future.

Selling a private business can be a challenge in even the hottest of markets. To have a decent shot at getting what you want, you have to give yourself plenty of time to lay the groundwork for a sale, and I'm talking about years, not weeks or months. The first step is to make sure you understand what you have -- or could have -- that somebody else might want to buy from you. It may not be what you think.

Let me tell you about someone we'll call Toni, who came to me for advice about building up her specialty-foods business. She had created a line of gourmet jams, chutneys, and other such products that she was selling through department stores and specialty shops. The company was doing about $750,000 a year. She said that she wanted to double or triple her sales in the next few years but wasn't sure how to go about it.

Although she felt she was the best salesperson for her products, the business had grown so much that she didn't have time to sell anymore. She was too busy processing orders, sending out invoices, tracking inventory, and handling other administrative duties. On the other hand, she couldn't afford to hire her own salespeople. As for independent sales reps, who carry products from a variety of companies, she'd tried using them already. It hadn't worked. What did I think she should do? I suggested that she might want to hire an administrative person and go back to selling. Maybe, she said, but her attempts to do that in the past had all ended in failure. Besides, she didn't really like selling. "I can do it, but I don't enjoy it," she said.

"Well, what do you enjoy?" I asked. "Why do you want to double or triple the size of your business anyway?"

"To tell you the truth, I really just want to sell it," she said. She'd already signed a contract with a business broker. She felt she had first-rate products and a promising brand to offer a buyer. If she found the right one, she might even stay on as a consultant. But mainly she wanted to sell the company as soon as possible and get a good price for it. To do that, she figured she had to increase her sales substantially.

In fact, Toni was making a classic mistake. When you decide to sell your business, what you need to ask first is not "How much can I get for it?" but "Why would someone want to acquire this business?" You should be identifying the types of potential buyers and finding out what they're looking for.

Building to sell is different from building to operate. You have a different goal, and you need a whole different thought process from the one you'd use if you were planning to hold on to the company indefinitely.

I know a guy, for example, who has been very successful at building restaurants to sell. He has a regular pattern. He'll buy a failed restaurant, including licenses, facility, kitchen equipment, and other restaurant paraphernalia that the previous owners bought new. So he gets almost everything he needs at a bargain. Then he changes the restaurant's name and concept, brings in new staff, and reopens as a place for fine dining, charging very reasonable prices.

That's his trademark: excellent food at low prices. The city newspaper rates restaurants. This guy's places are the only ones in their category that are rated excellent with two dollar signs (moderate pricing). The other excellent-rated restaurants all have four dollar signs (expensive). Not surprisingly, his places are packed.

So why doesn't he charge as much as his competitors? Because his goal is different from theirs. He's building to sell, and he has his own formula for doing it. He knows he'll find a buyer -- and get the price he wants -- if he can show high sales volume and great potential for increasing profits. After all, the new owners can raise the prices on the menu to the competitors' level.

Granted, the founder could do the same thing and probably make more money while he still owns the place. But he has figured out that he can earn a better return in the long run by keeping his prices low, building up sales volume, and selling the business at a premium price.

Of course, most of us are a little different from the restaurant guy in that we don't start companies with the intention of selling them. The thought of cashing out and moving on comes later, after we've been in business for a while. At that point, you have to reorient yourself and make some changes in the way you run the company. It's hard to know what direction to move in, however, until you've identified your potential acquirers.Take my records-storage business, CitiStorage. A few years ago my partners and I decided that we should run the business as if we were building it to sell, if only to make sure we'd have options down the road. Given CitiStorage's size, the most likely acquirers were a few giant companies that also do records storage. We began talking to the giants, and we learned some interesting things.

They told us, for example, that they wouldn't hold on to our real estate if they bought our business. They'd sell the land, the buildings, and the storage racks to someone else and sign a long-term lease to use the facilities. The giants, it turned out, were interested only in acquiring our accounts.

With that important piece of information in mind, we proceeded to spin off the land, buildings, and storage racks into a separate entity. If we go through with a sale in the future, we'll be able to sell the accounts, keep the real estate, and become the acquirer's landlord. We'll do a lot better in the long run by taking that approach than we'd do if we sold the company as a single entity.

That's just one example of the changes we've made. We've also done some refinancing to reduce CitiStorage's debt, which would otherwise be deducted from the selling price. And we've made some selective acquisitions of small records-storage companies, whose accounts we can add to ours and eventually sell at a significant markup. Even if we ultimately decide to keep the business, we'll be better off for having made the changes.

My point is that you have to plan if you want to have the option of selling in the future. There's a lengthy process you have to go through to get a company ready for sale. You need to do enough research at the beginning to have a decent chance of winding up where you want to be at the end.

Which brings me back to Toni. I told her that before deciding how to build up her sales, she needed to find out what kind of sales her potential acquirers would be most interested in. My guess was that some buyers would be looking for shelf space in specialty stores, while others would want it in department stores. If so, Toni should probably focus on building her sales through one type of retail outlet or the other, but not both.

Remember, her goal is to sell the company as soon as possible. She needs to figure out how she can get there fastest. Is it easier for her to sign up specialty stores or department stores? What kind of placement can she get in each?

So she has some investigating to do, followed by a period of experimentation. Then, once she's decided on her path, she needs to follow it single-mindedly, resisting the temptation to go after sales that don't fit in with her plan. If she does that, I feel confident that she can reach her goal and sell her company for the amount she wants, but it will no doubt take a couple of years.

By then, moreover, the market may have recovered enough for her to get a higher valuation than would be possible today -- or she may have decided her company is doing so well that she really doesn't want to sell it after all.