Personal preparedness is critical if you’re exploring an ownership transition, but to maximize the sale price, foster an effective auction, and minimize surprises during the process, it’s also imperative that your business is ready to undergo the sale process. In our latest post, we outline a number of financial, operational, and administrative factors that should be considered before initiating the sale process.
You may have determined that you are personally ready for a business transition, but is your business ready? Is your leadership team intact? Do you have reviewed or audited financial statements prepared? Are your IT systems, data collection, and reporting up to date? Have you had any material fluctuations in performance that need to be addressed? Do you have any other unresolved issues you are currently working on that could materially impact performance? If any of these or other aberrant situations exist, it is critical to understand and potentially address them before going to market. Understanding the following financial, operational, and administrative factors, and being able to explain why they are or are not expected to recur can improve the chances of attracting the best buyer, negotiating advantageous terms, and ultimately closing a transaction.
Is your business growing and is the growth sustainable?
A buyer of a business is paying for the future. It makes sense then that a business with growth prospects is easier to sell, and a buyer will be more likely to pay a premium for a growing business, if that growth appears to be sustainable.
Have your margins fluctuated, improved and/or are they expected to improve?
A buyer will want to understand how future profit margins will deviate from past profit margins. Businesses that generate sustainably higher profit margins often command greater valuation multiples, particularly when there’s anticipation of margin expansion ahead.
Is your industry expanding?
If there are industry tailwinds and untapped market opportunities, this may differentiate your business from others and likely lead to more advantageous terms.
Do you have customer concentration issues?
The higher your customer concentration, the greater the perceived risk to your future revenue and profitability. Diverse businesses typically command greater valuations because they would not be materially impacted by any one customer loss.
Is your revenue recurring or episodic?
A buyer is likely to offer a higher price for businesses with recurring revenue, all other factors held constant. However, if your revenue is more episodic and seasonal in nature, that may not deter a buyer, particularly if you have a track record of success in varying business environments, such as during recessions or cyclical conditions.
Are there any specific risk factors that are unique to your business?
These will come up in due diligence, so it’s better to think about these items now. How can you best resolve or mitigate these risk factors?
Do you have a strong leadership team behind you?
It’s likely a buyer will pay a premium for a business with a deep management team. If you or any one key individual hold all the customer relationships, a buyer will likely perceive future cash flows as riskier, as customers may take their business elsewhere if key individuals separate from the company. If the management team is thin at the time of the sale, this may also result in a lengthy post-sale transition period.
Is your leadership team aligned, and will they support the transaction?
Generally, if the leadership team is aligned and each member of the team is in support of the transaction, momentum will be easier to maintain, and the buyer may perceive the team and culture to be stronger.
Have you been successful in retaining employees?
Your staff can be a significant selling point. Whether rank and file or members of the leadership team, employee turnover impacts the value of a business. Be mindful of turnover and ask yourself how you can improve retention across the organization chart.
Are your financial statements organized, complete, and in accordance with GAAP?
If your financial reporting and controls are weak, the due diligence conducted by the buyer will take longer and potentially uncover issues that can delay or derail a transaction. In most cases, a buyer will have a Quality of Earnings (Q of E) analysis performed by a third-party accounting firm that will analyze your historical financials to get comfort around non-recurring items, revenue recognition, margin analysis, reserve policies, proper accruals, and a host of other items. Understanding this process, and potentially performing it preemptively will significantly reduce the likelihood of surprises being uncovered during the process.
Do you have audited or reviewed financial statements?
Access to several years of audited or reviewed financial statements prepared by an outside CPA firm can save you and your buyer time during due diligence.
Are your key contracts signed, current, and able to be produced?
Whether it is customer or supplier contracts, distribution agreements, licensing agreement for intellectual property, or any number of other legally binding agreements, they buyer will expect to see them to ensure that it has a full understanding of their terms, enforceability, and any resultant implications. Having key contracts available early in the diligence process, and making sure that they are in force, signed, and up to date will pay countless dividends later in the process.
Is your infrastructure up to date?
If you don’t have the proper information systems and infrastructure in place to support the day-to-day operations of the business, it may be worth making these investments before you initiate the sale process. Buyers typically don’t want to make significant investments on day one. Further, they will expect detailed reports around customers, product lines, purchases, and a host of other operational data. To the extent that you are unable to provide it, the veracity of your systems can be called into question.
Do you have any open legal, compliance, or tax issues?
This can lead to delays or funds being held-back for a period of time. Again, being able to explain the nature of these issues, any perceived exposure, and the steps that have been taken to date to address them will give the buyer more comfort that they are quantifiable versus finding out about them deeper in the process.
While this by no means covers the myriad aspects of a business that buyer will scrutinize, proper planning, and a thorough understanding of the things that can delay or derail a sale process is critical to a successful process. Momentum is critical in getting a transaction closed, and surprises are the number one factor that slows momentum. A proactive approach to the process, and a small investment of time and money in the planning process will dramatically improve your chances of a successfully closing a transaction on favorable terms. If you have questions regarding any of these topic areas specifically or want to better understand how to best position your company for a sale, please contact us.
Suppose your business is primed for a sale. The next question usually becomes, “Who is the right buyer for my business?” Various buyer types exist, which we commonly group into existing management (management buyout), financial buyer (private equity, family office), strategic buyer, or Employee Stock Ownership Plan (ESOP). As we continue through this series, we will outline the advantages and drawbacks associated with each buyer category.
For other related content now, check out the prior post in this series!