New entrepreneurs are likely to hear lots of doom and gloom statistics about the probability of failure. The current figure supported by the Small Business Administration is that more than half of all startups will fail within the first five years. That's a daunting number.
Most Business Owners Ask the Same Questions
- Does my business have value?
- What is that value?
- How do I get that amount?
In most cases, a going concern does have value beyond the assets. The best way to find out is to secure a professional valuation, but here are a few good indicators:
- Established name-A proven or well-known name provides credibility. A buyer will have an easier time opening doors with your established brand than if he or she started their own company from scratch.
- Industry knowledge-Business owners with unique or proprietary industry knowledge can share that information with a buyer for a price.
- Trained staff-A company's people assets are one of the most critical components of success. It takes time to train people and create a culture. Buyers know that a great team is a huge asset.
- Relationships-You have existing customer and vendor relationships that have taken years to create. With a little help from you, these relationships can be transferred to a buyer.
- Barriers to market entry-How easily could someone start your business today? The more barriers to entry, the higher your value.
- Cash flow-The strongest indicator of value is cash flow and the ability to cover debt.
A professional valuation will weigh these factors against market conditions to determine your business's fair market value.
Why Owners Sell
People sell their businesses for several reasons. The most obvious, of course, is retirement. What's actually more common, however, is that owner gets burned out or the business grows too big.
Time and time again we meet business owners who were highly skilled at a specific trade-excavation, electrical work and/or construction. They loved their jobs and decided to strike out on their own and start a business.
They have so much passion for their work, and that excitement sometimes translates into success. The business grows, new contracts are secured and additional employees are hired. Unfortunately, added responsibility, increased liability and human resource issues accompanies that success.
The job changes considerably, and the business owner suddenly finds himself stuck inside handling paperwork when he would rather be out on the jobsite talking with customers and overseeing job progress.
Here's why a few of our clients decided to sell:
"Steve and John" felt emotionally burdened with responsibility for their employees. They didn't see a successful, growing company; they just saw the need to keep seventeen employees with seventeen families gainfully employed.
On the other hand, "Gary and Chad" started turning in inflated bids, purposely intending to lose jobs in order to keep the workload manageable and avoid hiring more staff. The funny thing was since they had such a stellar reputation they kept getting the work anyway.
Then, there was "Dan" who had an established construction business with a niche in the agricultural industry. Dan loved being a builder, overseeing jobsites and pitching in on a framing project. He loved the bidding and the sales process, but he didn't like the paperwork that came later. He wanted to know if his bids were on target and his jobs profitable. He wanted to know where he should reduce costs or speed up the process. He felt that any conscientious business owner needed a solid grasp of these numbers. But that kind of examination takes a lot of time-too much for an owner who is busy working full time in the business. So, Dan fluctuated between drowning himself as he waded through job cost data and feeling guilty that he hadn't.
Even worse for Dan, were human resource issues-the hiring, the firing and the disciplining. The paperwork was one thing, but the emotional impact of taking away someone's job was even harder.
Ultimately, each of these owners decided it was time to sell. Some wanted to keep working in lower stress roles, and some intended to simply spend more time with their families.
Selling your business is a tough decision and it's one that should never be rushed into. Ask yourself several questions:
- Why are you selling?
- Are there any alternatives to sale such as outsourcing or hiring an executive assistant?
- Are you really prepared for life after a sale?
- What will you do with your time?
- If you plan to continue working, can you tolerate being someone else's employee?
The Sale Process
To get the most value out of your business and avoid leaving money on the table, a business sale is best handled by a professional advisor. In the mergers and acquisitions industry, this person is known as a business broker or business intermediary.
Think about the hours that you are already putting into your company. Now, add to that the several hundred hours necessary to complete the complex selling process. Working with an intermediary will free you to focus on your business at this critical time. An intermediary will also keep the process confidential since any breach in confidentiality can negatively affect the price.
Before choosing your advisor, ask for references and check their track record. In the same way that construction customers ask about average price per square foot and change fees, there are several questions to ask your potential intermediary. Find out his or her closing rate-how many of the businesses they list are actually sold? Ask how many businesses they market at one time. Some intermediaries take on as many engagements as they can get and will simply list your business online rather than executing a comprehensive marketing plan. Cornerstone Business Services typically handles about four or five engagements per intermediary.
You should also talk with your intermediary about the market climate and tax implications of a sale. He or she may recommend that you reorganize the sale structure for a better after-tax return or even wait on a sale while the market changes.
After determining the value of your business, your broker will put together marketing materials and confidentially advertise your company to prospective buyers. He or she should screen all inquires to ensure that sensitive information is only revealed to qualified, committed buyers that are financially qualified. Once a buyer is secured, the intermediary will guide you through and coordinate the final sale. Expect the entire process to take nine to twelve months. At Cornerstone, we've sold businesses anywhere from within two to eighteen months.
Looking Beyond the Sale
Some owners want to sell, but they don't want to leave the business, and that's possible to negotiate during a sale.
First of all, most buyers will require that the seller stays with the business for a short transition period. This could be anywhere from one to six months. Because construction is a relationship business, transition time could be longer. Sometimes the seller agrees to stay on under an extended employment contract, often with fewer hours and obviously fewer obligations.
In the case of Dan, our agricultural builder, he specifically wanted us to find a buyer who would let him keep working with the company. That made our search a little harder. We couldn't find just any qualified buyer; we needed someone who was a good fit for Dan personally.
It's not uncommon for sellers to express at least some interest in working for the new owner. While Dan was fairly committed to staying with the company, most sellers come to the table willing to negotiate. Sellers who are facing retirement often prefer to transition to part-time work before leaving the business altogether.
Generally it's a win-win for all involved. Dan got a financial return for all the years of hard work he put into his business. He also got to continue doing the work he loved while someone else took care of all the paperwork and headaches. From the buyer's perspective, he got a business with a great reputation and an established name, plus he got to keep the company's most valuable employee.
When selling your business, finding an interested buyer is only one hurdle you need to overcome. Sometimes finding financing for that buyer is also a challenge. When that happens, seller financing can mean the difference between putting the transaction together or walking away.
Banks typically will loan a specific portion of the asset value and then only as supported by cash flow. Consequently, even when the buyer has a significant down payment, there are times when a large financing gap is left on the table.
With seller financing, the seller acts as the bank for all or a portion of the agreed purchase price. This allows the seller to get the maximum value for the business. We recommend sellers only fund a portion of the sale price so the buyer keeps some skin in the game.
Buyers find seller financing attractive because it means the seller retains a vested interest in their success. When seller financing is involved, the seller is more likely to ensure the transition goes smoothly and more likely to help out in tough situations.
Based on our own experience and anecdotal evidence, we've been seeing seller financing in the range of 10 percent to 30 percent of the overall purchase price. The seller gets the majority of his money at closing, which eliminates a lot of the risk.
Plan Ahead to Sell
Ideally, we advise sellers to begin planning three years in advance of a sale. This gives you time to drive cash to bottom line and add value in other areas. (See the sidebar, Adding Value to Your Business.)
Of course, such long-term planning is not always possible. If you work with a professional intermediary, he or she will market your business in the best possible light.
Selling a business is a process, not an event. A business intermediary has the time, network, resources and experience necessary to not only get your business sold, but to get you top dollar.
Adding Value to Your Business
Here are some of the more concrete ways you can improve the value of your business. Buyers will typically pay a premium for a profitable turnkey business with a good growth story. A distressed business might not even obtain fair market value for equipment or real estate due to lack of cash flow or growth story.
Buyers want to know that the business is in order and that your existing revenues can be maintained by sustaining what you already have in place. Even better, they want to see a vision and plan to take the business to the next level. Communicate your growth story and your competitive advantage. Highlight these intangible assets; they convey a value that financial statements alone do not.
1. Share your secrets
Jayme Dill Broudy's advice column, featured in the July 2006 issue of this magazine, dealt with the importance of setting family life ahead of business. She advised business owners to hire additional staff and/or delegate tasks. She couldn't be more right. But while Broudy emphasized the positive impact on your family and personal life, I want to emphasize the impact on your business.
Believe it or not, your business will be worth more if you learn to let go. I'm not talking about decreasing your sales activity or letting your maintenance schedule fall behind. What I mean to emphasize is the importance of developing your staff and documenting business processes. If you're the only one who knows how to run the show, then your business is inherently less attractive to potential buyers. Delegate responsibility to key employees and involve them in the decision-making process. Provide cross-training. It may not be good for your ego, but being able to demonstrate that the success of your business is reliant on your capable, well-trained employees-not just on you-will pay off in the end.
The same goes for documentation. Don't keep your secrets to yourself. Put employee job descriptions, operation processes and strategic plans on paper. This gives a buyer greater comfort that he or she will be able to emulate your successful growth and it will help your buyer obtain financing.
Neat and readily available financial records convey a sense of quality management and develop a buyer's trust.
2. Clean up your act
Remodel, clean and organize. Though it's the first thing people do when selling a home, few business owners take the time to do this before selling their business. A modern, well-maintained facility will get the best price. Even business owners that lease space can benefit from a thorough cleaning and reorganization, as this too conveys quality and efficiency. Most buyers are looking for organized companies and will be put off by the perception that a company runs by the seat of its pants.
3. Get friendly
Whether your business has a lot or a little in the way of hard assets, much of what you have to sell is your relationships. Name recognition, customer awareness and your reputation are all part of your business value.
4. Take it over the table
CASH IS KING. Drive all income to the bottom line-the buyer wants to see the true cash flow.
Eliminate perks the business provides you and your family, ideally for the last three years before you sell your business. While you may be saving 35 percent in taxes by running expenses through your business now, some estimates say you'll lose $3 to $6 in sale price for every one dollar claimed as a business expense that can be clearly explained on paper. Buyers must be able to see how they can pay the debt service payments and pull out a reasonable salary and/or return on their investment. More cash flow equals more debt service they can pay, which equals a higher purchase price.
5. Improve your assets
Sell off or dispose of unproductive assets or unsalable inventory. Remove or buy off any assets that are primarily for your personal use. Replace or repair equipment near the end of its lifecycle. Many buyers and lenders want to know that limited capital expenditures will be required in the first few years after the sale.
Construction Business Owner, November 2006