Top 10 exit considerations
(Editor's note: This is the second of two parts. Read Part One.)
Selling a business is a process that requires discipline, focus and effort, yet many sellers do not realize the time and effort involved. The actual sale of the business is one of many events within the exit process – and the sale itself is typically not the last step. Research shows prepared sellers earn greater sale proceeds and more favorable outcomes; however, a significant majority of business owners don’t have an exit plan and are unprepared to sell or transfer their companies. To increase the likelihood of a successful sale, here are ten factors to consider when preparing an exit strategy.
- Consider Your Exit Options. No two exit strategies are alike, and there are several options to consider. Owners should initially consider whether family members or existing employees would be suitable buyers. If not, the owner may next consider whether a competitor, customer or supplier would be a logical fit. Another key consideration is whether, as an owner, you prefer to sell to a strategic buyer or a financial buyer. This is very important, as strategic buyers and financial buyers will likely differ in the valuation of your business, your involvement in the business post-closing, the retention of employees, and the degree to which proprietary information obtained during the due diligence process can be used competitively against you if a transaction falls apart. And, don’t assume you know the universe of potential buyers. Solicit an expert in mergers and acquisitions to help identify a desirable buyer you may not have initially considered, and a buyer who is most likely to pay you fair market value or above for your business.
- Get Your Financials in Order. Having your books in order and being able to articulate why your accounting methods and estimates are reasonable is vital to a sale. Notably, if your prospective buyer is currently, or soon, expects to become a public company, it is possible considerable work may be necessary to recast certain historical transactions in accordance with regulations that go beyond your private company accounting methods. Of course, your accounting should be consistent from month-to-month and supporting documents, i.e., invoices, receipts, and account statements, should be readily available. Also, don’t forget to notify your accountant, as he/she is intimately involved with your business and can highlight areas of concern that should be addressed before inviting prospective buyers to pour over your financial records. Other service professionals you will likely need to involve in your exit process include your attorney, an investment banker or business broker and any other financial service and product providers. Finally, if you haven’t had a financial statement audit, consider getting one. Anecdotal evidence suggests a company may lose valuation if a financial statement audit is not available.
- Be Prepared to Explain Your Business’s Performance. Be ready to articulate your company’s recent performance, and know which events were one-time in nature and which are indicative of new trends – either positive or negative. As with most companies, you likely have had a few ups and downs in recent years, so it is important to tell a prospective buyer a consistent and factual story.
On a related note, make sure you understand your reasons for selling. Put yourself in a buyer's shoes – if this is such a great business, why do you want out? There are countless legitimate reasons to sell, so don't despair, but know that a buyer will be thinking this throughout the sales process. Self-awareness about your reasons for selling will also help you identify which negotiation items to push back on, and which items to let go. Understand what matters to you in the beginning, because there will inevitably be negotiating points which will make you uncomfortable.
- Have Plans in Place to Address Difficult Situations and Negative Trends. You should be ready to address potential deal-breakers – how you’re planning to remedy these issues as well as why you haven’t already acted. And be sure to address your business’s problems up front. Maintaining trust with your potential buyer is absolutely vital to a successful transaction. A buyer will want to see a well thought-out approach to tackling your business's biggest issues. In many cases, the fact that you are prepared to tackle these issues can be just as strong of a selling point as the results you expect to achieve. Remember that some of your business’s challenges may be the very reasons why a particular buyer is interested in buying your business – these challenges can also create opportunities.
- Plan to Act on Growth Opportunities. Since most deals involve some type of employment agreement for selling shareholders, be prepared to explain how you are planning to grow the business post-closing. Be ready to talk about and show your company’s greatest strengths and opportunities (but also be ready to again answer why you haven’t acted on these yet). Also, be ready to defend and explain these opportunities – they have to be believable and achievable, as your buyer’s investment thesis is predicated on their success.
- Prepare a Defensible Budget/Forecast/Projection. Not all business owners prepare forward-looking financial documents; however, a buyer will want you to do so. Putting in place a budgeting and forecasting process well in advance of a sale can demonstrate the accuracy of your process. In doing so, consider what areas of the business you think you can grow, how much will it cost to do so, and whether you expect short- or long-term changes to your operations (such as a change in staffing levels, a one-time capital investment, or changes in pricing or procurement costs). Be realistic, but not overly conservative. A good budget should be somewhere between a stretch goal and a conservative goal.
- Consider Removing Personal Expenses from the Business. Are you running your company as an extension of your personal checkbook or like an independent investor would? Most likely, it is something in between. Can you prove the level of discretionary or personal expenses in your business, such as travel, vehicle expenses, sports tickets, gym memberships, cable bills, etc.? If you employ family members, you’ll also need to document and attest to the fact that their wages are reflective of their efforts and responsibilities. Eliminating personal items several years before a sale will allow you to capture maximum value for these “add-backs.”
- Document Your Key Customer and Vendor Relationships. A buyer will be interested in knowing what ongoing commitments you've agreed to since they will soon be your buyer's commitments – assuming that such agreements are transferable post-transaction. It's imperative to document all third party agreements and arrangements so your buyer is clear on the terms under which it is bound with suppliers and customers going forward. Common features to look out for include built-in price increases, volume discounts and unusual termination clauses. Of course, it's desirable that all such arrangements are already written out and signed by both parties. Plus, you'll appreciate already having these agreements ready to go when the multiple rounds of document requests start coming in. Finally, as you go through this process, make certain you are in compliance with these agreements, as it is surprising how often companies are in violation of one or more material agreements.
- Understand What It Will Take to Retain Employees Post-Closing. Transactions create uncertainty, and uncertainty is usually perceived negatively by employees. While it may make sense to keep some or most all of your employees in the dark until a sale is consummated, it is important to the buyer that your key employees understand what is occurring and what it means for them. A buyer will often want key employees to sign agreements as a condition to the transaction, and may be willing to offer employment terms after the transaction that are more favorable than what they're currently getting from you. It is helpful to a buyer and the buying process if you understand what it will take to get your employees to buy in post-transaction so that key employee retention is not an issue. It is also the time to resolve any informal agreements or perks previously agreed to with existing employees. Finally, consider options to keep key employees’ incentives aligned with yours to help facilitate your exit objectives.
- Know Your Value. According to the International Business Brokers Association, the greatest hurdle to deal completion is a seller’s value expectations, so it is worth examining the basis of your expectations. Is it from an independent appraisal, research, word-of-mouth, a professional service provider, or another source? There are a number of factors in every transaction which can impact the sales price, and comparable transactions – while relevant – should be used only as a guide and not a direct indication of what can be achieved in any given situation. Having a realistic value in mind, knowing the absolute minimum proceeds you are willing to accept, and keeping top of mind your key negotiating points will allow you to better respond to the offers you receive, and help you quickly decide whether to move forward with a buyer.
Every sale is different and these are only some of the factors that will impact your sale. Notably, there are many tax, information technology, operational, and other factors to consider in the months and years before an exit (and it’s recommended to prepare for a sale at least five years before the actual transaction). Also, keep in mind you will likely be working with the buyer for some period after closing, so you’ll want to get through this process on a positive note. Focus on the end result and be creative, flexible and patient.