Begin with the end in mind. The old maxim applies to business ownership and business exits.
Though it might seem a little counter-intuitive, you should be thinking about selling your business when you start it and while you run it–even if you have no intention to sell it any time soon.
The reason for this is laid out in the great book by John Warrilow, Built To Sell. A business that is not able to be sold is not valuable.
A business that is ready to be sold has value, even if you don’t sell it.
So when you do decide to prepare for a business exit, one of the main things you’re doing is really ensuring that your business has as much value as possible. Among other goals, you want to receive the full monetary reward for your years of hard work.
Exiting your business is a process that must happen at some point. There are various reasons that drive people to sell their businesses.
You might want to retire. You might be ready to hand-off your business to your kids. You might want the money. Or a new challenge.
There are, however, specific times when preparing for a business exit makes sense outside of these strictly personal reasons.
- Your company may have outgrown the skill set which you bring to it.
- The market might be starting to move against you.
- There is a lucrative opportunity which just came your way.
The key is not to be unprepared. By devising an exit strategy before you need to implement one, you set the stage for a smoother experience and a bigger return.
Preparing to Sell Your Business
It’s important to remember that the completion of a business sale may take 12 months or more. That timing must be at the forefront of your overall exiting strategy.
Go into the process with the expectation that a sale will not be immediate.
Then you can take some steps to prepare your business for sale.
Work With An Experienced Broker
Don’t make the mistake of trying to go it alone.
There are business brokers that focus on selling small businesses. A good one will have extensive (and also recent) experience with the expectations of different types of buyers in your industry and will start with you by working to set reasonable expectations of value.
A good broker will also know your industry and have professional contacts with corporate business development officers and others who may be potential buyers.
Your broker will develop materials appropriate for marketing your business to potential buyers.
A good broker will be honest with you about expectations and also help keep you calm and confident during the sales process.
Get a Professional Valuation of Your Business
Your business can be valued in different ways. It does not have a set, ‘correct’ value.
It depends on such factors as your financials, whether your business is being sold to a financial or strategic buyer (see below), what public companies in your industry are valued at currently, the general economy and what financials the acquirer prefers to prioritize.
Your broker will help you understand how your business can be valued.
A professional valuation will give you an idea of what future offers are fair and which ones aren’t sufficient.
An outside valuation will also give you a better idea about the position of your business in your current market and what strengths provide the most value to the process.
Hire an outside firm to provide you with this evaluation. It will help set a strong foundation for your exit strategy and give you firm number ranges about the value you should expect.
What Drives the Value of Your Business?
The first step in the exit process must be a determination of value for your business. There are real value drivers and perceived value drivers which must be considered when coming up with a final number.
When planning your exit strategy, it is important to have a fresh set of eyes examine both sets of value for you. Inside perspectives may over-value some aspects of the business or under-value others.
An outside perspective gives you a better look at what the actual value of the business can be.
There are several factors which can influence the value of a business positively and negatively.
- The reputation of your business and the quality of goods or services offered.
- Customer relationships which have been built over the years.
- An effective network of vendors and distributors which support your brand.
- Intellectual property items such as a trademark or patent.
- The quality of your C-Suite and the intellectual capital provided by your employees.
When you take the time to assess the value drivers of your business before you initiate your exit from the business, you have a chance to shore up any weaknesses which may be present.
Your technology may be outdated, dragging the value of your business down. You may be paying more for domestic manufacturing than if you sent it offshore.
You might have debt to restructure, management upgrades to make, and cash flows to improve.
If you’ve worked with the same people for decades, it can be difficult to separate yourself emotionally from this process. That is why the first step in the preparation for an exit is to bring in a third-party advisor you can trust.
Besides revenue growth, your earnings, or EBITDA, is the metric many buyers use to place a final value on your business.
As look toward having your business in a position to sell, focus on growing this number. You’ll receive a better buyout when this number is higher.
Make Sure Your Financial Records Are In Order
Buyers will want to look through your books (and other aspects of your business) before they finalize any purchase. This is called due diligence and it is a routine part of any business sale.
You will usually need at least 3 years of financial data to provide to a buyer. Some buyers may request up to 7 years of financials to evaluate.
For small businesses and sole proprietorships, some buyers may be satisfied with a series of tax returns as evidence of your financial health.
Talk With Your Financial Advisors
There will be personal tax responsibilities and unique financial issues which must be handled as part of your exit strategy.
Every situation is unique.
By speaking with your financial advisors, you’ll be able to see options within a deal that will limit your current and future liabilities.
When you sell a business asset in the United States, the rate of taxation may be as low as 15% or as high as 35%, depending upon how the income is classified. You will need to fill out Form 4797 from the IRS to report gains made from the sale of any business property.
Create Some Curb Appeal
How many buyers would purchase a new home if the outside of the property was littered with trash and the exterior of the home looked damaged?
As part of the sales process, your prospective buyer or its representatives will almost certainly be coming to your business site at some point. Make sure it looks its best.
It may not materially affect your business’ operations (especially if customers don’t visit your offices), but a disorganized or unclean office can make a first impression that’s hard to overcome.
If you want someone to be interested in your business–or maintain interest–you’ve got to look the part. Focus on making a positive first impression.
Get Your Licensing In Order
You’ll want to get all of the legal administrative work out of the way as part of your exit strategy.
That means your licensing agreements should be up-to-date. Renew your business licenses if necessary. Update your vendor contacts.
Inform your customers. Get your lease in order. Then make sure your buyer can review all this information at their convenience.
Buyers may need to obtain their own licenses and permits to work with your business in the future. Having this information available to them will help them know what to expect, which makes the buying process easier.
Have A Succession Plan
If you are the driving force which keeps your business afloat, then you’ll need to train someone to take your place.
Or better yet, just have a great management team that will stay in place. (There are various incentive packages that can motivate your management team to want to stay through an ownership transition.)
A business driven largely by the regular involvement of the owner is far less valuable than a business that can be run without much owner involvement.
Bring people into your daily routine to understand what it is that you do for your company every day. Some will embrace the challenge with confidence.
Know Why You’re Selling
A buyer always wants to know why you’re exiting a company. Especially a strategic buyer. After all, if your business is such a great opportunity, why are you deciding to leave it?
Make sure you have an honest answer about why you’re leaving that is honest and optimistic about your business’ future and potential, even if your goal is just to create profits for yourself.
Being honest about why you’re selling a business can also provide you with a better final value. When buyers know exactly what it is that you want, they’ll be able to put together a better offer that can get you out quickly.
Do Your Own History Review Before Due Diligence
Be honest with yourself and your history with your company. If there are people who you’ve had to fire in the past, then they may try to cause trouble for you as a way to get even.
Think about any unpleasant surprises which might creep up during the discovery process for a buyer, then have a succinct explanation for any incidents which may be asked about.
You should never apologize for the decisions you’ve made in the past. Explain why you made the choices you did, then move onto the next step of the preparation or discovery process.
Buyers who get hung up on a small detail, like a past termination, are looking for an excuse to not purchase your business in the first place.
Once you’ve initiated the preparation process, you can begin to explore what the final value of your business could be.
Common Sales Options for Your Exit Strategy
There are three common groups owners sell their businesses to:
- Family member or members.
- A partner or an employee group.
- A third-party
Options such as recapitalization, minority sales, or some other variation which allows for ongoing partial control are also possibilities.
Each type of transfer comes with its own unique set of concerns which must be addressed within the exit strategy.
Selling To Family
When selling to a specific family member or to a general family group, you’re turning over your life’s work to someone you love and trust.
Retirement doesn’t come easy for most, as there tends to be a phone call here for help or a dinner meeting there to talk strategy. It can be difficult to completely disentangle yourself from the business with this exit strategy.
There is also the danger of having a dip in morale happen if there are employees in the business who are not part of the family.
If someone in the family becomes the new owner with zero experience, employees with several years of experience may feel slighted.
One way to counter this issue is to bring key employees into the sales process early on.
Give them a voice, listen to what they have to say, and there is a better chance that the resolution achieved will work for everyone.
Selling To Employees or Partners
People already deeply involved in your business are natural possible buyers.
Your exit strategy here should not be something that happens at the spur of the moment. You need to groom internal stakeholders to take over the key leadership position in the business before exiting.
For employee groups, there should be steps taken to ensure that the majority of employees will support the transition and remain with the business.
An Employee Stock Ownership Plan (ESOP)
An ESOP is a qualified retirement plan for employees.
The employees eventually become owners of the business, while the company gets to make contributions to the ESOP which are tax-deductible. Contributions may include cash or stock.
The size of your payroll will often determine the success of this exit strategy, as it will determine maximum contributions and purchase levels.
Selling To A Third Party
It’s very common for a smaller business to be purchased by a larger business. These transfers may involve cash, stock, stock options in the new company, or some other type of asset.
One of the key issues here is the credibility and strength of the potential buyer. Some buyers may approach you with a lucrative offer but not have the means to follow through.
They may ask to pay you in installments instead. Some might even ask that you guarantee part of the debt which occurs from the acquisition.
Keep a calm head as you hear initial offers. A good broker will also know of many of the legitimate potential buyers in your market beforehand and will have resources for assessing unknown ones that come along.
Financial Buyers vs. Strategic Buyers
Outside acquirers of your business will fall into one of two general categories: financial buyers and strategic buyers. Their differing motivations will affect the sale of your business in many significant ways.
Strategic buyers are companies buying your company to grow your business. Your existing company–with its customers, systems, management and perhaps IT and other assets–fits a strategic need for them.
Strategic buyers often will offer higher valuations. They’ll also often have an interest in you staying on after the sale.
Financial buyers see the cash flow and profits your business is generating and are interested in these financial attributes. They’re less interested in other attributes of your business.
Make sure you understand which type of buyer you’re selling to.
What About Taking the Company Public?
With an Initial Public Offering or IPO, you would offer shares of your company that can be traded on public markets. Your company would become a ‘public’ company.
There are millions of private companies in America–and only several thousand public ones.
It goes without saying that ‘going public’ is not a realistic exit strategy for most business owners. Indeed, many companies are built and financed (often through venture capital) for years with the eventual hope of going public–and still most aren’t able to do so.
Major institutional investors must be convinced to back your company.
The financing and aggressive growth often required to become a public company also entails a great amount of risk–more than many business owners will be willing to accept.
Common Mistakes To Avoid When Selling Your Business
Mistakes are going to happen during the exiting process, no matter how much advance planning occurs.
When you keep these ideas in mind, you’ll be able to make your exit become easier and you can limit the impact of the mistakes which happen.
Stay Focused On The Business
When involved in a sale, it’s very easy to focus on that instead of the operations of the business.
Entire C-Suites have been known to put their energy into a sales process instead of the daily demands that come from operating a business. Keep your focus on the business first, then the exit strategy.
Never assume that a deal is done until it actually is. Focus your energy on the business until you pack up your office and leave.
If you start dreaming about playing golf, sunny days on the beach, or extra time with the family, you may find that a deal disappears because you’ve committed to being away from the business already.
Don’t Assume You Know Other Sales’ Details
An exit strategy is not like the free-agency process in professional sports.
Just because someone else receives a huge sum when they sold their business in your industry doesn’t mean you’ll receive a deal of equal (or better) value.
As we’ve noted, business valuations depend on lots of details, including the priorities and strategy of the buyer.
Individual outside sales may be relevant as a piece of the valuation process for your broker or advisor if enough details are known. A good advisor will tell you how much weight should be placed on it.
Consider The Structure of the Offer & Beware of Earn-Outs
Not all offers with the same dollar amount attached are worth the same when you’re selling your business.
Many strategic buyers will offer ‘earn-outs’ as part of the deal. In these deals, you only get the full amount of money if you stay on at the acquired company post-sale and achieve some set of business goals.
Earn-outs are dangerous because you’ll of course have less control of the company post-sale and no guaranteed you hit your goals. Furthermore, you might just not want to stay at a company you no longer own.
Terms with cash or liquid assets such as stock that are paid immediately are much better.
Think about how quickly a buyer can close on a deal. Talk about contingencies. There might be issues which could stop you from completing your exit strategy, so focus on them as well instead of just the top-line number.
The devil is in the details.
Keep a Tight Circle of Trusted Advisors
When an exit strategy is being implemented, the uncertainty it causes can create opportunities for your competitors.
The last thing you need is for a disgruntled employee, who thinks they might lose their job, telling your customers to go to the competition because yours is being sold.
Keeping the news of your exit strategy to a tight-knit circle of advisors until the deal is finalized lessens anxiety and reduces the risk of a reduced market share.
Stay Flexible Within Your Parameters
Set your goals early, before negotiations with any other party begin. Know what you’re ideal offer is and what you’re willing to accept.
Having these in place can keep you more focused and balanced during a topsy-turvy acquisition process.
An exciting initial offer is frequently lessened after due diligence. It’s part of the negotiating process. It’s easy to get emotionally attached to a great, unexpectedly high initial offer.
Already determining on your own what you want and need out of a deal with make these offers and counter-offers less dramatic and less stressful.
At the same time, you must keep an open mind about your exit. Having tunnel vision on a specific offer may cause you to ignore better offers that come your way later on.
If there are potential issues with your business that may affect your eventual exit, then be honest about them.
Buyers who discover negative information about your business at the last minute are almost certain to pull away or reduce their offer.
Always work hard to present your company in its best light. Just don’t pretend to be something that you’re not.
Some Final Thoughts on Business Exits
Even if you’re selling a small business, there are important considerations that must be taken into account to achieve the best possible deal.
It takes time to close a deal–even when you’re well prepared. And it can be an emotionally taxing process of big hopes and false starts.
Most fortunes are not made overnight. The only secret to having a successful business exit is to work hard for it and treat it as a business process like any other.
When you’re prepared to face the unexpected, you’ll be able to get the most value possible from your business.