SelfInformed

October 2014


Selling Your Business — A NASE Guide

Wednesday, October 29, 2014

The minute you decide to sell your business, you face two choices:

1.     Will you proceed immediately and offer your business in its current condition? (Realizing that you may need to make price concessions to account for unaddressed weaknesses that the buyer can indicate.)

2.     Will you delay your sale or extend the process to involve investing efforts and funds necessary to overcome its weaknesses and improve its attractiveness to prospective buyers?

Your answers depend entirely on your personal motivations, and your own goals and objectives. These will aid you in creating an in-depth profile of your prospective buyer; understand how they will gauge your business; valuing your business; and pricing it right before listing it for sale.

This short NASE guide will aid micro business owners (aka small business owners) and entrepreneurs properly prepare their business for sale. Let’s start with a brief on personal motivation and goal setting for your sale.

 

Your Personal Motivations for Selling Your Business —

A Checklist

Why do you want to exit?

Answer the following questions and state the urgency of your exit timing. (Are you willing to transit out of the business over time or immediately?)

  • You are no longer passionate about your business
  • You are feeling burned out
  • Your business is geo-centered and you want to move to a different location
  • You believe your business has hit its revenue potential
  • Problems with partners
  • You want to diversify but the business has tied up your entire net worth
  • Overwhelming financial problems
  • You want to retire
  • Other

While answering questions keep in mind that an immediate exit can dramatically affect the sale price of your business. The following are the prime reasons:

1.     You eliminate the opportunity to strengthen the attractiveness of your offering by overcoming weaknesses identified by the prospects

2.     A prompt departure eliminates the possibility
of a transition period during which you can strengthen the business and overcome various weaknesses as identified by the buyers and agreed upon during negotiations. Hence, you reduce possibility of receiving higher offers in line with
a negotiated agreement.

3.     An immediate sale/payoff makes it impossible to offer any seller financing that are known to allow buyers to offer higher selling prices.

Next, select and resolve conflicts in your priorities, which can include one or several from the following:

  • An immediate departure
  • The highest price possible
  • All-cash payoff at closing
  • Post-sale involvement with your business
  • Post sale priorities such as little or no disruption to clients or staff
  • Pre-sale preparation followed by future sale

Your Goals and Objectives for Selling Your Business —
A Checklist

Set Your Sale Goal

What do you hope to achieve from the sale?

  • Sell your business in full while remaining involved in its operation
  • Sell your business in part while remaining involved with its operation
  • Sell your business in full and end involvement with its operation
  • Other

Set the Timeline

Decide the time during which you hope to complete the sale process e.g. (0–6 months, a year, etc)

 

 

Set the Financial Goal/Expected Outcome

What are your preliminary financial expectations from the sale of your business? This includes setting the price for your business. We will discuss how to properly value your business in the next section, but here’s a preliminary on pricing:

For now, consider the following questions to arrive at a preliminary pricing multiple for your business sale:

  • My business is in strong condition and likely to command a high sale multiple
  • I’m prepared to accept a lower pricing multiple due to the current condition of my business
  • I’m willing to commit time and effort to strengthen my business condition and therefore to improve its likely pricing multiple

Next decide on the form of payout you are looking for:

  • Will you provide a seller-financed loan for a portion of the sale price?
  • Do you require an all-cash payoff at closing

The answer can affect the net sale price the buyer is willing to pay, and in case of presence/absence of seller financing capable of paying.

Whose You’re Prospective Buyer?

When you began your business, you must have created a customer profile for your target audience. Now you have to create one for your buyer. Here are a few primers to create your prospective buyer’s profile:

  • I prefer or am obligated to sell to a partner, key employee, employee group or family member. (If so, you won’t need to list or market your business for sale. Instead, you’ll work with legal and financial advisors as you pursue next steps.)
  • I intend to pursue a sale to a targeted business such as a supplier, competitor or strategic business buyer? (If so, you won’t need to list your business for sale. Instead, you’ll work with legal and financial advisors as you strategically market your business to select targets.)
  • I seek to sell to any buyer who has the financial and managerial capability to buy my business. (If so, proceed with the following parts of this guide as you prepare to prepare, list, market, and sell your business.)

 

 

After-sale Objectives 

Your Personal Departure Objective

  • I want to stay involved with my business in a managerial capacity after its sale.
  • I’m willing to remain involved over a post-sale transition period of 3-12 months.

Your Post-Sale Objective for your Business

  • I prefer to sell to a buyer who plans to retain employees and therefore cause little disruption in their lives.
  •  I’m willing to sell to a buyer with plans to merge, move or significantly alter the business.
  • Once you answer these questions, which may take some soul searching and careful consideration, you’ll be clear about what you want from your business sale. You may end up adjusting some of your objectives along the way, but the outcome of this step puts your sale goal into words and sets your sale effort in the right direction.

Hence, we believe that you must consider the need for an immediate exit as a perceived need.

Valuing Your Business, or What Matters to Your Buyers

The fact of the matter is that simply “being profitable” can never make you scalable.

The Pricing for Your Business

How much should you ask for, making sure that it is neither too high nor too low?

The answer to this primarily depends on the pre-sale condition of your business. A rule of thumb, applicable for most small businesses, is to sell at a multiple of 2–4 times annual multiple based on business condition and attractiveness to buyers.

Here are the primary motivations for buyers to pay more than what you had actually valued your business for:

Money — It is true that cash opportunity drives purchase decisions but buyers are looking for more. It’s called a recurring revenue, or the revenue that they can expect with high predictability. These include things like subscriptions or long-term contracts.

A quick way to value your what your recurring cash stream are worth and then to divide them by the rate of an investment of comparable risk.

Example: if a business is able to put away $40,000 every year in the bank knowing that if they had invested it in the business they would have a predictable and total going rate of return of about 4%, then the cash stream of that business is worth (estimated) $40,000/ 4 percent (i.e. 0.04) is $1,000,000.

Market — The next thing the buyer wants to know is the market share of customers your brand has. Call it your brand position, your customer base, or simply the market share, it is the one thing that lets the buyers estimate how long it will take for them to gain back on their investment. Take the example of Yahoo buying Facebook in 2006 when it had around 20 million users.  Yahoo bid it at $1 billion. Divide that with Facebook’s customer base and it comes to $50 worth of ads to each user to make good on that investment. For Yahoo, at that time, it would have taken 2 years to earn the whole investment.

Competitive Advantage— the buyer will take into account the competitive edge your business has over others in the same niche. Things such as trade secrets, talent pool, technology etc. This can be hard to quantify, but a good estimate can be gained from how much it would take to hire the same talent pool or to make the same thing on their own, or how much your competitor is willing to pay for the patented knowledge you have.

 

Established Methods of Valuing a Business —

A Checklist

Important considerations, and established methods of valuing your business include:

  • The asset valuation method to value a business.
  • Minority discounts, and how they affect the money you get.
  • How your deal structure can affect the ‘real’ value you get for your business.
  • Reasons why people sell a business
  • Tax advantages of selling your business.
  • Planning your exit strategy: how it can help you get a better value for your business.
  •      How much it costs to sell your business.

 

Preparing Your Business for sale —

Your Pre-Sale Checklist

  • Bring your financial statements in order
  • Estimate the value of all tangible assets of your business
  • Prepare your statement of Seller’s discretionary earnings
  • Estimate multiples, based on:
  • Do the math on your own — arrive at an estimate of purchase price
  • Compare prices with recent listing your business category and other comparable businesses

Final Words — When Should You Sell

“Now might and might not be a good time to sell your business” is the adage that has plagued self employed individuals and entrepreneurs for decades. The recent report by the BizBuySell Insight Report found that the number of deals that closed n 2013 had increased by 41.7 percent in the third quarter relative to the same quarter the year back.

This healthy selling climate is expected to continue. That’s good news for those eager to retire or cash out and start another venture.

A survey conducted by Dykema, a law firm headquartered in Ann Arbor, Mich showed that the market for acquisitions and mergers are expected to pick up by 68 percent. Furthermore, the experts claim that the low interest rates also allow affordable financing to be had and hence increase the closing sale price. 

But the market for small business has always been unpredictable and so owners shouldn’t simply sell because there’s momentum in the market. It is crucial that you spend time and effort in understanding your motivations, and properly valuing and preparing your business for sale.


Sources:
www.bizbuysell.com/news/media_insight.html
www.dykema.com/assets/htmldocuments/MASurvey.v2.10.2013.pdf

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