Guest Blog – Business Owner Focus
Chris Broome – Chartered Financial Planner
At Longhurst we work with a lot of business owners who, due to the very nature of their busy day to day schedule, may not have put a plan in place for their eventual exit.
To sell to an outside organisation?
To sell to your existing management team?
An Employee Ownership Trust approach?
Or perhaps a legacy plan for your family and loved ones?
Whatever your initial thoughts, we’ve asked our good friends from Cottons Corporate Finance to explain their belief on the 7 Essential Steps to Preparing Your Business for Sale.
7 Essential Steps to Preparing Your Business for Sale
Guy Pain – Head of Corporate Finance
Cottons Corporate Finance
(1) Always Plan, Ideally Years in Advance
- Owners of businesses often decide to sell at Christmas or during Summer holidays, and expect it to happen soon after they have made the decision. The realities of the processes involved mean that it will often take up to six months or even longer to sell a business, and that, even then, potential prices will not necessarily be maximised. A longer-term strategy needs to be adopted.
- The issues discussed in this presentation often require years of advance planning and your price achieved can be significantly increased with careful planning.
- Do not sell when you have to – in a distressed sale situation, most potential purchasers will recognise if you are in trouble, and this can significantly reduce the value of your business.
- Be clear on your reasons for wanting to sell as this will help determine your strategy. Prospective purchasers will want to know your reasons for selling and your reasons must be sincere. Most sellers are motivated to sell by factors other than the amount they will receive, for example retirement, illness, and other family related reasons, but other reasons may also be relevant including the fact that the business has grown too large to handle it, or requires exposure to new markets to allow it to fulfil potential.
- Get your professional support team resolved. The team will incorporate lawyers, accountants and possibly business sales advisors. Their assistance from an early stage can significantly improve the chances of a successful conclusion. Be aware that the processes of a disposal will inevitably require a considerable amount of your time. Although utilising proper professional support can significantly reduce the time that you will have to spend personally, it will still be significant, and the stress involved and time occupied has to be factored into the reality of actually continuing to run your business through the process.
- Get your timing right. Matters to consider here are such factors as maximising your own financial performance and profitability, economic considerations and any particular sector issues at the time. Don’t go for a quick sale. Most transactions are typically concluded when a new set of annual financial statements have been concluded.
(2) Understand What Are Your Most Important Criteria for Sale and How Your Business Will be Valued
- For some business owners, selling is not all about maximising the price achieved. Many owners want consideration given, for example, to employees, or the business staying in or around its present location. These issues must be identified as they will help to determine the strategy for exit.
- It is also essential to identify the basis upon which the business will be valued. Typically, business owners will want to sell, for tax reasons, the shares of the limited company that operates the business, rather than the assets of that company. For unincorporated businesses, the assets will be sold which will include a valuation for goodwill. In a sale of shares in a limited company, remember that they are also buying the history of the company as well. Therefore, you will be expected to assist in a due diligence process that will be undertaken by the purchaser, and more than likely be required to give warranties and other assurances about the company you are selling.
- The value of a business will usually be determined by a multiple of recurring profits. Recurring profits are those levels of profit that are expected to be capable of continued generation. Deciding what constitutes recurring profits is a complex area, but it would usually be determined by taking historic and predicted profitability, adjusted for non-recurring and exceptional items, and also adjustments for any reduction or increase in management salaries that are likely to be required as a result of the sale. This value may require further adjustment. The result of the multiple referred to above would assume that the business has an appropriate level of net assets in its balance sheet at completion. If, for example, you held considerable cash balances at the time of completion that are not required to pay immediate liabilities, then the purchase price may be adjusted upwards to reflect the surplus cash held.
- The multiplier varies considerably, but is predominantly decided by size – the larger the business, the more likelihood of a wider audience being interested thereby increasing its sale value. For example I have seen businesses merge in anticipation of an eventual sale, purely to maximise the size of their respective companies to maximise their potential end sale proceeds. Others have sought acquisition strategies to increase size many years in advance of a sale. Such strategies can help add significant additional value to an enterprise because of the increased size, the ability to utilise shared resources and customer bases.
- Valuation is an art and not an exact science. It is important that you understand the likely value of the business before you start the sale process, but the price you may receive could be determined by factors not normally considered within the remit of a valuation exercise. Be prepared to negotiate and to understand that the price has to be seen to be reasonable by both buyer and seller.
(3) Identifying Potential Purchasers
- What are their motivations for purchasing – difference between strategic buyers seeking synergistic opportunities (leading to a possible higher price being achieved), or financial buyers looking for strong cash flows to service debt and growth opportunities within the business. Do not underestimate the importance of identifying strategic buyers, those where your business will complement (rather than compete against) their own.
- Prospective purchasers must be screened – have they the resources to proceed with the purchase? Are they serious in their attempts to purchase?
- Many people sell to employees, competitors, and sometimes even customers, but these will rarely produce the highest price.
- In the current economic client, banks are still reluctant to lend at the same levels as they were doing a decade ago. This may make it difficult for any purchaser to gain access to the levels of finance required to compete a full purchase – be prepared to accept that you may have to allow for a proportion of the purchase price to be received on deferred terms, sometimes linked to the financial performance of the business going forward.
(4) Maximise Recurring Profits
- I have said that the value you will receive is most likely going to be linked to a multiple of recurring profits.
- However, this is sometimes not consistent with owner managed businesses that are looking to reduce disclosed profits to reduce tax liabilities.
- Financial and tax records should be up to date and as accurate as possible.
- Do not put personal expenditure through the business.
- In anticipation of a sale consider whether expenditure to be incurred is justified and will increase the value of the business.
- Consider provisions that have been made in financial statements to ensure they are reasonable and justified.
- Review all overheads in the business to see that these are minimised wherever possible. Within the recruitment industry, the cost of insurance has been found to vary widely.
(5) Consider Your Employees and Management Structure
- Any potential purchaser will be buying the business without you (except for a more than likely short period of time after acquisition). If the business is highly dependent on your own input then its value will be significantly reduced. Ensure that your staff and management are encouraged to take up decision making and business development so that you can demonstrate to any potential purchaser that the business can survive and flourish without you. This often takes a number of years prior to a sale to get completely resolved.
- Ensure that your key employees are motivated and will work with you whilst you sell. Employees are almost always the greatest asset of your business. Will they stay with the business if it is sold? Consider share option schemes or loyalty bonuses to gain their co-operation.
- Despite the various confidentiality issues that are always addressed in a business sale you have to be prepared that the information that your business is up for sale may become open knowledge, and you have to be ready to deal with staff in this situation. Potential changes in ownership usually cause widespread staff discussions, often leading to a perceived lack of job security. You have to be prepared to deal with this.
- Check that employment terms and conditions for your staff are appropriate and review restrictive covenants. A high turnover of staff may give evidence to a potential purchaser of a major structural problem in the business. Compare salary levels to normal industry levels.
(6) Strategic Planning
- Whilst any potential purchaser will be interested in your historical financial performance, what they are buying into is the future. It is important therefore to have a strategic plan in place that identifies where your business is going and how it intends to get there. This will include financial projections / forecasts that are soundly based on the information included in your strategic plan.
- Having a strategic plan in place will help to maximise the value of the business. However, if such a plan is implemented years before a proposed sale, and the financial performances achieved as stated in those plans, then this further maximises the value of the business, because a buyer is more likely to pay a multiple of expected rather than current earnings.
(7) Get the Business Ready for Sale
There are so many other issues that should be considered here, and they will vary from business to business, but will include:
- Try and resolve any litigation or taxation issues prior to sale – the less uncertainty there is, the smoother the process will be.
- Ensure property issues and leases are all in order.
- Is your marketing plan robust – the more well known your business is the likely higher price it will attract.
- Consider quality standards – having these in place will increase the size of the audience likely to be interested in your business.
- Ensure trademarks or intellectual property is protected and are/is up to date.
- Check wording of customer contracts as a change in business ownership can be considered to be a default.
- Check customer credit ratings – will your customers be able to continue trading with you, and pay you, at the current and predicted levels of activity – a reasonable purchaser will always check.
- Check the length remaining on key customer contracts and ensure that terms and conditions are still appropriate to the customer. Pay particular attention to seasonal customers.
- Check your close competitors and any perceived threat to key contracts.
- Check IT systems and back up procedures, and that software licences are up to date.
Please contact me directly if you would like any assistance with any aspect of selling or planning a sale in the future of your business.
Cottons Corporate Finance is a specialist advisor to the owner managed business sector, providing a number of key services designed to help business development from start up to retirement.
Please note: This blog is for general information only and does not constitute advice. The information is aimed at retail clients only.