Preparing Your Business For Sale

Careful preparation and advanced planning can significantly increase the likelihood of a successful business sale and have a positive effect on valuation. The following are proactive steps a business owner should take prior to beginning the business sale process:

Recasting Financial Statements
Recasting Financial Statements Financial statements of privately held companies typically are prepared with a view towards minimizing the tax burden. This purpose tends to be at odds with what a business owner wants to show to a potential buyer in the context of a business sale. To enable a potential buyer to "read between the lines," the financial statements must be "recast" or "adjusted" to reflect the true profitability and discretionary cash flow that would be available to a new owner.

This recasting involves identifying the owner and certain family member salaries, any perquisites or fringe benefits that owners of privately held businesses customarily make available to themselves, one-time or extraordinary expenses, current expenses for future expansion that have not impacted historical sales, non-cash expenses and other expense items not likely to recur or be applicable to future ownership. An important step in this process is to thoroughly analyze the general ledger to identify all expense items that can be restated or adjusted and thereby maximize the price a seller will receive for the company.

Independent Valuation
An independent valuation enables a business owner to get a sense of a realistically achievable value and confirm in advance whether or not it makes financial sense to sell the business given current market conditions. If the lowest price that a business owner would be willing to accept for the company is well above what a potential acquirer would realistically pay, it is essential to be aware of that information in advance of trying to sell the company. This step can eliminate time wasted on the business sale process that detracts from the business owner's focus. Properly understanding valuation at the outset will also prevent "leaving money on the table" by undervaluing the company or losing qualified acquirers by seeking an unrealistic price.

Tax Implications
It is crucial to understand the tax implications of a sale in advance. This will provide a realistic picture of the net after-tax yield and help to determine the most advantageous way to structure the sale for tax purposes. For example, advance recognition of the tax implications of a "C" corporation requires that negotiations be positioned toward a deal structure that would minimize a sellerŐs tax exposure.

For equipment intensive businesses or transactions in which real property will be included in the transaction, independent appraisals of the equipment and/or the real estate prior to beginning the sale process is highly recommended. Appraising these assets will help in the valuation and planning process prior to going to market. The buyer will likely need to have these assets appraised and being prepared will ensure integrity by presenting these assets with accurate market valuations.

Growth Plan
A well thought out and realistic plan for growth can greatly enhance the value of a company. It serves as a road map to expansion opportunities that a new owner could exploit with additional capital or other resources that it may bring to the table. The plan should assume that significant capital resources will be available after the sale and identify areas where historic sales were constrained due to capital limitations. It is likely that the acquirer will be better capitalized than the current owner and have enhanced capabilities to act on these opportunities. Whether it is limited desire, burn out, or lack of capital resources holding the business back, it is critical to develop a well-defined plan that identifies the most realistic expansion opportunities. The more untapped expansion potential, the greater perceived value the business will have to an acquirer.

Tackling "Deal Killers" Early On
If there are issues that may potentially jeopardize a transaction, a seller is ill served by hiding his or her head in the sand. Eventually these issues will surface and it is far better to be prepared and address them during presentation from a proactive viewpoint, rather than have to take a defensive posture when they are independently discovered.

Such "deal killers" may include a lease that needs to be negotiated, property to be cleaned up, equipment to be replaced, financials to be revised, pending litigation, key employee retention, customer retention or concentration, etc. Addressing these issues in a timely and forthright manner avoids spending months identifying qualified acquirers only to have the deal "crash and burn". There are a variety of ways to disclose, present and/or remedy these issues prior to or during the initial marketing phase. Buyers have a greater willingness to proceed with the deal if they feel the seller has been honest in disclosing the "skeletons in the closet" from the outset. The worst situation is for a potential buyer to discover these issues on its own and wonder what other negative surprises may exist. )

Addressing Key Dependencies
Reducing key dependencies in a business will serve to increase the marketability and value of a company. Three key areas include customers, vendors and employees. Customer dependency exists when a high percentage of the company's revenue is derived from a few large customers. Vendor dependency results from difficulty finding comparable vendor replacements, if needed. Employee dependency exists when the business is highly dependent or held hostage by key employees or the existing owner, whose departure could severely impair the business. These dependencies create significant risks for an acquirer and can have a negative impact on valuation. With advanced planning and focus, the negatives associated with these dependencies can generally be mitigated.

It is the responsibility of the seller of a business to obtain required environmental clearances prior to the closing of a business sale. This generally applies to businesses subject to environmental scrutiny such as manufacturing businesses or firms routinely dealing with hazardous substances. If a company's standard industrial classification (commonly called the SIC code) triggers the need for this clearance, it is essential to understand in advance the presence of any existing issues. This can be accomplished by hiring an environmental consultant to perform a Phase One study that will identify any environmental concerns. Given that environmental due diligence is a requirement, it is best to address it early in the process. The absence of advanced planning could lead to months of unnecessary delay that can jeopardize deal momentum and ultimately the deal itself.

Third Party Financing
It is important to ascertain the likely level of financing available to an acquirer in advance. This will help qualify potential buyers as serious prospects and determine if the necessary capital will be available to consummate a transaction.

For example, assume an acquirer will need $1.5 million in available cash for the initial investment and working capital requirements. If it is determined that a bank is likely to lend a reasonably qualified buyer $600,000, then a buyer must be identified with at least $900,000 in available capital and good credit. If a bank is only willing to commit $300,000, it will be necessary to find a financially stronger potential acquirer. Not being armed with this knowledge in advance leads to wasted time and jeopardizes confidentiality with unqualified acquirers.

Carve Out Excess Assets One method of increasing a sellerŐs total financial yield from a transaction is to identify excess assets that can be converted into cash prior to a transaction, without adversely impacting the business. For example, assuming a company has accumulated $450,000 of inventory but only requires a $250,000 level. The seller can generate an additional $200,000 by converting the "excess" inventory to cash prior to the closing.

Likely Acquirers
Advance research within an industry can determine if it makes sense to approach companies in a related business seeking additional sales, territories, capabilities or complimentary revenue centers. These "strategic buyers" may have a strong desire to acquire a similar or related business as a means of growing through acquisition or because they may recognize the synergies that will result from the combination of the two companies. By identifying likely prospects, the search for an acquirer can be more tightly focused in a direction that can maximize the overall deal value.

Team of Professionals
Before entering the uncharted waters of selling a business, it is imperative to select the right team. This includes a qualified CPA, an attorney with a background in corporate transactional work and an experienced M&A intermediary. Ideally, all of these parties should have specific experience with the business sale process. All parties should meet in advance since their efforts will need to be coordinated later in the process. This will ensure that all team members are on the "same page" and have a clear understanding of the goals and expectations of their mutual client.

Current Sales Performance
An often overlooked area that has a major impact on marketability of the business is the company's current financial performance. The 12-month period during which the sales process is taking place is a decisive one. If sales performance deteriorates during this period, marketability and value will be negatively impacted. Current performance often has greater significance to a potential acquirer than the previous 20-year track record. The business owner must focus his or her efforts on whatever can be done to maintain consistent (or improved) sales, margins and profits during this period.

Working with a qualified M&A intermediary to manage the sale process is a vital component of the sale process because it allows the business owner to maintain focus on the business at hand. An experienced intermediary will handle the time consuming intricacies involved in the proper packaging, presentation and negotiation of a business sale transaction.

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