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Reasons For Selling A Business

A business sale is not a “one size fits” all situation. The details that apply in a specific situation will not all be the same. Before proceeding further, it’s important to step back a bit and look at the big picture for business sales in a variety of circumstances. Not all business sales are for the same reasons, and the circumstances of the sale can have a big impact on how a sale should proceed.

What KIND of Buyer is it?

Before considering the various sale situations, it helps to consider the KIND of buyer. In almost all cases the buyer will be either another company or an individual.

If the buyer is another company then it is likely the buyer will be able to run the business successfully. The buyer’s ability to pay may be fairly secure. Training the buyer may not be critical, but assistance with customer retention after the sale may be critical. The buyer may be more sophisticated, or at least have more sophisticated advisors. Consideration for the sale may include some form of performance based incentives (i.e., an “earn-out”).

If the buyer is an individual, training the buyer may be even more important than assisting with customer retention. Since the buyer’s ability to run the business successfully may not be as certain as it would be if the buyer were another company with a proven track record, the cash and/or collateral the buyer brings to the table may be a major factor in the sale.

The Most Common Sales Situations

These are the most common sales situations. Whether you are a buyer or a seller, one of these situations most likely fits you. Additional details applicable to each are covered later in subsequent articles.

Very Small Business – This is the most common business sale situation

  • Sometimes referred to as “Mom & Pops”, “Main Street Businesses”, etc.
  • Most of these businesses do not actually sell.
  • This is usually a sale to an outside individual (an “External Sale”).
  • Sometimes (although rarely) the sale will be to an insider (an “Internal Sale”).
  • It is rare to have an employee with both the interest and the ability.
  • The person needed can sometimes be recruited.
  • Can often be creatively structured as a win/win, even if the buyer has little money.

Somewhat Larger Small Business – External Sale

  • More likely to sell than a Mom & Pop, but many never do.
  • Internal Sale
  • Easier to structure than for a Mom & Pop, but still difficult to find the right successor.
  • Family Sale
  • The IRS has insanely complex rules designed to make sure they get all the tax revenue they think they are entitled to. Which is A LOT.
  • Will most likely need an appraisal to support the price.

Divorce

  • Often VERY contentious, with expensive appraisal and attorney fees, and the eventual price and terms set by a judge.
  • Can sometimes be greatly simplified with advance legal planning (such as Shareholders Agreements).

Partner Buyout

  • Can also be contentious.
  • Can sometimes be greatly simplified with advance legal planning (such as Shareholders Agreements).

Sale for Health Reasons

  • If the seller is in ill health but not clearly dying
  • Time is not as critical as for a dead or dying seller.
  • Potential buyers may try to take advantage of the situation.
  • The seller’s help with the post-sale transition may be affected.
  • If the seller is still alive but clearly dying
  • A sale planned to occur upon death can sometimes be arranged.
  • This has the potential to save a LOT of tax.

Seller (business owners) has passed away

  • The company may be in turmoil.
  • Can be VERY difficult to find a buyer.
  • Tax issues can be VERY complex.

Financially Distressed Sale

  • If the business is in trouble, the buyer will need to see a way to fix the problem, or a sale will not happen.
  • Often involves simply liquidating the assets and walking away.
  • May be forced by the company’s lenders.

Sale to a Large Buyer

  • Likely to be fairly sophisticated buyers.
  • Likely to include an “earn-out” as part of the “price”.
  • Publicly traded buyers
  • May involve tax-advantaged strategies involving the buyer’s stock.
  • Large, closely held buyers
  • May be easier to attract than a publicly held buyer.

Start-ups

  • Often done with personal funds.
  • If funding is from family and friends, then their ownership must be decided.
  • If Venture Capital is involved, then complexity goes way up.
  • Usually only available if the upside potential is very high.
  • Initial Public Offerings (“IPO’s”)
  • Basically, this is selling part of the company to the public in the form of company stock.
  • Often involves venture capital at an earlier stage.
  • VERY complex.

Employee Stock Option Plan (ESOP)

  • Very complex and expensive.
  • Can have significant tax advantages.
  • Might have motivational effect on employees.
  • Not as popular as initially expected when these were created.

Very Small Businesses

These businesses are sometimes referred to as “Mom & Pops”, “Main Street Businesses”, etc. Although each company is small with only a few employees, they represent a huge part of the goods and services available in our economy, and are the embodiment of the American Dream for many people.

Attempted sale of these businesses is the most common business sale situation. Unfortunately, most of the time they never actually sell. Some estimates are that only one in seven of these businesses will actually sell once they are listed for sale. Many more simply shut down once the owner decides to move on to something else.

Unrealistic expectations on the part of the seller, particularly the value of the company, are one of the reasons blocking sale of many of these companies.

The value of these companies is NOT the value of the company to the seller, which may be quite high. Instead, the maximum value is limited by the cost a potential buyer would incur to start a similar business instead. That means the value may be determined by the value of the equipment, plus something extra for the “running start” available to the buyer from buying the existing business instead of starting a similar operation from scratch.

Formal valuation approaches based on the net present value of expected future cash flow, net of reasonable compensation to the owner, often do not apply. Instead, rules of thumb based on some multiple of sales plus the value of the equipment acquired are often used. These rules of thumb have even been published in a book, theBusiness Reference Guide, The Essential Guide to Pricing Businesses and Franchises, compiled annually by Tom West and available through Business Brokerage Press and available on the web at www.bbpinc.com. (One of the authors of the article you are reading right now is one of the contributors to this book.)

It is important to remember that these rules of thumb are GENERAL rules, and may not be valid for a specific situation. It is also important to remember that these rules of thumb were developed based on businesses that actually sold. That means they are biased in favor of the most attractive businesses offered for sale. The businesses that never sell have very little impact on these rules of thumb.

Ultimately, the value of these businesses is determined just like the value of any other business: What a willing buyer and willing seller agree on. Both sides must see it as in their best interest to do the deal, or it will not happen. In other words, it must be a win/win or it will not happen.

One way to sell these businesses is to arrange an internal sale. The key to this is finding a person(s) who has the necessary skills and entrepreneurial drive. Entrepreneurs are often harder to find than the people with the necessary skills. For companies that do not already have that person, it may be possible to recruit them based on the possibility of their buying the company in the future.

Sales of this type can be arranged even for buyers who do not bring much of their own money to the table. Finding advisors who can assist with this can be challenging as well.

Somewhat Larger Small Businesses

Once a business has grown past the “Mom & Pop” size, it may be a bit easier to sell. There is no generally agreed minimum size for this, but these businesses often have ten or more employees.

Many of these businesses are only marginally profitable, and will be priced using similar methods to their smaller cousins. Those that are profitable enough will be priced based on the adjusted profits a buyer can reasonably expect in the future. The key to their sale will be the ability of the buyer to continue operating the business profitably in the future, which often means the seller will need to help with the transition.

Much of the literature on buying and selling a closely held business is focused on businesses this large or larger, and assumes the buyer will be either an outside individual, or another business. Little attention is paid to the possibility of an inside sale.

These businesses are easier to arrange internal sales for than their smaller cousins, although it is still rare to see this done. Finding entrepreneurs is always hard, and few advisors understand the issues enough to help.

Divorce

A divorce often means half the business must, in effect, be sold to the spouse who runs it. If both spouses worked in the business prior to the divorce, one of them most likely will seek employment elsewhere.

The biggest question in these sales is usually price. Terms tend to be based on asset trade-offs, with cash paid for whatever value cannot be offset by other assets. Bank financing is sought as necessary to provide the cash. Appraisals are used to establish value, with a judge determining the final result if the appraisers used by each side differ in their opinion of value.

Advance legal planning, including agreement on how value will be determined, can help simplify the process dramatically. Most owners are aware of the possible use of a pre-nuptial agreement but do not have one. Less well known is that a proper Shareholders Agreement can simplify the divorce issues, including valuation, by quite a bit.

Shareholder/Partner Buyout

Buying out a fellow shareholder/partner may or may not be a contentious process, but it is still likely to involve disagreement over value. EVERY multi-owner business should have a Shareholders Agreement (or equivalent) to address the multitude of issues that need to be spelled out in advance in this situation. How value will be determined, as well as the terms for a buyout, is just one of the topics that should be covered in this agreement.

This is a huge topic with its own article later in this series.

Sale for Health Reasons

Many sales are triggered because the owner is in ill health but not clearly dying. The seller has a very good reason to want to sell, but is not under pressure to do so immediately. These sales are very similar to any other sale for a similar business except the seller may not be able to provide as much help during a transition. If an internal sale is desired there may not be enough time to recruit key employees, and longer term planning may not be an option.

If the seller is facing a potentially terminal disease, the sale will be much more complex. Seller assistance post-sale is much more problematic, thus lowering the value to a potential buyer. Likewise, the business itself may be suffering from neglect by the owner because health matters take priority. The seller will be at a disadvantage in negotiations as well, since potential buyers may sense the seller HAS to do the sale.

Tax planning for the seller’s heirs may play a major role for a seller facing a terminal illness. The tax issues include potential estate taxes, plus potentially dramatic differences in how the sale itself will be taxed.

It is possible to plan a sale in advance, with the sale itself being deferred until the seller’s death. As a protection to the buyer, the sale generally includes a “no later than” sale date, and may include provisions for the buyer to operate the business prior to that date as well. In the right circumstances this can reduce taxes substantially, provided the sale itself is structured properly. The technical elements in the sale structure for this situation may be quite different than for a typical sale.

Financially Distressed Sale

Some businesses are put up for sale as a last ditch attempt to avoid bankruptcy or being forced to shut down. In some cases the business will go through a formal bankruptcy process, with the court eventually approving a plan to reorganize the business or mandating the business be liquidated if a credible plan to return the business to profitability cannot be developed.

If an outside buyer is sought, the potential buyer will need to see a way to fix the problem causing the financial distress, or the buyer will not buy. Sometimes this will involve buying only the profitable parts of the business, leaving the difficult parts behind. This can also lead to unexpected legal complications on both sides of the sale, so be sure to include experienced legal counsel in the process.

If no way can be found for a buyer to solve the underlying problems, or the profitable portions of the business (if any) cannot be sold separately, then the business is unlikely to be salable as a going concern. In that event the business will most likely be forced to simply sell off its assets, apply the proceeds to its liabilities, and then go away. If liabilities remain and the owner is legally liable for them, the owner may have to personally make up the shortfall.

Sale to a Large Buyer

Larger buyers are likely to be another company, often in the same industry. They generally have the ability to run the acquired business successfully, and are often more sophisticated that the typical individual buyer.

These buyers are not typically interested in “Mom & Pop” businesses. The “price” they are willing to pay is likely to include a portion of the consideration in the form an “earn-out” based on performance of the acquired company after the sale. If the buyer is a publicly traded company, the sale may sometimes include use of the buyer’s stock to help improve the tax effects on the seller, and to reduce the cash required by the buyer.

Start-ups

Starting a company is often done with personal funds and does not involve sale of part of the company. If family and friends are used to help with funding then a loan will be required, or the other investors must have some equity in the company (or both).

Seeking the Brighter Paths in Business

“Women tend to build deep and narrow networks and men wide and shallow ones”. – Kelly Hoey

There are still plenty of inhibitions among business women, especially when it comes to networking and building their business. Still, due to their immense determination and work ethic, there are innumerable instances of women entrepreneurs reaching the summit of the corporate world. These business women survived the fiercely competitive world of entrepreneurship by overcoming many challenges. Those successful women entrepreneurs and professionals could not have accomplished the business milestones without building a great network.

Today’s women in business may well be equally resilient and visionary, but a fragile economy, intense competition and stringent regulations are posing challenges to their business’ sustainability and growth. In this scenario, the local Chamber of Commerce could be of great help for women in business networking. Local women entrepreneurs can build a significant network through collaborations and communications.

In the business world, men have long been networking by playing sports or going to lunch or out for a drink. On the other hand, business women individually matched up their male counterparts pretty quickly in terms of individual accomplishments. When it comes to networking with fellow entrepreneurs/professionals, women are still hesitant. Hence, having a common platform like Chamber events helps them to shed their inhibitions, and develop a wide network which could become a great source of new ideas, information, and opportunities. Once the business women take the first step of getting familiar with the other members, they can build an extensive network to reap benefits in the future. Besides, they will also get to know about the new developments in the industry and learn from others’ experiences.

To build a ‘power’ network, women entrepreneurs need to mingle with the other business owners within the same community, and join hands for mutual growth. The local Chamber of Commerce organizes various women’s events and encourages the members to communicate amongst themselves to open up new avenues leading to brighter opportunities.

Let’s see why business networking is important for women. Some of the key reasons are below:

1. For Business Survival and Growth

Regardless of whether you have a start-up business or a reasonably established one, you need working capital for maintaining a business or to expand into other markets. Various events, referrals and business listings provide plenty of opportunities for moving towards that direction.

2. Building Relationships

Success of business hinges on a larger and more diverse network based on cordial business relationships. This process takes considerable time and effort. It’s like nurturing a garden, which needs care and patience for yielding benefits in the future. Though the basic difference is through networking, business women can accelerate their business at a significantly fast pace than the usual way of
doing it.

3. Persistence Pays Off

Besides increasing networks, women entrepreneurs need to do regular follow-up. Networking does not give instant results, rather benefits yield over a period of time. Capitalizing on networking opportunities, supporting one another and adding value to business communications are the key elements to success.

Regular networking events are held by the Chamber of Commerce specifically for women on their entrepreneurial journey. At such events, business women hear the inspirational speakers and they share their own knowledge and innovative ideas. To build a ‘deep’ network, business women need to care more about the people they meet than the business. Focusing on people brings business naturally since supporting one another in good and tough times develops greater bonding.

5 Secrets That Will Thrust Your Small Business Into the Big League

There are 28 million small businesses in the US. The sad reality is that most of them fail within the first few years of operation. The small percentage that survive stay small forever. A select few manage to grow into huge businesses. But why them and not the others? What are the factors that enable unknowns to become household brands? One thing for sure that it takes much more than hard work, luck, and timing. Read on to see if your small business has what it takes to make the leap into the big league?

Systems

Many small business owners’ lives are chaotic due to lack of systems. Systems are hard, but they enable small businesses to scale. Systems are not glorious like sales, marketing, or research and development. Some say that systems are boring, after all, it is a back office function. Systems separate struggling small businesses from those that grow by leaps and bounds. Creating systems can be a daunting task, and for many, the prospect of taking on yet another project is out of the question. For some, it is a catch-22 situation. You may say “How do I carve out extra time from my already hectic schedule.” The correct way to think of systems is that creating them is an investment in your business.

One of the greatest challenges that small business owners face is that the they are perpetual decision makers. The owner is involved in everything from sales, customer service, research and development, bookkeeping, so an and so forth. Creating systems is the first step toward a business where not every decision is dependent on the entrepreneur. Systems allow people to plug in and go. Systems include operating procedures and manuals that can bring a new team member up to speed in no time. It is what takes small out of small business.

Franchise businesses are often more successful than independently operated ones simply because they are built on systems. The franchisee may be paying a premium in upstart costs compared to an independent business, but it makes sense for many because they don’t have to worry about developing systems. Someone already went ahead and created the necessary systems for success. When you buy a franchise you are taking a system that has been proved to work. Does it mean that you have to buy a franchise to succeed? Absolutely not, but you have to think of your own independent business as a franchise. Create procedures for everything. Don’t leave anything to guesswork.

Most small businesses do without systems, but it doesn’t mean that it’s a good idea. While you might get away with it in the beginning the lack of systems will create huge bottle necks down the road. The lack of systems will reduce your profits. Why? Because you and your employees will have to reinvent the wheel day in and day out. systems minimize the element of surprise. With systems in place your team is able to deliver consistent service. Businesses with consistently good service will outperform those with fluctuating quality service.

In addition to making your life easier, systems also increase the value of your business. Buyers want to buy businesses that are built on systems. The presence of systems tell buyers that the business doesn’t entirely rely on you. Creating systems help you create a turnkey operation, appealing to buyers. Business systems are assets that enable your company to run without you.

Scalability

Investors love highly scalable companies because they have the potential to multiply revenue with minimal incremental cost. You simply can’t substantially grow a business without cracking the scaling code. Some business are built to scale while others are forever destined for small business status. Unfortunately, many professional service providers are not scalable because they rely on personal output. So, if your goal is to build a big company avoid consulting types of businesses. A software company, on the other hand, is a highly scalable business model. Once the software product has been completed it can be sold millions of times with minimal costs. In other words, their increased revenues cost less to deliver than current revenues. What this means is that a scalable business will be able to increase the operating margin as revenue grows.

A highly scalable business requires small variable costs that the company can control. Variable cost changes with the volume of business. Fixed costs do not vary with sales. For example, for a software company fixed costs include the cost of the office location, computers, and furniture. These cannot be quickly added or liquidated. Salaries on the other hand are a variable cost since workers can be hired and fired relatively fast.

Most consulting businesses like marketing agencies are not scalable because they are unable to substantially increase their revenue without greatly increasing their variable costs. Such businesses are considered poor investments.

To build a scalable business you should start with a scalable idea. Scalable businesses have high margins. They require low support and staff expenses. Scalable businesses allow you to work on your business as opposed to working in your business. If you find yourself constantly working in your business your business is either not scalable or not yet ready to scale.

Truly scalable businesses are highly automated. Automation helps you reduce variable costs such as labor. It is at this point when scaling and systems begin to work together. If you truly want to become a market leader or dominate your industry, scalability is the only way to do it without a miracle.

Board of advisors

If your goal is rapid growth, you must have a board that you can rely on for your big audacious goals. The life of an entrepreneur can be a lonely one. Often you feel like you are all alone with all the decisions you have to make. Your board will share some of the burdens of making key decisions and it will tell the outside world that you are systematic about your business, and that you understand that you need to surround yourself with people that are smarter than you. Your board will help you with large strategic goals. It can help with your overall business plan, policy issues, financial questions, strategic partnerships, and more.

Your board shouldn’t be utilized to deal with routine tactical challenges. Don’t waste the boards time on daily employee issues or what color the chose for your new office. Rather, let your board help you with strategic advice, or by helping you with making introductions to strategic partners and recruiting talent.

Fellow entrepreneurs and business leaders make excellent board members. Before you build your board you should have a clear understanding of what areas you need help with. Ask yourself what skills do you currently lack that you need to take your business to the next level? Is it marketing, intellectual property, or finance? Whatever it is you need help with should influence the ultimate makeup of your board. You could hire a recruiter, but they are expensive. It is best if you perform the search yourself.

Your board is not a group of your closest friends. It is a group of professionals, each with a respective specialty. One might be an IP attorney while another a retired CEO. You are not looking for a group of yes men. If you build a great board, each member will have more experience than you and each will know much more than you. If you feel like the dumbest person in the room, you are on the right track.

Your board of advisors will not join you for the money, but there are costs involved. It is a good idea to compensate your advisors. At least, you should cover their expenses. Do they need to travel to your board meetings? Are there hotel and other expenses? It is also advisable to pay a per meeting fee that might be a few hundreds or a few thousand dollars. In addition to monetary compensation, you could chose to offer stock as payment.

IP (Intellectual Property)

Most small business owners care most about time and money. Some understand that IP is as good as money in the bank. It is considered one of the most important assets of some of the most valuable companies in the world. Even though IP is an intangible asset, it’s almost impossible to build a hugely successful business without it. If you are going to dominate your industry or at least be one of its key players, IP is a must. You can often read about huge business acquisition deals structured around IP. Often, IP is the reason companies are bought and sold for huge multiples.

Simply put, IP makes your company more competitive. Without IP you end up competing on price and efficiency, a tough way to build your business. When you compete through IP you often set your own price, a luxury most businesses never experience. Since innovation is the main driver in business, developing IP should be a key objective for all companies that want to enter the big league.

If you are an early stage company wanting to attract investors, your IP might be what closes the deal for you. Investors look at IP with regard to the level of income it may generate through its life. Some companies bet their futures on IP. Richard Thoman, the CEO of Xerox, declared that the “management of IP is how value added is going to be created at Xerox.” An excellent example of IP management is IBM; it managed to generate about $1 billion from IP by 1990. IP is the intangible asset that can become your free cash flow.

When IP is properly managed it can prevent your competitors from copying your products or services. You can avoid wasteful investment in R&D. IP is a revenue generating profit machine that makes your company more valuable and competitive, getting you ever so closer to market domination.

Brand

Many small business owners, wrongly believe, that brand building is reserved for giant corporations. But, building your brand should be a key focus from the very early stages of your company’s life. Your brand is another intangible asset you can’t build a market leading company without. It is your brand that may enable your business one day to avoid competing on price only. It is your brand that may one day help you dominate your market. It is through the power of your brand that you will be able to minimize your new customer acquisition costs.

Successful brands are easily recognizable. Virtually all fortune 500 companies have managed to build a strong brand image. Powerful brands instill certain images in consumers from tradition, to quality, to innovation, to any number of thoughts and feelings. As competition increases, so does the importance of building credible brands.

Brands are not born out of thin air, they are strategically developed. Building your brand is no less important than developing your sales strategy or R&D. The process of building your brand is a never ending job. There is no such thing as a finished brand. Finished brands are for businesses that are finished. You can never think of brand building as a project with a beginning and an end.

While advertising is important it is not advertising that creates your brand. Your brand is a reflection on everything that your company does. Your brand is the quality of your product or service. It is also the way you treat your customers, and even your employees. Your brand is shaped by how the world perceives you.

The value of each brand fluctuates. Your company scores big on your latest product and the value of your brand rises. One of your employees publicly ridicules one of your upset customers and your brand suffers. The good news is that for the most part, you are in charge of your brand’s destiny.

Even the worlds greatest brands are not always on an upward trajectory. Strong brands can help your company survive disasters. Recently, the Toyota brand had been plagued by millions of recalls, yet the company managed to come out of it all with an even stronger brand.

It is true that not each small business wants to become an industry leader. But, it’s also true that there are no accidental market leaders. Most small businesses are family owned and operated, and there is nothing wrong with that. You can be happy, fulfilled, and wealthy running a small business. But, if your choice is to grow your business into a true market leader you have to build your business on systems. You have to be able to crack the scaling code, so you can dramatically increase your revenue with minimal expenses. You will need trusted advisors that are smarter and more experienced than you. It will be an uphill battle, or perhaps even impossible without proper IP management. Your brand will soften the blow when you are hit with disasters. Of course, there are other factors such as luck and timing that transform small businesses into huge success stories, but the above five make for a good start.