Metro Business Advisors

Practical advice and education for business owners from a business broker/M&A advisor to small businesses

[metrobusinessadvisors]

Speaking from experience: the necessary factors to sell a business

By Dave Driscoll

For more than 12 years, I have been in the business of helping owners sell their business and move on to their life beyond business.™ As a business broker, I have been fortunate to have many owners place their trust in my experience and skills as a seasoned business owner and I have been privy to learn about many types of businesses inside and out. I’m proud to say that my company, Metro Business Advisors, has sold the majority of the companies we were engaged to represent.

As a long-time contributor to Small Business Monthly I have decided to take a break from writing monthly articles and will instead be contributing periodically, while still continuing to actively sell businesses.

My objective in writing articles has always been to educate owners about what it takes to develop a business for sale, including the emotional preparation that is so crucial. Along the way, I’ve also presented the buyer’s perspective and defined the steps necessary to increase business value so owners can sell their life’s work for maximum value to support their retirement or other ventures.

So, what sells a business?

The seller must balance their wants against what the buyer needs from the purchase.

But what does that really mean?

To successfully sell a business, the seller must realistically consider what the buyer needs to be successful if they acquire the business. The seller must put themself in the buyer’s shoes and remember what would be important if they were the buyer.

As a buyer, would you want to buy a business that…

Is owner-dependent?

Has incomplete financials that don’t tell the true story of the business?

Is part of an industry with an uncertain or unstable future?

Has a seller with unrealistic expectations regarding the sale price or terms?

I approach this from the negative to demonstrate that there is no mystery in the sale/purchase of a business. What is good for the seller is good for the buyer. If a seller is looking for a fool with a big bag of money, they will be very disappointed and their business will NOT sell.

Although I could write many articles (and have!) on each of these four points, let’s focus on a few ways to position a business for the highest probability of being sold.

Owner-dependence. If the business cannot operate without the owner’s daily attention, the company knowledge is “in the owner’s head,” and/or all the customer relationships are managed by the seller, the business really has no sustainable value to a buyer. In the unlikely event a buyer were to entertain buying an owner-dependent business, the seller would need to stay for an extended time to provide training and ensure the business successfully transitions to the new owner. The seller would also need to be comfortable having a portion of the sale proceeds withheld until the transition is complete to demonstrate the seller’s continued commitment to the business’ success.

What can you do?

Train and empower a competent team to be capable of running the business without you.

Establish a second-in-command and decentralize decision making.

Make yourself obsolete – aside from big picture vision and strategizing.

Complete, accurate financials. Buyers need to understand how the business operates, including the sales, cost of sales, gross operating profit, and operating expenses. If your business financials do not clearly and accurately show the buyer these details, how will they determine whether the cash flow will satisfy their goals that are motivating them to buy a business? Incoherent financials will NOT sell a business.

What can you do?

Document all discretionary spending that goes through the business.

Review your P&L and balance sheet monthly or quarterly to identify trends, opportunities, or problems.

Utilize an accounting service to help keep financials current while conforming to generally accepted accounting principles.

Business/industry stability and value. Would you buy into your industry in its current state? I spent 30 years as owner of an envelope manufacturing company. With the development of the ubiquitous internet, the use of envelopes plummeted, creating excess capacity, deteriorating margins, and causing widespread industry consolidation.

If your industry is outdated, shaky, or uncertain, look for a merger partner or consider liquidation. Hanging on to your company with the attitude that you can just work harder and overcome a dying industry will eventually cost you everything.

What can you do?

Either be an acquirer or an acquiree if your industry is faltering.

Always look for tangent or novel markets for your product or service.

Make the necessary investments to keep your company current in technology and innovation.

Seller expectations regarding the sale terms. Simply stated, selling the business will be very difficult if the asking price does not correlate to a reasonable industry “like sale” multiple of free cash flow or the seller is not flexible on price and terms (for example, demanding all cash). Maybe impossible. Recall the fictional “fool with a big bag of money” myth dispelled earlier. Additionally, a seller should not expect to be paid for “business potential” – at best, the buyer will only question why the seller didn’t take advantage of that potential themself.

What can you do?

Base the asking price for your business on a solid market valuation, conducted by a professional.

Focus your negotiations on setting the buyer up to succeed in running a profitable business.

Realize you will need to spend time training and transitioning relationships to the buyer.

So, there you have it – the benefit of my experience simplified into practical action items to best position you for eventually leaving your business. As I am not leaving my business yet, feel free to reach out if I can be of assistance, and don’t forget our library of educational blog posts at https://metrobusinessadvisors.com/blog/. I have enjoyed offering my advice from the perspective of business owner and M&A broker to SBM readers; I wish you the best as you envision, plan, and achieve your life beyond business.™

Dave Driscoll is president of Metro Business Advisors, a mergers and acquisitions business broker, business valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at [email protected] or 314-303-5600. For more information, visit www.MetroBusinessAdvisors.com.

As seen in Dave’s Small Business Monthly column

What sells a business? The seller must balance their wants against what the buyer needs from the purchase. Follow these tips to position you

[metrobusinessadvisors]

NOW is the time to plan to sell your business

By Dave Driscoll

Planning to sell your business is easy to put off…and some people believe they will never sell. Maybe you analyze the economic situation, your industry trends, and your personal motives, wishing you had a crystal ball to know exactly WHEN to begin preparing to sell. But, one thing is certain, eventually you will leave your business one way or another. Regardless of when – or if – you intend to sell your business, keeping that ultimate goal in mind will enhance your business value in the meantime, and protect you from feeling stuck in the business long after you’re burnt out.

Planning for the eventual sale of your business far in advance will allow you to keep your options open and receive the best return for your blood, sweat, and tears so you can embrace your life beyond business.™ Create a solid framework for the future of the business - and your post-sale finances.

Follow these simple strategies and habits to best position yourself to eventually leave your business:

Build a strong second-in-command and empower employees.

Healthy businesses are not owner-dependent. Your company will be more successful if you utilize and encourage your employees’ strengths. Develop an organization that can run seamlessly while you take an extended vacation.

Establish and document processes and procedures.

Ensure consistency and efficiency in delivering your products/services, as well as employee relations with a thorough company handbook and operations manual. This builds business value now and long-term, this documentation provides the ability for a new leader to replicate your success.

Keep accurate, meticulous financials and review them quarterly.

Creating a profit and loss statement and balance sheet should be a non-negotiable habit, using Quicken, QuickBooks, or an accountant. Document any and all owner’s (seller’s) discretionary expenses. Review your financial results quarterly to recognize trends, strengths, and any problems to be addressed promptly.

Understand your customers and their pain points so you can offer solutions.

Regularly reexamine and anticipate your customers’ changing needs in the face of societal and technological developments, as well as trends within your industry. Flexibility and innovation are valuable.

Differentiate your company’s offerings from your competitors.’ 

If your company fills a unique niche, it could eventually be a valuable add on for a competitor who would like to expand with your complementary specialty. Rather than eyeing your competitors as enemies, consider that they could be logical buyers when you’re ready to sell your business.

Invest in technology and innovation to keep the business on or ahead of the curve.

I’m not suggesting jumping on every technological bandwagon; you don’t have to be the first in your industry to embrace new technology or ideas, but make sure you aren’t the last either. No one wants to buy a business that is operating 20 years in the past.

And don’t forget the personal side of planning:

Realistically define your lifestyle expenses, the value of your business, and your anticipated tax structure. Don’t guess at this!

Consult your financial advisor for a realistic picture of your future finances and an accountant regarding tax structure on capital gains.

Hire an M&A broker/advisor to perform an objective market valuation of your business. Find out whether the market value of your company will sustain your lifestyle long term, while you still have time to increase the business value.

Take a short break each year to honestly assess your level of passion, energy, patience, and drive for the business.

Don’t ignore the early signs that you should be taking steps toward your exit before you and the business value suffer.

Nurture your interests and hobbies.

Inevitably, your business is a major piece of your life; devoting time to other aspects of your personality is a healthy reminder that you and your business are separate entities. Establishing hobbies, interests, and relationships now will keep you feeling alive and connected after you exit your business.

Make peace with the emotional side of selling your business.

This is not to be taken lightly – selling your business can feel like losing a large part of your identity. Openly discuss with your family and confidants how you will fill your days and find meaning.

Sadly, many businesses across the U.S. don’t sell at all. Often the seller waited too long and lost the drive to sustain profitability and business value declined, or the financials aren’t structured to present a consistent story. Frequently those businesses are priced too high, based on emotion rather than objective business value.

To achieve the life beyond business™ you envision, always operate your business so it can sell tomorrow for maximum value and minimal taxation. Then when the time is right, you can confidently reap the rewards of the business value you’ve built.

Dave Driscoll is president of Metro Business Advisors, a mergers and acquisitions business broker, business valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at [email protected] or 314-303-5600. For more information, visit www.MetroBusinessAdvisors.com.

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#smallbusinessowner

#businessvalue

#exitplanning

by Dave DriscollPlanning to sell your business is

[metrobusinessadvisors]

Your Business Shouldn’t be a Fixer Upper

By Dave Driscoll

Most of us have gotten pulled into (at least) one of the home improvement/DIY-type reality shows in which a house is transformed from an outdated eyesore into a stunning, welcoming home that meets the family’s needs. As soon as you begin watching the episode, you become invested and can’t walk away until you see the finished product. It doesn’t hurt that some dramatic problem is usually discovered that must be solved creatively. Maybe these shows are popular because deep down, we like to believe that old things can be renewed, rejuvenated and given new life. Many of us also like the challenge of solving a problem effectively and efficiently.

Based on these shows and the widespread trend of flipping houses, a business owner might start to believe that it’s no big deal if weeds and little trees are sprouting from the parking lot pavement or the building shows signs of wear and neglect.

BUT, do not fall into the trap of thinking a prospective buyer will see your business as a fixer upper with “great bones.”

Buyers are looking for profit, not a project!

If walking into your office is like going back to 1960, with metal desks, old filing cabinets, and a tile floor with junk everywhere, a prospective buyer will want to run screaming “back to the future!”

Buyers are savvy enough to know that physical appearance is related to the overall health of the business. Dimly lit spaces, outdated equipment (whether still being used or broken down), or disorganized inventory and work-in-process are red flags of deeper problems. In these conditions, updated financial controls and records are highly unlikely. Things are probably done the way we’ve always done them instead of embracing technology and efficiency. And employees have likely learned to be apathetic and just put in their time with minimal effort.

Quite simply, if you don’t demonstrate care for your facility, employees, and customers on a daily basis, your business value suffers.  

A potential buyer’s first impression is hard to change. Would a stranger walking into your business think "this place has big problems?” Maybe a buyer would consider a couple affordable updates, but health and safety issues, high employee turnover, sub-standard productivity, and increased costs for insurance, overtime, and materials are damaging to profitability and will not be overlooked.  

Like your house, your business immediately projects an image to potential buyers. The “curb appeal” can attract a buyer to your business—or cause them to walk (or run) away without further investigation.

Take some time to work on your business rather than just working in your business.

These three steps will improve your curb appeal and business value: 1. Fix your “leaky faucets”

Buyers expect a productive environment that focuses on employee safety and moral. Owners who are focused on working "in" their business may not see how the plant, equipment, and policies have disintegrated over the years. Think like a buyer and address both the physical and intangible aspects that lower confidence in the business’ ability to thrive.

Clean up the exterior of the facility.

Clean up and clean out old or unused equipment and inventory.

Improve lighting; open up floor space; provide space for collaboration.

Look for telltale signs of bigger problems – for example, if doors won’t close, is there a problem with the foundation?

 Maximize product, labor, and information flow.

Maintain clear, accurate financial records, including seller’s discretionary income.

Educate your employees regarding expectations and maintaining a clean, safe environment.

Hold everyone accountable for maintaining the system.

2. Assemble a company manual

Assemble written HR Policies and the Employee Handbook.

Document step-by-step procedures, from taking an order or first encounter to final delivery of the product or service.

When you buy a house, you feel more confident if the owner provides instruction manuals and servicing reports for appliances and systems. Similarly, a potential buyer considering your company wants to know that your business information is in order. 

Documentation promotes consistency, repeatability and accountability, reassuring the buyer that they can maintain customer satisfaction, as well as profitability. Clearly communicated rules and expectations enhance employee relations.

This type of corporate hygiene can lead to a higher price for your company, while also lowering the chance of the deal falling apart during due diligence. 

3. Document your intangibles If you were buying a house, you would consider intangibles such as being in a good school district or proximity to your office. Likewise, be sure that a potential buyer is aware of the intangible assets that make your business desirable, such as:

The reason for your success - the company’s unique value proposition

Proprietary operating systems

Intellectual property

Patents, secret recipes

Client agreements or contracts

Pay attention to the details!

Although some improvements may seem merely cosmetic, perception is reality for prospective buyers. Don’t give buyers a reason to question if larger structural problems – physical or systemic - are lurking due to years of neglect. Your business should always be “move-in ready” because transitioning a business to a new owner is a significant project. Expecting a buyer to be willing to DIY for up-to-date business functionality is not realistic.

Don’t wait until you’re ready to sell your business to improve your business’ curb appeal. Not only will you avoid a huge to-do list later, you may be surprised at the increased moral and productivity that result in the meantime.

Dave Driscoll is president of Metro Business Advisors, a mergers & acquisitions, valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at [email protected] or [phone].  www.MetroBusinessAdvisors.com

As seen in Dave's St. Louis Small Business Monthly column

Your business shouldn't be a fixer upper

Business buyers are looking for profit, not a project! If you don’t demonstrate care for your facility, employees, and customers on a daily

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The Secrets to Selling a Lifestyle Business

By Dave Driscoll

In a previous article, we differentiated the business cycle for a “lifestyle business” from the mergers & acquisitions (M&A) market. But what qualifies as a “lifestyle business?”

A lifestyle business is usually founded by an owner(s) who believes they can financially support their family and their “lifestyle” with their specific marketable skills and talents. In many cases there are no other shareholders, giving the owners more control in the operations of the business. The focus is often on achieving and sustaining the owners’ particular lifestyle.

When some people hear the phrase lifestyle business, they may think of small, part-time, or home-based businesses. However, many small lifestyle businesses have grown to be successful larger businesses due to the founder’s skill in recognizing and exploiting a niche.

Building a business in support of a specific lifestyle is certainly a valid business strategy. My own business, Metro Business Advisors, as well as my previous business Ambassador Envelope Co., can both be classified as lifestyle businesses. Other examples include small, market-focused brokers or distributors, manufacturers’ representatives, and consulting firms. To repeat - lifestyle businesses are a valid business structure, BUT there are implications if the owner desires to sell the business. Market value and transferability can limit a successful transfer.  

Selling a lifestyle business can be dependent on the size and level of operational sophistication the business has achieved under the founders’ leadership. Where is the business on the technology/operational curve? Whether the business is behind, on, or ahead of the curve will become apparent when analyzed by a potential acquirer. The business may be constricted by technology and an obvious lack of investment. Or the company could be well ahead of the curve, reflecting the owner’s desire to keep the business competitive through continued investment. These are significant choices that must be made along the ownership journey because these factors impact whether the owner will be able to sell a lifestyle business.

A buyer will not pay top dollar for a business that needs substantial capital investment to be competitive, or if future profits are at significant risk due to owner dependence or failure to adapt to industry changes.

Advantages of a lifestyle business

The advantages of starting a lifestyle business include being able to control most aspects of the business. Additionally, due to the necessity to “boot strap” and be conservative with cash and expenses, there is usually a positive cash flow from early in the business’ growth, enabling the owner to eventually pursue personal goals with profits from the business.

Most advantages revolve around a common theme, freedom:

Time: freedom to choose when to work (or not!)

Financial: generate income sufficient to support a desired lifestyle

Fulfillment: opportunity to pursue passions, talents, and interests

Location: ability to choose where to work

Disadvantages of a lifestyle business

Funding sources are limited.

Founder’s talent is not easily replaced, creating owner-dependence.

Customer relationships are typically tied to the founder.

Difficulty recruiting top talent due to limited compensation.

Business value is difficult to transfer to a new owner.

Potentially very few assets to sell beyond a client list and goodwill.

When sold, does not provide a lump sum for retirement.

Advice for selling a lifestyle business

Ultimately, the owner must decide whether their goal is to have the business solely support their lifestyle and freedom, or to build an asset that has value transferable to a buyer/investor in the future.

To build a lifestyle business to sell, we recommend following this advice:

Start building sellable value many years before you intend to sell. Pick an age or date to help in defining your plan (realizing that may change based on circumstances beyond your control). Building value takes time, so if you want to sell next year… it’s too late. The cake is already baked. Implement value-building strategies at least five years prior to your target date.

Reduce the business’ dependence on you. Any business that needs the owner’s daily attention to succeed has no value and cannot successfully be sold. Establish a second-in-command and build a bench of competent leaders who can operate the business. Training and empowering your employees are mutually beneficial ways to eliminate owner dependence. In the meantime, the business will also benefit from the increased employee engagement and commitment.

Distinguish between the business and your identity. If you – and your clients – can’t differentiate between you and your business, it’s unhealthy on both sides. You were naturally the face of your company when you founded it, but past the startup phase, your company needs a corporate identity separate from your personality. On the personal side, this will also help you emotionally detach when you exit the business.

Share the relationships. If clients and vendors only communicate with you,at best, they will be nervous about new ownership. Knowing and trusting other employees offers the needed reassurance that service and quality will be consistent after the sale to a new owner. Make an effort to ensure that client loyalty lies with the company, not with you personally.

Create a competitive niche. Your business should be focused in terms of services/products and your target clients. Zeroing in on your company’s core strengths will be more productive than trying to be all things to all customers.

Invest in technology and training. Make sure you are at least on the curve, not behind it. Transferable value requires that the business is up to date with capital and human investment.

Document historical financials accurately. Businesses operating within a niche while sustaining a competitive advantage and demonstrating historical positive cash flow are most likely to be sold. Remember, you can’t sell value that you can’t prove.

Note, historical cash flow does not mean last year and the year before. Business value is based on performance over the past five years. To sell your lifestyle business eventually, you need to build and demonstrate value with at least five years of established rock-solid fundamentals.

To conclude, as a rule of thumb, the basic valuation of a small business ranges from 1.7 to 2.85 times free cash flow (including owner compensation and benefits). However, that calculation is meaningless if the talent and skills that clients rely on cannot realistically be transferred to a buyer. Implement the advice above to help make your lifestyle business sellable and maximize the amount you reap to fund your life beyond business.™

Dave Driscoll is president of Metro Business Advisors, a mergers & acquisitions, valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at [email protected] or [phone].  www.MetroBusinessAdvisors.com

As seen in St. Louis Small Business Monthly

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Selling your business: Three external factors that influence timing

By Dave Driscoll

In SBM’s January issue, we detailed three internal factors that affect your timing of the sale of your business. Now let’s talk about external factors that impact when you take your business to market.

One thing you can count on is that the economy will always expand, peak, retract, and expand again. This cycle is as old as time and is a leading indicator for the mergers and acquisitions cycle. When the economy is strong, capital is available to get deals done, leading to increased deal flow, firmer multiples, and closings. But when the economy falters, capital dries up, resulting in slower deal flow and softer multiples. Business sales are generally limited to financially strong companies in a growing market segment, with a buyer who is solid financially and operationally.

An exception to this is smaller “lifestyle” businesses with sufficient cash flow to provide adequate income for the owner, satisfy the debt, and show potential for further return on investment. The SBA was created to finance this type of business (up to $5 million), so those transactions are less dependent on economic factors. These lifestyle businesses largely sit outside of the cyclical M&A market, with minimal impact from interest rates and the trajectory of the economy.

Business owners planning to sell should pay attention to the three Cs of finance —cash, credit, and capital. An owner needs to keep a pulse on these economic indicators to understand where we are in the M&A cycle.

Cash. The availability of capital drives deals flows, as well as how assertively lenders pursue loans. Think of the financial crisis of 2008-2009 - businesses and individuals hoarded their capital, and lenders were not actively looking for borrowers.

Taxes also come into play. In a low tax rate environment, buyers have more cash on their balance sheets. So, when buyers have cash, lenders are offering funding, and taxes are reasonable, buyers will be identifying opportunities to produce a return on their capital. This stimulates deal activity as buyers/investors are motivated to put their cash to work.

Credit. The Federal Reserve and current monetary policy influence the cost of credit. If interest rates are low the cost of debt is reasonable, which promotes increased buyer demand for businesses and maximizes the price they are willing to pay to acquire.

Conversely, if the Fed is increasing interest rates to manage inflationary pressures, the cost of financing increases, suppressing the buyers’ appetite and therefore, deal flow.

Confidence. Once again, reflect on the Great Recession that was in full-swing 2008-2009. To manage the financial chaos, the Federal Reserve stepped in to save critical industries. Interest rates were lowered as never seen before in an effort to stabilize and, if possible, grow the economy out of recession. Lenders were worried about their customers’ financial health, underlying cash flows, and asset values. They weren’t focused on making new loans; they were managing day-to-day and monitoring the unfolding events. The economy was dragging, and the lack of investor confidence kept the economy from growing.

Current events can shake the confidence of investors, lenders, and buyers. Geopolitical events are often unpredictable and can make the global economy seem tenuous. An unforeseen disruption can impact the health of entire industries. Economic cycles are dynamic, greatly influence market sentiment…and are beyond the control of investors and sellers. High investor/market confidence indicates a seller’s market, and premium prices are paid for businesses. Conversely, low confidence moves the cycle into a buyer’s market with discounted acquisition prices compared to value. Economic confidence always drives market behavior and provides a guideline regarding the best time to sell your business.

The key takeaway

Sellers should be aware of current and projected economic and market conditions and attempt to time their “go to market” when conditions are favorable. Gauging market timing will always depend on the health of the economy, the industry, and the seller’s specific business. And remember that it generally takes four to eight weeks for a business broker to launch your business. You can’t sell your business in a day; finding the right buyer typically takes up to 18 months.

As advised in the January article, be sure your company is ready to go to market at a moment’s notice when capital is available, the cost of credit is low, and confidence is high. Run your business to be ready to sell it tomorrow. Waiting to prepare your business until external conditions are right for a sale is far too late.

Dave Driscoll is president of Metro Business Advisors, a mergers & acquisitions, valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at [email protected] or [phone].  www.MetroBusinessAdvisors.com

As seen in St. Louis Small Business Monthly

Timing of selling your business -three external economic factors

Business owners planning to sell should pay attention to the three Cs of finance —cash, credit, and capital. Watch economic indicators to un

[metrobusinessadvisors]

Three internal factors when an owner asks, “When should I sell my business?”

By Dave Driscoll

Owners often base the timing of selling their business on some milestone in their life. Sometimes, owners decide to sell when they realize that taking the business to the next level will require more energy, time, and capital than they want to invest. The goal may be to sell the business when they reach a selected retirement age or when they land a sought-after large client, making the business more valuable to investors. 

But does the timing of when you sell your business really matter? One of the enduring principles in the investment/retirement planning world is you can’t time the market. I disagree with that axiom when it relates to the sale of your business. Yes, you can! 

Identifying the right time to sell can literally mean millions of dollars in your pocket.

A guiding principle we share with all business owners is “run your business as if you were going to sell it tomorrow.” Many times, interest in acquiring your business comes when you least expect it, so always be prepared.

When’s the right time to take a business to market?

The right time to consider selling your business is when two things are true:

You’ve built a business to a high level of value that can be transferred to a successor owner, which makes your business marketable. 

The mergers and acquisitions market is on the upswing toward a sellers’ market because this maximizes the cash flow multiples expected.

If these two criteria are true, sell the business. 

If they’re not, keep running your business, with a focus on being prepared to sell it tomorrow, understanding the internal and external factors that will influence your timing. This month, we’ll examine the internal factors.

Three internal factors that influence the timing of a sale

Business owners can control three internal factors:

Trained and capable workforce. Can your business be sold and continue to run successfully without you? A common weakness of privately held businesses is reliance on the owner and an underdeveloped team. If you’ve developed a strong leadership team within your organization and positioned your business to no longer be owner-dependent, you’ve likely built significant transferable value and marketability. In today’s talent-starved environment, employees are an important intangible asset. Buyers are actually acquiring businesses not only for their revenue, but also for their talented personnel.

Strong projected cash flow. Is your business positioned for strong growth? Buyers buy for return on investment (ROI). Returns come in many forms, including the increased productivity from acquiring employees as mentioned above, and the belief in growth potential. Growth is evidenced by well-founded projections based on proven historical data. If your business has reached the highest profit level possible with the capital and talent resources currently available to you, but you have a strategic plan that demonstrates how additional investments could fuel growth, then the time is right to go to market.

Sometimes owners think they need to drive the business to its peak, but a word of caution: an investor is always looking for future growth potential. Don’t make the mistake of waiting until you’ve driven your business to its highest level because that leaves no potential ROI for a buyer.

Risk. What are you risking by continuing to own your business? Analyze the value of being an owner. How much owner benefit (financial and emotional) do you derive from the business? If you were to sell your business and invest the proceeds (net of taxes), would the financial return, freedom, and personal wellbeing outweigh the benefits you currently receive as an owner? Let’s consider the continued risks involved in running your business. As a company matures and the owners get older, risk tolerance frequently decreases, and burn out sets in. If there’s no family member interested in taking over the business, the continued sacrifices of ownership can be untenable.

Selling your business is a personal choice. When to sell can be influenced by the M&A market’s likelihood to reward your years of hard work to your satisfaction. In addition to your workforce, cash flow, and risk assessment, there are many personal and professional considerations when determining the best time to sell your business and pursue your life beyond business.™ At the end of the day, control what you can, as there are so many factors in life that you can’t.

Dave Driscoll is president of Metro Business Advisors, a mergers & acquisitions, valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at [email protected] or [phone].  www.MetroBusinessAdvisors.com

timing of selling a business

Owners often base the timing of selling a business on a life milestone. Identifying the right time to sell can literally mean millions of do

As seen in Dave's monthly column in St. Louis Small Business Monthly

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Understanding Seller’s Discretionary Earnings when Buying a Small Business

Net income may vary significantly from SDE

By Dave Driscoll

Seller’s discretionary earnings (SDE) – also known as seller’s discretionary income - may be a new term for those considering buying a business. Understanding what the term means and how it’s calculated is important when analyzing what the business makes compared to what the business is worth.

Think of SDE as the total amount of cash the business generates through operations that is available to the owner to spend at their discretion. The “discretionary” part of SDE is just that - the owner chooses how to allocate that cash. The follow up question is, does the business need that expense to operate the business?

The expenses the owner chooses to have the business pay that are NOT needed for the company to operate are called add backs because they are added back to net income.

Why would an owner choose to have their company pay an expense that is not necessary to run the business?

Because many, if not most, owners attempt to show as little income as possible to reduce the taxes they must pay on the annual business earnings. Conversely, when it's time to sell the business,, the owner has the opposite objective…then they want to show as much earnings as possible to justify the highest asking price. Therefore, these non-essential expenses paid by the business are documented as add backs to show the prospective buyer a more accurate picture of the cash that could be at their disposal.

A well-prepared adjusted profit and loss statement representing five years of data anticipates buyer questions and clearly defines the expenses on the operating statement, including which are not necessary for efficient management of the business. But not every seller or business broker knows how to provide that information in a way that's easy to understand. And not everyone is willing to engage in full and complete disclosure.

Any prospective buyer should carefully review and assess each item on the income and expense statement when considering buying a business, asking for clarification of any questions or concerns.

Important financial questions a buyer may ask include:

Is each itemized expense necessary to operate the business properly?

Is the listed total for each item the actual expense, or is the real cost lower or higher than what has been entered in the books?

What percentage of the total expenses does each item account for, and how does that compare to the percentages in prior years? If there is a substantial change in any single category, what is the reason?

A smart business buyer does not simply accept the figures listed in the P&L, tax returns, or other financials of a company being considered without question, but instead does some investigation to learn what the figures truly represent. Some typical add backs to net income that are recognized without question by SBA lenders include:

owner's annual salary

payroll taxes for the owner-manager

owner’s pension

owner’s health insurance premium

amortization

depreciation

interest expense (typically for loans that will be paid off when the business is acquired)

one-time business expenses (an expense the new owner will not have in the future)

salary expense for family members who don't actually work daily in the business

The above items are discretionary because either the owner decides the amount to be paid or the expense is solely for the owner’s benefit. In addition, there are many other potential adjustments, such as:

owner's personal auto expenses (lease, insurance, gas, repairs, etc.),

charitable donations, reduction or addition to fair market value for rent paid to owner(s)

owner's personal life, health, and disability insurance

non-business meals and entertainment

non-business travel

non-business telephone and internet

Buyers and sellers should note that SDE works both ways. For example, if the owner-manager’s family member works in the business but is receiving no pay or less-than-fair-market-value pay, then the new owner will have to pay more for a replacement employee and that needs to be deducted from the SDE. Proper calculation of SDE is vital to both sellers and buyers. For example, a business showing a "profit" of $140,000 could easily have an actual SDE of $400,000; that's a huge difference in business value. An experienced business broker is the best resource for a thorough analysis and explanation of add backs and SDE.

Dave Driscoll is president of Metro Business Advisors, a mergers & acquisitions, valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at [email protected] or [phone].  www.MetroBusinessAdvisors.com

As seen in St Louis Small Business Monthly

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Questions a Buyer should ask the Seller when investigating the purchase of a business

By Dave Driscoll

Buying a business is probably the most consequential purchase you can make in life. Not taking the time to thoroughly evaluate whether you and the business are suited for each other can result in a bad decision that is financially and emotionally disastrous for you and your family.

When investigating buying a business after execution of a Confidentiality Agreement, it is important to understand the inner workings of the business and realistically qualify interest early in the process. Prior to presenting a Letter of Intent, a prospective buyer should have a conversation with the seller to ask questions about the operations, customer base, employee relations, industry trends, the business’ history, and the owner’s background.

Asking the seller straightforward questions and getting forthright answers in return is an essential part of the buyer’s due diligence process. Posing the “right” questions and actively listening will help the buyer learn and assess important aspects of the business. So, what should the buyer ask to promote a substantive conversation with the seller?  

First, I recommend determining the seller’s role and motivation by asking:

Why did you get into this business in the first place?

What still excites you about it?

What is your day-to-day role in the business?

What would your ideal transition look like? What do you want to do post-sale?

What are your expectations of a buyer?

What problem does your company solve for your customers?

Why do your customers buy from you rather than your competitors?

These are serious questions that deserve thoughtful, sincere responses. The answers allow the buyer to discern the seller’s true motivation, establish chemistry with the seller, and get the initial “feel of the business.” If the seller does not give serious, satisfactory replies to these questions, the prospective buyer should move on to a different opportunity… pursuing the purchase of the business would not be worth the energy.

The next series of questions clarify how the business works. Establishing trust with the seller prior to asking process questions is essential; otherwise, a seller will not be comfortable providing detailed responses.

Would you walk me through the entire process - from sales and sourcing to distribution and serving the end customer?

Does the business have a comprehensive operations manual?

Beyond the owner, what is the leadership structure and their duties within the company? (This should be based on job titles, not actual employee names.)  

How long have your employees been with you on average and why do they stay?

What types of external and internal problems arise in your company regarding production, service, employees, and/or customers?

Who deals with those problems and how?

At what percentage of capacity is the business currently operating?

What capital expenditures should be made in this business annually?

What opportunities do you foresee in this market through the next three, five, or 10 years?

Prospective buyers should be gauging the seller’s sincerity and forthcoming nature, aiming for a broad understanding about how the business runs, as well as a realistic perception of the opportunities and challenges. Supporting that conversation with specific facts should happen in the due diligence phase, after the LOI is accepted.

The questions above have focused on understanding the basics and establishing trust and chemistry between the buyer and seller. After that has been accomplished, another series of questions zero in on providing a roadmap to promote success and avert disappointments:

What mistakes have you made and how can I avoid repeating them?

Are there industry associations and resources for advice and counsel on trends and best practices?

On what terms will you be available to assist or mentor me in taking over the business?

Are you personally responsible for relationships with any suppliers?

Are any customer relationships managed by you personally?

How dependent is future success on transferring and maintaining those relationships?

How likely are those relationships to continue after you are out of the picture?

Does the company have intellectual property? If so, how is that protected?

Are logos and business names trademarked? Do they convey with the business?

What marketing and promotional materials support sales?

If relevant, are the business’ inventions patented?

The seller should present five years of organized financial statements. When reviewing the financials, the buyer should ask detailed questions about:

the story the Profit & Loss statement tells about the business operations

the credibility of the source of the numbers

historical and current performance

Establishing trust and respect between buyer and seller early in the process is crucial. Both parties must recognize that this pre-LOI conversation is the foundation for determining the tone of any future negotiations. After the LOI is executed, the buyer will have the opportunity to verify the accuracy of the materials and statements that enticed them to pursue the purchase.

Buyers, use your time efficiently to determine whether you want to proceed toward acquiring the business. Avoid fatiguing the seller. Keep in mind that in addition to participating in the sale of the business, the owner needs to continue devoting their time and dedication to maintaining the business’ value. Some prospective buyers requests mountains of information, meetings, and time, yet can’t make a decision because they are in search of a mythical guarantee – watch out for this “analysis paralysis.”

Asking thoughtful, detailed questions will help determine quickly whether this business is a good fit for the buyer, while also gaining the information needed to craft a Letter of Intent that defines the “essence of the deal.”

Dave Driscoll is president of Metro Business Advisors, a mergers & acquisitions, valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at [email protected] or [phone].  www.MetroBusinessAdvisors.com

Questions a Buyer should ask before the purchase of a business

Asking the “right” questions will help a buyer learn and assess important strategic aspects when considering the purchase of a business.

As seen in Dave's monthly column in St. Louis Small Business Monthly

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Fall harvest: time to gather our thoughts and plan what’s next

By Dave Driscoll

Summer giving way to the harvest season always caused me to reflect on where my business was and identify the top three initiatives to tackle in the coming year.

With vacations complete, the kids back to school, and a return to a more work-focused schedule, the time was right to formalize the observations and ideas from the summer into a PLAN. Some years, my business was doing well and there really wasn’t a need to change the strategic plan; you know, if it ain’t broke, don’t fix it!

But more often than not, there were aspects of the business that needed attention. In today’s world, employees, client deliveries, and pricing would likely be on the list.

The obvious remedies are not always available. For example, we currently have a critical shortage of potential employees. Instead of hiring more people, managing your labor needs may require a serious look at downsizing the operations, systems, and output based on what your current crew can produce, while recalibrating your business expectations accordingly.

I sold my manufacturing business in 2006. The custom products we sold were produced on equipment that needed employees to operate in an efficient manner to meet the committed delivery dates. We struggled to find employees who had the skills required. I remember managers hiring two or three people in the hope of finding that one employee who was the right fit. Today, that isn’t possible; instead, you hope to find one solid prospect, and hold your breath they will be able to fulfill your team’s needs.

Given the production challenges we had “in the good old days,” I can’t imagine the struggles manufacturers have today to produce and deliver orders on time. Even as more automation is implemented, if you don’t have the people, the equipment does not run. Then the schedule that was sequenced to meet customer demands must be shuffled and the delivery commitments that were made can’t be met, which means unhappy customers.

How do you deal with such volatility and still meet customer quality and delivery expectations? The challenge becomes a choice. To meet a specific delivery date, you must pad the schedule with extra time/days to increase the probability of on time delivery OR be selective and only accept orders with the highest likelihood of a consistent on-time delivery.

Responding to a challenge may require reassignment of available employees who have the knowledge and skills needed to consistently meet deadlines. Unfortunately, that means prioritizing one segment of your business and supporting certain customers over others.

Pricing your products in an uncertain operating environment is an additional layer of strategic calculation. If you concentrate on one segment of your business to the detriment of another, can you still generate enough gross margin to cover your operating expenses and be profitable? What if you can’t?

The cascade of decisions that need to be considered by owners is daunting and could require a total realignment of your business. Or this may cause you to evaluate whether you can (or want to) continue to operate the business. If you don’t want to continue to fight the battle and hope to survive, you may want to sell your business, merge with a competitor, or liquidate.

Wishing for a return to how things used to be and planning as if that will happen is a waste of energy. The only thing constant is change so every business owner must direct the company to evolve in order to survive and thrive. Proactive planning will protect your business better than trying to catch up to the curve.

Managing your business requires planning in every season. For me, fall seemed to be the time of year when I was most inclined to reflecting and planning. Being in business means constantly evaluating probabilities to make the best decisions and it’s important to step back and look at the big picture at least annually. Strategic planning takes courage to change course and live with the outcome. Which three aspects of your business most need attention?

Dave Driscoll is president of Metro Business Advisors, a mergers & acquisitions, valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at [email protected] or [phone].  www.MetroBusinessAdvisors.com

As seen in Dave's monthly column in St. Louis Small Business Monthly

See more tips for #smallbusinessowners on our blog!

Fall harvest: time to gather our thoughts and plan what’s next

Strategic planning is essential for business owners. Reflect on where your business is and identify the top three initiatives to tackle in t

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Winners may be losers!

When negotiating selling/buying a business, both seller and buyer could end up losers

By Dave Driscoll

During my career in business, both as an owner and advisor, I have learned to keep the big picture and the road to that vision clearly top of mind in my decisions. “What is my desired outcome? What is my long-term objective? How do I get there?”

Being a professional M&A broker advisor, I interact with buyers and sellers daily. My mission is to achieve the seller’s goals when exiting their business, as well as to fulfill the buyer’s desire to own a profitable business. Balancing each parties’ interests can be challenging, especially when one party has the attitude they must “win” the contest over the other. I have seen many a party not achieve their objective -the sale or purchase of a good business - due to the must win attitude. That singular focus on winning the current “round” instead of looking at the big picture leads to the deal evaporating. Future opportunities are lost that could have benefited both parties in a more balanced negotiation.

What drove me to start my first business was a passion for what I was doing. I was selling a consumable product that my employer manufactured according to each customers’ specifications, and that customers needed to reorder repeatedly because it was a critical part of doing business. The relationship between the supplier and the customer was ongoing, offering the opportunity to build long-lasting relationships. Likewise, my vision for my future was to own a business manufacturing a consumable product that was the basis for long-term customer relationships. That was my “big picture” and the specific product mattered less to me than the framework of reoccurring revenue and connections.

Without money to purchase a business, I decided to just start my own. Initially, I brokered the consumable product through wholesale manufacturers; I was a professional salesman - a manufacturer’s representative who took title to the product I sold. When I started, I had no customers, just a vision of what I wanted my life to look like… my destination.

Working hard, seizing opportunities, responding to the pulse of the market, and expanding into manufacturing capabilities as demand for product grew, ultimately led me to living my ideal vision for my career and lifestyle. Along the way, I achieved huge successes along with major disappointments – that’s an inescapable part of being a business owner. There are no guarantees and assuming risk is the price of ownership. Ultimately, reaching my vision came from learning to succeed more often than I failed. I never kept score in some imaginary competition with others. I just kept visualizing where I wanted to be and taking logical steps in that direction.  

Failing to develop a long-range vision and to keep all eyes on that destination has caused many buyers and sellers to miss their “big picture” (and big opportunities) by only focusing on winning here and now. Not compromising to a common middle ground when negotiating a business sale or purchase results from letting the ego overshadow the vision of what you are striving to achieve.

Too often, sellers and buyers are short-sighted about negotiations instead of considering how their lives will change post-sale. Both parties in a business transition need to weigh the significance of those last few dollars or percentages as it relates to their overall goals.

From the buyer’s perspective… how long will it take me to recoup the amount I give up to get the deal done? Three, six, 12 months, or longer? Under my ownership and fresh energy, is the company likely to perform better and shorten that timeframe? Does acquiring this company support my future vision of myself and my lifestyle? Is the ongoing potential outcome (and income) worth more than what I concede?

From the seller’s position… how strong is the pull from my life beyond business?™ What value do I place on time with family (grandchildren!), travel, less daily responsibility, fewer obligations, and time for volunteering and hobbies? Or maybe just the option for leisurely reading a book? Is there a different career I want to explore? Is the amount I sacrifice worth more or less than those pursuits?

Advancing toward your ambitions should be the focus for both buyer and seller, not competing for the last nickel and a tick mark in your personal win column! In pursuit of the win, you could quickly become the biggest loser.

Dave Driscoll is president of Metro Business Advisors, a mergers & acquisitions, valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at [email protected] or [phone].  www.MetroBusinessAdvisors.com

As seen in Dave's column in St. Louis Small Business Monthly

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Buyers & sellers beware of deal fatigue

“Time kills deals” is a well-proven axiom in M&A brokerage

By Dave Driscoll

Time is not necessarily a friend when it comes to mergers and acquisitions transactions. When a prospect decides to actively investigate buying a business, all parties and advisors should commit to a deliberate pace to move the process forward. The M&A advisor, prospective buyer, and seller all need to focus on reaching critical decision points that either progress toward a purchase or determine the deal won’t happen.

Buying a business is a time-consuming process even under the best circumstances. When a prospect identifies an interesting opportunity, a non-disclosure (confidentiality) agreement must be signed, and the financial ability to consummate a transaction must be assessed. After clearing those hurdles, a Confidential Business Profile of the business is shared with the prospect.  

Assuming the buyer prospect likes what they see, the next step is a conversation with the business broker to answer additional questions and/or to provide more information to assist with the decision to proceed.

If the buyer confirms continued interest, and the broker believes the prospect and seller could realistically reach agreement, the business broker should coordinate an offsite meeting to introduce the seller and prospective buyer. This is an opportunity to engage in a general conversation about the business and gauge chemistry between the buyer and seller.

As you see, quite a bit of time can pass before an introduction with the owner. Reaching that step in a timely manner will not occur if either the broker or seller does not do their part to manage the process, or the buyer prospect approaches the process casually. Even coordinating busy schedules and a location to introduce the seller and buyer can take several weeks.

After the meeting, both the buyer and seller must determine whether they want to proceed toward a sale. Yes, the seller may decide (for a variety of reasons) that they do not want to sell the business to a specific candidate. In most cases, the seller wants to feel confident the business will continue to succeed, provide for their employees, and satisfy their customers. Therefore, a seller will be judging the buyer on their perceived ability to successfully lead the company.

If the parties mutually agree to continue, drafting the Letter of Intent (LOI) is next. The LOI is the formal written record of the business terms and conditions of the deal as discussed between the buyer and seller during the investigation process. The LOI is non-binding but is negotiated to capture “the essence of the deal.” The broker facilitates the LOI negotiations; several drafts typically pass back and forth before all parties reach agreement either to proceed to due diligence or to abandon the deal because of an impasse.

The lengthy process described to this point assumes both the buyer and seller are engaged, motivated, and willing…and can take four to eight weeks. Now imagine if either party is not proactive, or the M&A intermediary is not engaged and diplomatically conveying the urgency of next steps to both sides.

When the LOI is accepted and signed by the buyer and seller, due diligence begins. The length of due diligence is defined in the LOI and generally is 30 to 60 days, plus an allowance for extensions based on certain circumstances. The buyer creates a list of confidential information requested to investigate more intimate details of the business during the due diligence period. Essential ways to expedite the process include the buyer providing the list of requests as soon as due diligence begins, the seller providing complete, well-organized information proactively and/or promptly when requested, arranging tours, etc, and the broker delivering information and managing the requests as a quarterback for the deal. 

If the buyer remains committed to the deal, transaction attorneys begin drafting the Asset Purchase Agreement (APA) during the due diligence period. The APA is the legal contract that describes the terms of the sale, including representations and warranties. All terms and conditions to close must be negotiated between buyer and seller (with advice of their attorneys), so there is a real possibility that the due diligence period and APA negotiation combined may take an additional 60 days. 

One major condition to closing a deal is determining how the purchase amount will be paid. If the buyer needs bank financing, a “commitment to lend” letter is required during the due diligence period. Once the buyer has secured financing, processing that loan can take 30-60 days, depending on the type of funding. SBA processing frequently takes 60 days.

Once the due diligence period is completed, the APA is fully negotiated, financing is secured, and all the necessary documentation is completed to lend, the closing is scheduled. Typically, closing can occur within a week after all ducks are in a row.

The transaction process from start to closing can take three to four months, or even longer. That’s a long time for the seller, buyer, and broker intermediaries to stay focused and keep the process moving efficiently. Any diversion or distraction along the way can slow down the process and fatigue all the parties.

As a buyer or a seller, you must be aware “time kills deals” and be vigilant about completing each step of the process efficiently. Be realistic and don’t waste time if the transaction is not the right match, but if this deal does meet your goals, focus on the prize!

Dave Driscoll is president of Metro Business Advisors, a mergers & acquisitions, valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at [email protected] or [phone].  www.MetroBusinessAdvisors.com

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As seen in St. Louis Small Business Monthly

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The changing economy’s effect on the decision to buy a business

By Dave Driscoll

You can’t escape the headlines, news feeds, print media. All the news outlets are chanting about the same topics: Inflation! Interest rates!

Yes, the changing economy is news. The numerous opinions about what is next are all based on someone’s point of view. Recall prior to the pandemic, businesses were healthy; if a worker wanted a job, there was one available. Interest rates and inflation were low. Then the pandemic shut down the world economy.

The U.S. government stepped in with much needed assistance for businesses and citizens with forgivable loans and direct grants to individuals and families. The Federal Reserve’s balance sheet, the entity that prints the money, grew from $1.5 trillion in 2008 to $8.9 trillion today. So $7.4 trillion dollars has been pumped into the economy over the past 14 years. That’s a lot of money sloshing around in the economy. Logically, at some point the excess that is not needed in the economy (inflation) will need to be taken out. How does that happen? One of many methods is that the Fed uses the interest rate as one of its financial levers on the economy through the banking system.

The mergers and acquisitions (M&A) and small business brokerage industries have been very active through the past several years. There are many reasons and motivations that explain why business transitions have been so robust, including the great resignation, aging boomers, the search for independence and freedom of choice, wanting to be in control rather than be controlled. The business transfers started to pick up momentum in 2015, escalated through the pandemic, and continue through today.

The reason for this sustained business M&A activity is largely generational. Since 2009, many owners have decided to sell a business and begin the next chapter of their lives. Navigating many obstacles has slowed down the process, but not the enthusiasm to sell. The financial calamity of 2008-2009 and the search for direction following that financial collapse, as well as the pandemic, were major glitches.

When uncertainty began to clear from the 2008-2009 collapse of the financial markets, desire to sell could not be contained any longer. Many sellers had to exit either because of age, burn out, health, or family concerns.

Buyers had access to capital to acquire healthy businesses. Companies with solid business models and cash flows that were sustainable, sold. Interest rates throughout that period were very accommodative. Good businesses sold. Not so good businesses did not. The fundamentals that support M&A activity had not changed. Good businesses sell regardless of other circumstances.

Now we are experiencing the process of removing the excess money that is not needed by the economy to grow at a reasonable rate. Remember, the Federal Reserve interest rate in 2008 was 5.25% just prior to the collapse of the financial markets. In 2009, they dropped to 0%. The June 2020 announcement from the Federal Reserve pegs the rate at 1.75%.

Look at the movement and change in those numbers from 2009 to 2022. Logic would indicate that interest rates are still too low, and that we will be seeing additional increases. Ask yourself…  is that actually bad? Where should interest rates be logically?

The relationship of the Federal Reserve to the economy has been likened to a spiked punch bowl at a party. The punch is great at the start. Leave it unattended too long and the party can get out of hand. Well, the Federal Reserve left the punch out for too long. It’s time to sober up.

The point of this article is that the economy and interest rates are episodic and run in cycles but over the long run, the trend line is generally slanted to increase. Don’t be paralyzed by the scary headlines media outlets and those who benefit from financial panic use to sell their services. Focus on long-term cycles and make decisions accordingly. Remember, everyone is an expert… just ask them! Disregard the noise and bluster and think for yourself.

The fact remains, good businesses sell, bad businesses don’t. Don’t make long-term decisions based upon short-term thinking or fear. Loans can be refinanced. If you pass up buying a strong business waiting for the perfect conditions, you’ll miss the opportunity, and the business will likely be off the market for nearly a generation.

 Dave Driscoll is president of Metro Business Advisors, a mergers & acquisitions, valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at [email protected] or [phone].  www.MetroBusinessAdvisors.com

As seen in Dave Driscoll’s monthly column in St. Louis Small Business Monthly

https://metrobusinessadvisors.com/the-changing-economys-effect-on-the-decision-to-buy-a-business/

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Representations and Warranties are an important part of the Purchase Agreement when buying or selling a business

By Dave Driscoll

When a buyer wants to purchase a business, the process typically begins with drafting and negotiating a letter of intent (LOI) outlining the business terms of the transaction, such as the purchase price, an exclusive period for negotiation, and post-closing agreements, such as non-compete, employment, and other agreements. The letter of intent defines the “essence of the deal” as negotiated between the buyer and seller and is a valuable tool for keeping the deal consistent with what the parties agreed to when setting the process in motion.

Once the LOI is signed by both parties, due diligence, as well as drafting and negotiating the definitive asset purchase agreement or stock purchase agreement begins, depending on the structure of the deal. The purpose of the purchase agreement is to finalize all the terms and conditions of the transaction; this should be consistent with the letter of intent, with the addition of important legal considerations not covered in the LOI.

One topic that is not typically addressed at the letter of intent stage but is heavily negotiated for the purchase agreement are “representations and warranties.”  The LOI typically states that the seller will make customary representations and warranties to the buyer, and the purchase agreement will contain the full definition of such representations and warranties. In many cases a Representations and Warranties section can be the largest portion of the Purchase Agreement document.

A representation means any details about the company are claimed true as of the date stated to the other party. The purpose of representations and warranties—from the buyer’s perspective—is to provide comfort for items that may not be discoverable in the due diligence process. Some common seller representations include assurances regarding the seller’s ownership of the company and the authority to consummate the transaction, as well as confirmations regarding litigation, titles to assets, and conformity with laws and tax obligations. Depending on the type of business being sold, the representations may also address intellectual property, customer contracts, human resources, regulatory, and environmental issues.

Purchase agreement representations and warranties give the buyer more confidence to move forward with the purchase because if anything turn out to be incorrect or not as represented after the closing, the buyer will have a contractual cure against the seller. Sellers, of course, desire that the “reps and warranties” be narrow in scope, as this reduces their liability related to the transaction post-closing.

Although the seller’s representations are the more critical component of the purchase agreement, sellers also request that the buyer provide a set of representations which are typically reciprocal to the seller’s similar representations.

Another key area of negotiation in the purchase agreement is narrowing the scope of the representations and inserting qualifiers. For example, a representation may be qualified to the knowledge of the seller or exclude certain items that would not have a material adverse effect on the company’s future success.

Example of a representation qualifier:

To the knowledge of the seller, the seller is not in violation of any laws, material governmental orders, rules or regulations, whether federal, state or local, to which the seller or the assets are subject, except where such violation does not result in a Material Adverse Effect on the assets of the business.

If you are contemplating the sale of your business, understanding that the negotiation process does not end with the signing of the letter of intent is significant. Representations and warranties will be a major component within the purchase agreement. In many cases, a letter of intent can be negotiated without legal counsel. However, after the letter of intent is executed, it’s crucial that you work with your attorney to draft the purchase agreement to define the transaction and determine the appropriate scope of representations and warranties.

 Dave Driscoll is president of Metro Business Advisors, a mergers & acquisitions, valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at [email protected] or [phone].  www.MetroBusinessAdvisors.com

https://metrobusinessadvisors.com/representations-and-warranties-important-part-purchase-agreement-buying-or-selling-a-business/

As seen in Dave’s monthly column in St. Louis Small Business Monthly

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Meeting employees is risky business for sellers and buyers

By Dave Driscoll

 Over the years of representing business owners, some buyers have adamantly wanted to meet the company’s employees prior to the closing of the sale.

That request is completely understandable. A buyer, in addition to understanding every aspect of the business operations, wants to get a feel of the “chemistry and vibe” with employees prior to the final closing and transfer of funds.

Naturally, any buyer wants to investigate and analyze every detail, but the seller bears the risk if employees are introduced prior to closing. Google “When to inform employees of the sale of the business” and 99% of the results are “after the sale is completed.” Disclosing to employees that the business is being sold is an enormous risk for the seller and can diminish the value of the business nearly instantaneously (which is detrimental to both the buyer and seller).

Business value is based on many elements including clients/customers, employees, revenue, and, most importantly, cash flow. Announcing to employees the sale of the business prior to closing can weaken the stability of all these aspects:

o   Clients immediately question how a change will impact them. They wonder if the company is experiencing financial difficulties or if the quality and customer service they expect will change with a new owner. To protect their interests, they will likely request quotes from competitive suppliers or service providers.

o   Employees will also fear the owner needs to sell because they are ill or the company is in financial trouble. This is compounded by concerns about how the new owner will treat them. Change makes all employees nervous, and their anxiety will certainly cause them to seek advice from friends and family…meaning confidentiality is lost! Loose lips sink ships! Employees may also start looking for other career opportunities.

§  Truth be told, employees are one of the most valuable assets of a business. Despite their doubts, most employees will be more secure with a new owner. Sticking with the ship metaphor, why would a buyer remove the propeller from the ship? The new owner needs employees who know the drill, and the long-term health of the company is improved by the new owner’s energy and commitment.

o   Revenue- Sales revenue can be harmed by premature knowledge of a sale (for example, clients jumping ship). Future sales may decline, causing a need to trim operating expenses which could include previously-secure employees.

o   Cash Flow of the business can quickly be impacted as soon as confidentiality is breached by sharing the information with clients or employees – they will not keep the knowledge of the sale to themselves, and news will spread like wildfire. The universal measurement of the value of a business is the cash flow created by its processes. Loss of confidentiality resulting in reduced cash flow has a 100% correlation to the value of the business.

 Simply put, reduced revenue means reduced cash flow which equates to reduced business value.

Compromising the business in this way is detrimental to the buyer and seller. There is no benefit to informing employees prior to the closing of the sale! All the risk is borne by the seller.

The acquisition of a business is all about risk. Both the seller and buyer want minimal risk; minimizing personal risk is how we try to ensure our success.  Any request will be viewed through the lens of “what are the risks to me if I honor this request?”

Is there any way for a buyer to meet employees prior to closing the sale of the business? My follow up question is how do you balance the seller’s risk to facilitate the buyer meeting employees?

There is an option, but I haven’t had a buyer agree.

Balancing the risk means the buyer and seller must share in the risk of an outcome. The process of buying/selling a business involves many steps: Letter of Intent, Due Diligence, securing funding (most likely involving financing), and negotiating a Definitive Purchase Agreement with Conditions to Close incorporating the contingencies to be satisfied to finalize the deal. Earnest money from the buyer becomes non-refundable after the Conditions to Close have been met, and then closing is scheduled.

At this stage, the buyer has a lot of money invested; their earnest money is non-refundable, all the costs of accountants, attorneys, and advisors have already been incurred, and financing fees have been paid.

The risks to buyer and seller are still not perfectly balanced because the buyer could still walk away, although at significant cost and legal jeopardy. But depending on the seller’s confidence level at this point, they could agree to introduce company employees to the buyer. Rarely have I seen this occur because the risk to the seller is still much higher than to the buyer.

Logically, everyone can understand the reason a buyer wants to meet employees before closing the sale, but the risks associated with loss of confidentiality are just too high for the seller.

I have seen buyers cancel Letters of Intent because the seller did not agree to introducing employees during due diligence prior to closing. Confronted with the reality of the risk to the business, I ask myself if they really had what it takes to be an entrepreneur in the first place. Buyers should understand and respect the risk to the seller, realizing it’s not appropriate to expect to meet employees. If there is some extenuating circumstance, that should be discussed at the beginning of the acquisition conversations. Ultimately, protecting the business for future success is in the best interest of both the buyer and seller.

 Dave Driscoll is president of Metro Business Advisors, a mergers & acquisitions, valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at [email protected] or [phone].  www.MetroBusinessAdvisors.com

As seen in Dave’s monthly column in St. Louis Small Business Monthly

[metrobusinessadvisors]

Where are the employees? Many are choosing more control over their lives and buying businesses

By Dave Driscoll

We read about it everywhere…Where are the younger workers/professionals? Why are there so many unfilled positions? Why can’t we hire the talent we need?

From the flip side, we hear about the great resignation, work/life balance, taking a year off, renting an RV and traveling the country… even with school-aged children in tow!

This disruption in the “normal” workforce stems from the pandemic lockdown and the shockwaves everyone has experienced with sickness and/or the death of family or friends. Finding a younger worker who has not experienced pandemic-related anxiety would be a rarity. Tragically, they have learned at a younger age than recent generations that “normal” life can quickly change dramatically or be cut short.

The fear and reality are empowering them to take risks and make decisions that boomers and Generation X wouldn’t have imagined. Millennials and Generation Z are exchanging the paradigm of the “steady paycheck” for the freedom to experience life, family, and nature on their terms.

The pandemic has also unchained portions of the workforce from the office cubical. Office workers now have the ability to conduct business and earn a living from wherever they choose.  How many of us used Zoom nearly daily five years ago like we do now? Parents appreciate the flexibility to lessen childcare burdens and accommodate other family considerations. Commuters of any age aren’t sacrificing time in traffic. And many have realized they are more productive without the interruptions, distractions, and temptations to chat with co-workers. Unrestricted location and flexible hours provide the freedom to maximize productivity while exploring and making financial choices to follow their hearts and dreams.

While following those dreams, many are continuing their independence and not delaying gratification. Meanwhile, supply-chain issues result from a shortage of workers to manufacture, offload, transport, and stock products.

The Federal Reserve of St. Louis publishes the Personal Saving Rate (PSR) https://fred.stlouisfed.org/series/PSAVERT. Personal savings is your personal income minus the cost to live and taxes; it’s basically the portion of personal income left over from spending on life’s necessities. The balance is placed in savings or investments. The ratio of personal savings to disposable personal income (DPI) is frequently referred to as "the personal saving rate.”

From February 2020 to March 2020, the PSR increased to 33.8% and remained at an extraordinarily high level through December 2021. However, in stark contrast, the PSR has now fallen below historical averages indicating folks are spending those massive reserves. Many folks are exploring buying a business in an effort to realize their definition of the “independent lifestyle.”

The M&A broker community has been experiencing increased buyer activity throughout the pandemic, supporting the quest for “lifestyle businesses” that provide autonomy. Owners were slow to join the trend initially, but currently are fully engaged in pursuing their dreams as well… selling their businesses to embrace their retirements with a focus on family, grandchildren, travel, and all the other things they had been postponing.

Seems perfect to me! Younger buyers seeking a better lifestyle are providing the exit pathway for boomers to embrace their retirement objectives.

A logical question is, where are the younger buyers getting the money to purchase mature sellers’ businesses? Actually, there are many sources for the equity needed to qualify for the necessary loans and facilitate the unprecedented business buyer/seller activity. A few examples include:

·       Personal savings-see PSR paragraph above

·       Friends and family

·       401(k) retirement accounts (think about the stock market growth rate over the past four-five years)

·       Seller financing - Sellers can contribute a buyer’s equity with a small seller note

A younger buyer can find the financing to complete the business purchase through conventional sources such as banks and credit unions. To qualify for traditional financing, borrowers need to conform to conventional lending standards of equity inputs from 20% to 30%, qualifying credit experience, leverageable underlying assets of the business being purchased, and adequate free cash flow coverage to support the debt service required to purchases the business.

Another source of financing is the Small Business Administration (SBA). The SBA still focuses on the fundamentals of lending but can assist a borrower with less onerous terms such as percent of equity input and length of amortization. The SBA views seller notes as a plus and that can be considered in the total equity input required from the buyer. Also, the SBA’s focus is on the historical free cash flow produced by the business, with less emphasis on the underlying assets.

So, where are the workers?

Many are buying businesses that support their definition and vision of a well-balanced life.

Given what we all have witnessed and experienced in the past couple years, priorities have shifted. Having been a business owner my entire career, I can understand why younger workers are choosing the entrepreneurial lifestyle and not allowing others to dictate their path.

 Dave Driscoll is president of Metro Business Advisors, a mergers & acquisitions, valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at [email protected] or [phone].  www.MetroBusinessAdvisors.com

https://metrobusinessadvisors.com/where-are-the-employees-many-are-choosing-more-control-over-their-lives-and-buying-businesses/

As seen in St. Louis Small Business Monthly

[metrobusinessadvisors]

Lesson from Ozark: Don’t be Distracted by DNA in Family Business Succession

By Dave Driscoll

Family businesses are a special example of mutual sacrifice and success. Children – sometimes multiple generations of children – have grown up with an inside view of the discussions, decisions, highs, and lows of building and sustaining the business. Despite that insider background, not every child, niece, nephew, or cousin is cut out to take the reins and lead the company in the future.

The popular Netflix drama Ozark offers surprisingly relevant examples. Bear with me, we are NOT condoning money laundering or drug cartels!

In the fourth and final season, the Mexican drug lord Omar Navarro is struggling with handing over the cartel to his heir-apparent, nephew Javi. Omar has built the cartel over decades, managing risks vs. benefits, constructing complex relationships, and playing the long game to insulate the business as much as possible. Javi, on the other hand, does not respect the rules or entangled relationships that are in place. He is impatient, impulsive, egotistical, and doesn’t consider the long-term consequences of his actions. His superior formal business education cannot overcome the fact that he does not have the leadership mindset to guide a business.

In contrast, the children of money launderers Wendy and Marty Byrde, each demonstrate divergent – but equally important – skills learned from their parents. Fourteen-year-old son Jonah quickly learns the technology at the heart of their multi-dimensional business dealings. Then, he improves the system and begins competing with his parents – he is an angsty teenager after all. Daughter Charlotte excels at the relationship side of the business; even in crisis situations, she stays calm, is a team player, and reminds people of the mutual benefit of working together. She also thinks well on her feet to mitigate problems. Her emotional intelligence and maturity for her age make her an asset to the business.

These (somewhat extreme) examples illustrate the importance of careful analysis before automatically passing a family business to the next generation. Grandparents and parents have a notoriously hard time being objective about their offspring. The emotionally-charged relationships between generations - both positive and negative – can dictate a succession plan that would not otherwise be considered logical.

In many cases, one or both generations have assumed the child(ren) will one day lead the business. But have they been properly groomed to succeed at the task? Hoping that the next generation has picked up the necessary skills and appreciation for the finer points of the business by osmosis is a big gamble. That’s an unfair burden to place on the next generation and can jeopardize not only the business, but also their financial security and family relationships.

Unconditional love should not equate to making foolish decisions for the company’s future. As challenging as it is, family successors must be judged by the same standards that would apply to hiring an “outsider.”

When assessing the potential to lead the family business, consider:

·                Maturity and emotional intelligence

·                Problem-solving skills

·                Leadership and management competencies

·                Ability to strategically and realistically see the big picture

·                Financial understanding and responsibility

·                Natural talents, abilities, and weaknesses

·                Real-world experience

·                Creativity and fresh perspective

·                Accountability to the company, employees, and community

Some of these qualifications can be taught with patience and persistence; others are inherent personality traits that won’t shift much. Leaders do learn, evolve, and become stronger, but only with a growth mindset and a willingness to compromise for the greater good.

The younger generation has had remarkable advantages in terms of education, access to information, support, opportunities, global perspective, and frequently, economic security. These benefits can develop remarkable leaders! Sometimes, however, the expectation of instantaneous results and self-focus can lead to restlessness, entitlement, or a lack of grit.

The responsibility of the older generation is to realistically consider each possible successor’s emotional and intellectual fitness to successfully handle the demands of running a business. While transferring the business to the next generation may bring comfort as the “easiest” succession plan, pretending that someone is well-suited for ownership is a cruel burden. An heir struggling and failing to perpetuate the family legacy only leads to anxiety, guilt, and family drama. If the right candidate to lead the company is not a member of the next generation, courageously acknowledge that reality instead of internalizing as failure or letting down the family.

Everyone has unique strengths, talents, and value; the risk-taking, resilience, and strategic vision required of business owners is not passed along through the family’s DNA. Although the consequences are not usually as dire or violent as the drug cartel situation in Ozark, businesses and families are strongest when each person’s authentic characteristics are realized and developed.

   Dave Driscoll is president of Metro Business Advisors, a mergers & acquisitions, valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at [email protected] or [phone].  www.MetroBusinessAdvisors.com

As seen in Dave’s column in Small Business Monthly

[metrobusinessadvisors]

Industries and markets change, and not always for the better

Your business may need to reengineer to survive.  

By Dave Driscoll

You own a business that has thrived, survived, and prospered for years. Then something happens…consumer tastes change, innovative technologies disrupt the markets, a pandemic hits, demand shifts away from your product or service in favor of chasing what’s new and hot…  Remember Krispy Kreme Doughnuts vs. the Adkins Diet, IBM Selectric Typewriters replaced by the Apple II and the Commodore 64, receiving and paying bills through the mail and then via the internet?

When you see this potential disruption coming straight at your livelihood, what do you do? Work harder, assume more risk, and improve productivity and efficiency? Chant the phrase “hard work and risk-taking pays off… it’s the core of the American Dream?”

 Yes, you do all those things, and you may feel a bit better because you’re engaged and busy. But at the end of the day, are you really going to return to the days of prosperity without changing your business model? Probably not.

What are your options?  

1. Sell, acquire, or merge with your competitor(s). If your market or industry has excess capacity, consolidation to decrease supply could be the best solution.

2. Recognize your strategic assets and buy a business in a market /industry that has a better future. Perhaps you have the employees, in-place technology and systems, building, and fixtures. Coupling your strategic assets with those of another business in a tangent industry may provide growth and utilization to construct a profitable new path, lessening your dependence on a declining market and technology.  

3. Liquidate. Liquidation is not failure. It is a realistic analysis acknowledging your current position, the future of your industry, and/or the ability to recover an acceptable level of success. Ask yourself, are the business’ prospects for tomorrow equal to, better than, or worse than today? Your honest assessment will answer whether liquidation is your best route. Self-sacrifice is easy, making difficult decisions is hard.

 Begin your deliberation by considering your strategic assets.

Remember how hard assembling those strategic assets was?

The people - how many folks did you go through before you assembled your current team? Hundreds? Thousands? Your team was built as the result of hard work and is your strongest strategic asset. Invite those trusted employees into your vision; seeking their knowledge and assistance multiplies your brain power and may reveal an exciting new opportunity.

Technology and systems - Acquiring the right technology to run your business was likely a significant challenge. Considerable doubt and anxiety go into choosing the best systems and infrastructure while the cost escalates! Systems are predominantly an operational result of trial and error with education, research, and tribal knowledge thrown in. That amounts to an expensive learning curve that can be leveraged for a new model or a fresh direction.

Buildings and fixtures - Probably only a few of your physical assets perform a very specific task, while the majority are used by nearly every business. Office space and furniture, warehouses, pallet jacks, compressed air, tools, computers - the cost to duplicate what your business already owns would be enormous and time-consuming. Leveraging your in-place assets is strategic thinking.

Next, consider buying a business.  

Identify businesses with a market opportunity that touches that of your business and can utilize your strategic assets. A good place to begin your search for a tangent market is to analyze your customers and your suppliers. Tangent markets may not be obvious and can require some research and creative thinking to recognize.

Opportunity to slowly diverge from your current trajectory into a tangent market can be challenging and exciting, pumping fresh energy into your enthusiasm. But those potential markets do need to be analyzed carefully. You don’t want to begin moving into another market that may be heading in the same direction as your current business. Another word of caution: don’t bet the farm; move slowly, quietly, and deliberately after exhaustive investigation.

If there is one thing that my career in business has taught me, it’s that survival relies on knowing when to zig, and when to zag.  Understand your market, follow your unique (but realistic) view of the future, and take the educated risk of being proactive.

My best wishes for your success!

 Dave Driscoll is president of Metro Business Advisors, a mergers & acquisitions, valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at [email protected] or [phone].  www.MetroBusinessAdvisors.com

https://metrobusinessadvisors.com/industries-and-markets-change-and-not-always-for-the-better/

As seen in St. Louis Small Business Monthly