Selling a Business: What You Need to Know
When selling a business, there are several monetary aspects of the transaction and its aftermath that the seller needs to consider before bringing the business to market. In fact, a seller needs to know – or at least have a good idea – what these numbers are and how to massage them to result in the best possible outcome at sale. And, as business brokers handling these transactions, it is incumbent upon us to make sure that the seller is aware of these issues – even if the seller chooses to ignore them.
Why should we assume this responsibility? Because if any of these issues is ignored after we’ve explained them, the seller will be hard pressed to blame us for any less-than-perfect outcome.
For most sellers, the transaction is a retirement event. But the success or failure of an ownership transfer often depends on the strategies created and planning implemented long before the Offering Memorandum is created.
Here’s a look at some of the highlights.
How Much Does the Seller “Need”?
Because the sale of a business is often a retirement event, the seller must have some idea of the amount of money they’ll need in retirement. If the seller plans to spend their retirement years carving model boats in the garage, that’s one thing. On the other hand, if the seller plans to travel around the world competing with The Big Dog, that requires an entirely different size bank account.
I’ve written previously about meeting sellers who tell us what they “need” in the first 10 minutes of the initial meeting. In our course, The Basic “How-To” of Becoming a Business Broker, I stress the importance of getting the seller to understand that the market doesn’t care what he or she needs. Buyers care only about how much money the business will put in their pocket
But establishing a number that the seller needs does not have to be an exercise in plucking something from thin air. It can be developed by reasoned consideration of the costs of whatever the seller’s plans are for retirement, the seller’s anticipated lifespan and what the seller wishes to leave to their heirs.
Such an analysis requires financial planning – which, needless to say, requires a financial planner.
Our course, The Basic “How-To” of Becoming a Business Broker”, teaches how to market and sell businesses.
Become a Professional Business Broker…
Remembering the Taxman
When selling a business, remember the Beatles song, because the Taxman cometh.
Sellers need to identify the tax implications of the transaction. Even though they won’t know all of the details of an eventual deal, they need to have a conversation with their CPA about what the taxes will look like on a hypothetical transaction and start to plan for how the ultimate transaction would be best structured to minimize the taxes due – unless, of course, the seller is someone like Warren Buffett who reportedly claims that he would like his taxes raised so he could pay more.
Many owners assume that every financial aspect of the transaction will have a capital gains rate applied to it. But that’s just not the case. A lot of owners are surprised by how much of the proceeds is considered ordinary income – and is taxed at that higher rate. With some planning, they can often structure their compensation in a way that will reduce the tax bite at sale.
Last week’s post included a discussion about the differences pertaining to taxes in the structure of the transaction from the buyer’s versus the seller’s standpoint. It’s important to anticipate possible buyer reluctance to finalizing a deal because of how the tax issues are structured.
A couple of conversations with the owner’s accountant will likely improve the financial outcome of the seller’s deal.
But Who Cares What They Need? What’s it Worth??
When selling a business, owners must have a reasonable understanding of the value of their business.
Owners overestimate the value of their business all the time. All the planning – financial, tax, marketing, etc. – will be for nought if the seller brings the business to market at a price – or expecting an offer – that is unrelated to the business’ actual value.
From the seller’s standpoint, a valuation of the business is critical. And most professional business brokers will require one.
Stories of such ill-planning and disappointment are legion. Bringing a business to market at a price that will almost guaranty it won’t sell redounds to the detriment of the business broker, as well. Early on, it makes sense to hire the appropriate professional to establish the fair market value.
Identifying the Buyer
I don’t mean the specific buyer. I mean the type of buyer.
There are two general types of buyers, insiders and outsiders, or third-party. An insider sale can be crafted as a buyout by a key employee or a group of key employees. It could also be setup as an Employee Stock Ownership Plan (ESOP) whereby all the employees buy into the business and become owners.
Outsider or third-party buyers can be divided into strategic and financial buyer types – and the general financial buyer category can be further divided into multiple subcategories such as a private equity firm or a family office that’s looking at an acquisition as an investment.
For companies with revenues south of $5 million or so, the third-party buyer could be an early retiree who has taken an early buyout package but is not quite ready to step out of the workforce.
It could also be someone who has been laid off or down-sized out of a company and has a healthy severance package that will allow them to buy a business. And it’s much easier – and far less stressful – to buy a business than to launch a new one.
The Bottom Line
The need for planning in the lead up to the sale of a business cannot be overstated. We recommend at least three years and preferably five. In order to have the best chance of achieving the best outcome, an owner considering selling a business needs to consider the issues mentioned above and assemble the right team to guide the process.
Our course, The Basic “How-To” of Becoming a Business Broker”, teaches how to become a professional business broker.
Become a Professional Business Broker…
If you have any questions, comments or feedback on this topic – or any topic related to business – I want to hear from you. Put them in the Comments box below. Start the conversation and I’ll get back to you with answers or my own comments. If I get enough on one topic, I’ll address them in a future post or podcast.
I’ll be back with you again next Monday. In the meantime, I hope you have a profitable week!