American readers of a certain age will probably remember the game show, The Price is Right, in which contestants tried to guess the price of merchandise, and its host Bob Barker. Some of the shows were hilarious as contestants had no clue as to the prices of countless items and many of their guesses weren’t even remotely in the ballpark.
When it comes time to sell, many business owners are like those contestants; “guessing” at the value of their business and settling on a number that is not even remotely in the ballpark of the business’ value. Unfortunately, if a professional business broker or advisor is not involved in the valuation and selling process, the chances of establishing a legitimate price for the business – and getting to a successful sale – are slim.
In this post, I want to share the story of two businesses, listed by the same broker in the same year, and the ordeal the broker went through to get one of them sold – an ordeal that could have been avoided if the seller of one had acted like the seller of the other one.
As a rule, we advise against taking listings that are priced unreasonably higher than value, but this particular broker was new and he needed to get some listings so he could start selling something. As we teach, he performed standard but detailed valuations on both businesses. One was a plant nursery that sold wholesale plants and trees to many dozens of retailers in about 10 US states with annual revenue of roughly $1.9 million. The other was a mobile home park with 115 pads.
Our valuations are very thorough – generally between 10 and 20 pages in length – and presented in a very professional manner. They include significant supporting documentation and are detailed to the point that the business owner(s), though possibly disappointed with our conclusions (more on this phenomenon here), discovers that those conclusions are almost impossible to argue with.
In the case of the nursery, the broker valued the business at $1.25 million, met with the owners, explained the process and succinctly justified the the value. The owner considered this number and decided to consult with her accounting firm. The CPA reviewed the valuation report and pronounced it comprehensive and difficult to take issue with. The owner then contacted the broker and agreed to list the opportunity at the price recommended by the broker.
As it happens, the valuation report informs the Offering Memorandum – the extensive marketing piece that we put together for each listing – and, as a result, it is very easy to justify the asking price and very difficult to argue with that number. (This has the added benefit of quickly weeding out “tire-kickers” and other knuckleheads that make a career of wasting our time.)
So, our hero listed the business for sale in all the right places, fielded the subsequent inquiries, obtained executed Confidentiality and Non-Disclosure Agreements and evidence of financial ability to buy from anyone serious enough to warrant sending the Offering Memorandum to. He had a full-price offer to buy the business – all cash, no less – in 60 days and the closing occurred 60 days later; 120 days from listing to closing. He ended up with a happy client who recommended him to other business owners, an accounting firm that referred clients to him from then on and a very handsome commission check to deposit.
Now for the mobile home park…
The broker went through the same process with the mobile home park as he did with the plant nursery; financial analysis, recasting of financial statements, thorough research into what mobile home parks have sold for in the same geographic area, etc. He arrived at a valuation of just under $800,000 and recommended that the owner list the business a little north of $800,000. In spite of the thorough, comprehensive, impossible-to-argue-with valuation report presented by the broker, the owner said he wanted $1.1 million. It took the broker a moment to regain his composure but he finally said, “But the business is worth only about $800,000.” “That doesn’t matter,” said the owner. “I want to list it at $1.1 million and I’ll settle for a sale at a million.”
Now remember that our broker was in the early stages of building his business brokers practice and needed listings so, against our advice – and against his better instincts – he agreed to list the business for $1.1 million.
The listing agreement was for 12 months. During that time, the broker received many inquiries but no offers. When he asked these potential buyers why they declined to make an offer, every one said that the price was too far above value and they didn’t want to waste their time crafting an offer that they felt would be viewed as “insultingly low”.
During the course of the listing, the broker kept the seller updated regularly by reporting the trend and volume of inquiries as well as the comments from potential buyers – that the price was too high – and repeatedly but unsuccessfully asked the owner to consider lowering the price.
Over the listing period the broker and the seller became reasonably good friends, so much so that at the end of the listing period the broker said to the owner that he was going to continue to try to sell the business and that he would assume he would get paid if he was successful. The seller gave the broker his assurance that he would pay him if he sold the park.
After another two months and a few more inquiries that produced no offers, the seller finally agreed to reduce the listing price to an even $1 million. The broker let all the previous potential buyers know about the new, lower price but it was still at 25% over value. Two months went by and the owner, apparently becoming more motivated, agreed to reduce the price again, this time to a FAR more reasonable $850,000. The broker had the business under contract three weeks later for $820,000 and the transaction closed 30 days after that.
The moral of the story? If you know how to value a business, the result of your efforts will not only be difficult to argue about but it will almost always be borne out by the actual sale price. This business, initially priced above market, took 18 months to sell. Once it was priced close to market value, it went under contract and the transaction closed in about 60 days. The seller of the mobile home park wasted a lot of time – mostly the broker’s.
Of course, the P.T. Barnum theory of life obtains in all pursuits, including the business of brokering businesses. However, hoping to find a “fool” to buy your business is, well, a fool’s game. (Besides, not too many fools will have what it takes to put aside enough money to actually buy a business.) Get a qualified, professional business broker to provide a valuation for your business. If you aren’t satisfied with the result, ask your broker to help you take the steps necessary to get your business’ value to the level you want.
If you’re a business owner and want to know what your business is worth, we can help. (Here are five mistakes to avoid when planning your exit.) If you’re a broker that wants to learn how to value businesses correctly, we can teach you. Check out the links or send a comment or question in the box below. In the meantime, stay well. I’ll be back in a week with another business brokering post.