Get Top Dollar for Your Business by Being Prepared
Picture this scenario: On the same day, the owners of two
companies complete transactions to sell their respective
companies to two separate buyers. The two companies being sold
are nearly identical. They have similar products and services,
serve similar markets and have similar revenues and
profitability. Yet one sells for $ 11 million while the other
sells for $17.5 million. Why such a difference?
Despite surface similarities, there are probably hundreds of
factors that make these two companies more or less attractive as
acquisition candidates, thereby increasing or reducing their
respective values to a buyer. Understanding these differences is
critical to any seller, and it is the main reason why owners of
small and midsize businesses (who are rarely experts in mergers
and acquisitions) seek professional representation when selling
their companies.
Merger and acquisitions valuations have changed significantly
over the last few years. Just a few years ago, public companies
were being handsomely rewarded in the financial markets just for
making acquisitions. Consequently, many were grabbing up every
perceived synergistic deal they could find, almost without
regard to the price. However, buyers are now examining the
values of potential acquisitions much more cautiously -
conducting greater due diligence and exhibiting more skepticism
toward the seller's projected performance.
We still see premium valuations in the marketplace, but these
values are typically being obtained by sellers who are well
prepared to run a thorough and efficient selling process.
Following are some basic guideposts to follow on the road toward
a successful and lucrative business sale. The first step
business owners must take is to assess and understand their
company's market value. Many business owners do not want to
dedicate the time or money necessary to learn their company's
true value in the market. Some believe it is too difficult, or
they don't have the right skills or resources; others think they
already have a pretty good idea of what it is worth (and they're
usually wrong). Knowing the company's value in advance puts the
seller at an advantage. Determining the market value for a
privately held business is as much art as science, but a
professional, experienced valuation team can provide a valuation
that instills confidence in the seller when approaching and
negotiating with prospective buyers.
Every business is unique, and there is no single, simple formula
for determining market value. Rather, it is the culmination of a
thoughtful, time consuming process that requires extensive
market research and financial analysis to reveal the company's
future potential under new ownership. The process usually begins
with recasting the business's historical financial statements,
typically the balance sheet, income statement and statement of
cash flows. As part of this recasting, certain expenses and
extraordinary items legally used by private, owner-managed
companies to define tax benefits are eliminated, and other
adjustments are made to conform to generally accepted accounting
principles. These adjusted financial statements offer potential
buyers a normalized view of the company's past performance.
It is important to remember, however, that buyers buy the
future, not the past. Therefore, while essential, these adjusted
historical financials alone do not determine a seller's optimum
value to a new owner. Rather, they serve as a starting point for
building "pro forma" financials, which look five years into the
future and are the basis of market value. "Pro forma" financials
require extensive market research to determine reasonable,
supportable assumptions regarding revenue and profitability
trends, growth rates, market dynamics and other factors.
Also integral to the valuation process is the identification and
examination of intangible assets. These factors may be important
contributors to the company, but aren't necessarily represented
in the financial statements. These include a loyal customer
base, patents and licenses, supplier contracts, trade secrets,
distributorships and many others. All of these elements -
adjusted historical financials, intangibles and reasonable pro
forma financials - come together to reveal the company's future
potential and establish a valuation range that informed buyers
will likely be willing to pay for the company.
Many sellers assume that their most likely buyers are close by -
local competitors or a major customer, for example. In fact,
these types of candidates may be less attractive buyers because
their purchase decisions are typically driven by a desire to
acquire assets, consolidate redundant functions and cut costs.
Wise sellers look beyond just these candidates to seek out the
largest possible pool of strategic buyers who may be willing to
pay a premium to acquire the future potential and intangibles of
the company - not just its tangible assets. These strategic
buyers can include larger private and public corporations, both
in the U.S. and abroad.
Market conditions currently make acquisitions of mid-size
private companies especially appealing to large strategic
buyers. Wary of the risks associated with large, high-profile
deals, many corporations are seeking smaller acquisitions of
private companies that help to expand product lines and
distribution channels, reach new customers and markets, and
leverage existing technology and R&D capabilities. Buyers look
to reduce the amount they will pay for a business and will
attempt to do that by ignoring the seller's strengths and
focusing on the company's weaknesses.
Buyers go through significant due diligence to try to uncover as
many weaknesses as possible to use in negotiations. Sellers are
fooling themselves if they think a buyer won't uncover their
"dirty laundry" in the due diligence process. Nothing reduces
valuations or destroys deals more quickly than "surprises"
during the due diligence process. Hidden liabilities,
conflicting data and vague information will cause a potential
buyer to, at best, reduce the offering price and, at worst,
withdraw from the process. Prepared sellers have explanations to
mitigate the buyer's potential issues or concerns and emphasize
the company's strengths. When sellers know the potential issues
in advance, they can prepare appropriately and take them out of
the value equation.
Remember, a buyer is buying the seller's future. Anything that
raises red flags, or in any way causes concerns about the
seller's business or management's knowledge and ethics, will
detract from value and could kill the deal. The greater the
buyer's confidence in the seller's story and answers, the more
likely they are to offer a premium or at least fully value a
company.
Having the company's growth story down enables the seller to
present it confidently and consistently each time and goes a
long way in building potential buyers' confidence. The idea is
to highlight operating statistics or market research that
supports and helps to tell the seller's story. Without that
support or a consistent growth story, the valuation suffers.
A merger or acquisition can take two years to complete. There is
a lot of time for the buyer to determine the reliability of a
seller's projections. "Pro forma" statements are generally
provided at the beginning of the process. Missing those
projections or restating the pro forma statements could cause
the buyer to lose confidence in management's projections. There
are a number of reasons why a company's performance may be worse
than projected, and some are easier to explain than others.
One of the most avoidable is management's loss of focus. I've
often seen a company's performance deteriorate as management
focuses on the sale rather than running the business. Sellers
get so involved with answering questions and running the sale
process that they don't have time to care for the very thing
they are trying to sell. Missing projections will cause the
buyer to price in an "uncertainty" discount, as they will
question the accuracy of future cash flows. The question arises:
If the seller can't even accurately project the first few months
or even one year out, how can they project two or three years
out?
Due diligence is a critical and sensitive period in the sale
process and an area where the novice seller is often in a weak
position. At this point, the buyer pool has been narrowed to
just a few of the most serious prospective buyers. As such,
buyers have considerable leverage. But sellers don't have to be
powerless; this is actually an opportunity for the seller to
maximize the company's value. By actively managing the process,
providing potential buyers with quality information and moving
with deliberate speed, sellers gain more control. By being
prepared, anticipating the buyer's questions and closing the
deal quickly, the seller disarms the buyer and reduces the
buyer's bargaining power.
Studies have shown that the longer the due diligence process
lasts, the more likely the initial offering price will be
reduced. A streamlined, professional process decreases the
amount of time owners and managers, as well as buyers, must
dedicate to the process.
Maximizing the sale price of one's business is clearly a
daunting challenge, and one that requires experienced
professional advice. Beyond the core value drivers of the
business, adequately preparing for the marketing process
upfront, identifying the largest possible pool of domestic and
international buyers, meeting financial and operating
projections and effectively managing the due diligence process
to reduce the overall timeline involved will positively impact
valuation. By doing their homework, it is possible for sellers
to achieve a much higher value for their company, regardless of
market conditions.