While Selling Your Business - Steady as She Goes

When we first engage with a new client, we sit down with them and give them the talk. No, not the birds and the bees talk, but the talk about what they should and should not be doing while the sale process is going forward.

Our first bit of advice is to keep your eye on the ball. It sounds simple, but the business sale process is disruptive. The smaller the company with fewer management personnel, the more disruptive. We tell our clients to maintain their focus on running the business and rely on their mergers and acquisitions advisors to manage the business sale process. That being said, there are many demands placed on the owners for answering buyers' questions, conference calls, corporate visits, evaluating buyers and their offers, and negotiating.

If the disruptions cause the sales and profits of the business to fall, the buyer does not care that they fell because the owners were distracted. They only care about the bottom line performance of the business. The sale process generally runs for a period of eight months to over a year in many cases.

The original financials in the offering memorandum are often supplemented several times as each quarter passes. If you have received purchase offers based on one set of financials and those financials deteriorate, you can count on the offers being lowered across the board to reflect your company's new reality. If the downturn is sizable, it may interfere with the buyer's ability to secure financing, especially if the buyer is a private equity group.

Many owners want to juice their sales while the business is being sold to drive every last bit of value into their business sale price. They want to bring on that extra salesman or launch that big marketing campaign in order to spike their sales and profits and then get rewarded with a 5 X EBITDA bump in the business selling price. This is very expensive flawed logic on the part of the business owner. A new salesman, even an outstanding new salesman is a drain on the company profitability for 9 months to a year. That is the best case scenario. In the majority of cases the new salesman does not make the grade and is fired. His loss, however, hits the company's financials.

A marketing campaign is not always the sales driving engine the owner hopes it will be. But, for discussion sake, let's say that the campaign was well conceived and executed. The full impact of the campaign is usually delayed by six months to a year. If this occurs during the business sale process, the financials reflect the drop and the lowering of the buyers' offers will follow as surely as the next sunrise.

The cruel irony of this dynamic is that you are investing to make the business more valuable for you to sell, but instead are giving the buyers an opportunity to buy at a discount. Your investment then pays off a year after the new owner has taken over.

OK, I admit, I have painted the worst case scenario. So let's say that the salesman you hired was a real star or your marketing campaign caused sales and profits to spike in the near term. You, the business seller, now with the upper hand, go back to your buyers with a business selling price increase commensurate with the buyer reductions sited above.  The reaction you get from the buyers is not at all what you expected, however. Instead of raising their offers by your increase in EBITDA multiplied by your prior offer valuation metric, they refer to this increase as an anomaly or an outlier. Instead of rewarding you proportionately in the purchase price, they want to normalize this over the prior three years.

For clarification, let's look at the following example. Your 2011 EBITDA was $2,000,000, 2012 was $2,200,000 and 2013 was $2,400,000. You are selling your business starting in June of 2014 and you launch your successful marketing campaign that boosts your EBITDA to $3,200,000 in 2014. Your offer on the table was 5 X 2013 EBITDA or $12,000,000. You go to your buyer and say my new price is 5 X 2014 EBITDA or $16,000,000. The buyer (especially if they are a Private Equity Group or financial buyer) will say, wait just a minute, this was an anomaly and we need to normalize that over the past 4 years. So they add up all of the EBITDA numbers and divide by 4 to get a normalized EBITDA of $2.45 million. They raise their purchase offer from $12,000,000 to $12,250,000.

So you have taken on a large financial risk to invest in your business to increase your sales and profits. You beat the odds in achieving a short term bump and your buyers attempt to minimize the impact on their offer price.

On the other side of the ledger, some owners attempt to significantly cut costs during the business sales process.  We advise against this approach as well. If the market does not provide the selling price that the owners are satisfied with, they will simply not sell. If you have temporarily slashed your Research and Development or Training budget for the sale, those cuts could come back to hurt you, should you not sell your business near term.

The lesson here is steady as she goes while you are in the midst of your business selling process. A fall in profit is punished and an increase is not rewarded in proportion to the investment or the risk.

Dave Kauppi is a Merger and Acquisition Advisor and President of MidMarket Capital, providing business broker and investment banking services to owners in the sale of lower middle market companies. For more information about exit planning and selling a business, click to subscribe to our free newsletter The Exit Strategist