Saturday, December 22, 2007

Business Owner Exit Strategy: Avoid the Boomer Retirement Wave

Business owners considering retirement should finalize their exit planning in 2008 because business sale prospects will be negatively impacted by coming demographic and economic changes, according to Chicago-based investment banker David Kauppi, managing director of MidMarket Capital.

Chicago (PRWEB) December 14, 2007 -- Business owners considering retirement should finalize their exit planning in 2008 because business sale prospects will be negatively impacted by coming demographic and economic changes, according to Chicago-based investment banker David Kauppi, managing director of MidMarket Capital.

"In 2008 we will see the beginning of 'the rush to the exits,' as the first wave of baby boomers retire. In addition, the current credit and housing market crunch will bring a new surge of business sellers to the market," said Kauppi. Kauppi noted that Federal Reserve projects that almost 500,000 businesses will change hands in 2008, a record number.
"While business sale prices have held up well in 2007, we are likely to see deteriorating conditions in coming years as the number of sellers will begin to outnumber potential buyers," he said.

Another warning signal for business owners is the current debate over tax reform. Leaders of both parties have put forward proposals to change the current tax code including the alternative minimum tax (AMT) and the estate tax. If the Democrats should sweep to power next year, many of the tax reform proposals suggested by party leaders would directly or indirectly raise taxes in coming years for business owners, Kauppi noted.

Kauppi said the best strategy for business owners is to move up their sale timeframe, but not their exit timeframe. For example, an owner could sell his business in the next 18-24 months with an agreement to continue working full-time for an additional year to transition customer relationships and transfer intellectual property.

"This solution requires the business owner to view the business sale and their retirement as separate, contingent events. Too many owners wait too long and end up selling because of a crisis such as a health issue, loss of a major account or a shift in the competitive landscape,"Kauppi said.

MidMarket Capital, based in Chicago, provides investment banking and M&A advisory services to small and medium-sized businesses nationwide. To sign-up for the company's free monthly newsletter, see The Exit Strategist
Contact:David KauppiMidMarket Capital, Tel: 630-325-0123

Saturday, November 10, 2007

Capturing That Elusive Strategic Value in a Business Sale

In a business sale two different buyers can view the value of the target company far differently in terms of value. One buyer may look at paying a rule of thumb financial multiple while another recognizes meaningful growth potential and is willing to pay way beyond an EBITDA multiple.

Wow did I get a real world demonstration of the saying, "Beauty is in the eyes of the beholder." If I could rephrase that to the business sale situation it could be, Strategic Value is in the eyes of the particular buyer." We are representing a small company that has a patented and somewhat unique product. They have gotten distribution in several hardware store chains, Lowes, and are going into Wal*Mart next spring.

The owners are at a cross-roads. To keep up with their growth in volume they recognize that they require a substantial capital investment. They understand that they have a window of opportunity to achieve a meaningful footprint before a much better capitalized competitor produces a similar product and undercuts their price. Finally they realize that a one product company at a big box retailer is quite vulnerable to the inevitable rotation of buyers or a change in policy that bumps them out of 25% of their sales volume.

The good news is that their product is unique and is protected for 15 more years with utility patents. It is not a commodity so it achieves healthy margins. The product is an eco friendly product so the retailers value that. Finally, the product can be used in retailer programs where it is combined with other same category products for the spring tune up and the fall tune up. It helps drive the sales of other products.

The ideal company buyer is a larger company that provides products in the same category and sells to the same retailers. They could plug this product into their existing distribution channel and immediately drive additional sales. They would strengthen their position within their accounts by offering an additional product, a unique product, an eco friendly product, and a product that would promote companion product sales. It would also provide a unique door opener to other major accounts that would want this unique product.

With the input from our clients we located a handful of companies that fit this profile. We were pretty excited at the prospects of our potential buyers recognizing all of these value drivers and making purchase offers that were not based on historical financial performance. The book, memorandum, confidential business review, executive summary, or whatever your business broker or merger and acquisition advisor calls it, will certainly point out all of the strategic value that this company can provide the company that is lucky enough to buy it.

As part of the buying process we usually distribute the book and then get a round of additional questions from the buyer. We submit those to our client and then provide the answers to the buyer with a request for a conference call. We had moved the process to this point with two buyers that we thought were similar companies. The two conference calls were totally different.
The first one included the Merger and Acquisition guy and the three top people responsible for the product category.

Their questions really indicated that they were used to being leveraged as a commodity provider by the big box retailers. Why were co-op advertising costs so high? Were they required to do that again in order to stay on the shelves? Were they on the plan-o-gram? Was Wal*Mart demanding that they be at a lower price than Lowes? What about shipping expenses? Why were profits so low? We had a very bad vibe from these guys. They were refusing to recognize that this was a high gross margin product growing in sales by over 200% year over year and had a higher level of promotional expense than a mature commodity product line. We couldn't determine if they just didn't get it or were they being dumb like a fox to dampen our value expectations.

The second call from the other company included the Merger and Acquisition guy and the EVP. The whole tone of the questioning was different. The questions focused on growth in sales, pricing power, new client potential, growth strategy, their status at the major accounts, remaining life on the patent and what their strategy was for new categories and markets.

Well we got the initial offers and they could not have been more different. The first company could not get beyond evaluating the acquisition as if it were a mature, commodity type product with paper thin margins. Their offer was an EBITDA multiple bid without taking into consideration that the product sales had grown at over 200% year over year and the marketing and promotional expenses were heavily front end loaded.

The second company understood the strategic value and they reflected it in the offer. It was not an apples to apples comparison, because the second offer was cash at close plus a significant earn out component while the first offer was all cash at close. However, the conservative mid-point of the combined cash and earn out offer was 300% higher than the offer from the first buyer. This was the biggest disparity between offers I have ever experienced, but it was quite instructive of the necessity to get multiple opinions by the market of potential buyers.

There are some companies that no matter how hard we try will not be perceived as a strategic acquisition by any buyer and they are going to sell at a financial multiple. Those companies are often main street type companies like gas stations, convenience stores and dry cleaners that are acquired by individual buyers. If you are a B2B company, have a competitive niche, and are not selling into a commodity type pricing structure, it is important to get multiple buyers involved and to get at least one of those buyers to acknowledge the strategic value.

Saturday, October 27, 2007

A Major Concern for Business Sellers - What Happens to My Employees

One of the biggest concerns of business sellers is what will happen to their loyal employees when the new owner takes over. There is a common misperception that the new owner will come in and slash and burn in order to hit their profit targets. The reality for the family business could not be farther from the truth.

For family business owners, the employees, if they are not actually family, they are like family. Many have been there through the bad times and the good. They may have not gotten an expected raise because of tough times. They have been to each other's children's weddings. The boss has helped the employee family with an unexpected healthcare expense. The bonds are very strong. An admirable trait that we see from almost every business owner we represent is the deep concern for what happens to my employees when the new owner has our company.

The Hollywood portrayal of Mergers and Acquisitions on Wall Street is that the money guys come in and slash the staff, do their financial gymnastics, show impressive short term profits, and then flip the company to a new buyer and pocket millions on the backs of the loyal displaced employees. Does this really happen? Unfortunately is does happen, but the circumstances are generally the result of industries becoming bloated with legacy costs and wages and benefits at a level not competitive with the world economy. We have seen it with the steel industry, airlines, and now the auto industry.

However, for the family business, the backdrop is much different. The organizations are generally very lean. The employees are not constrained in their job description by union rules. They do what is necessary to get the job done. They often can perform multiple jobs and get plugged in where needed. Every employee is vital to the company's performance.
Business buyers are generally pretty smart folks. If they aren't, pretty soon they will find themselves in trouble from poor acquisition choices. They recognize the value that the employees bring to the table. These employees are keepers of the customer relationships, they are the well of knowledge about the company's products and competitive advantage, they know all the gotcha's to avoid. They are the new buyer's path to business continuity post acquisition and they are valued.

Business buyers look to mitigate risk by keeping these employees in place and will attempt to access the likelihood of key employees staying on post acquisition. We have heard from business buyers that if they feel like key employee A and key employee B leave, then we are not interested in the acquisition. As business sellers it is important to recognize this and to take necessary steps in advance of your sale to help the key employees stay.

At a point where the sale is ready to close, it is important to make sure employees have some reassurances that the ownership change will improve their situation. Often times the benefit package from the large company buyer is superior to the current package. Buyers will often incorporate a salary increase after the acquisition. Owners may elect to share some of their gains with key loyal employees through a stay on bonus or some lump sum payment recognizing the years of loyal service.

The finance and administrative area is the one exception to this rule. These functions are often a total duplication of those functions in the buying company and these employees are most vulnerable to a cut. These employees have contributed greatly to the company and have been loyal. The seller, unfortunately, can not dictate to the buyer that these employees have to be retained, so he must make accommodations on his own. He should attempt to get an understanding from the buyer, their plans for these employees and arrive at a joint proactive communication plan with the buyer.

If the news is bad for the employee, the seller, at the very least should give the employee as much advanced notice as possible. The seller will often implement some severance package, if one was not already in place to give the displaced employee a chance to seek a new opportunity without financial hardship.

Most of the employees will be vital to the post acquisition success of the new company. If they interface with customers and/or suppliers they will be needed. If they are in possession of key knowledge about the company, products, industry, technology, etc., they will be valued and will have a solid job post sale.

Tuesday, October 23, 2007

Democrats in the White House - Watch out Business Sellers

TheFederal Reserve’s Survey of Consumer Finances estimates that business-related wealth transfers will total $4.63 trillion over the next 10 years in the United States. I was talking to a Tax Attorney the other day and discussing our upcoming Seminar - Exit Strategies for Baby Boomer Business Owners. He reminded me that we should stress that if the democrats end up in control of the White House that business sellers would potentially suffer a big increase in their capital gains resulting from the sale of their business and business owners should consider selling sooner rather than later.

That will be just one of the many issues we plan on covering at our free seminar in Oak Brook IL. on October 30, from 7-9 am.

You are cordially invited to attend:

Multi-Disciplinary Business Exit Strategies Seminar
Exit Planning Strategies for your Business
· Preserve your Income
· Enhance Business Selling Price
· Reduce Taxes


Sam J. Valeo, CIMA, CFP
Senior Vice President –

Steve Pierson, CPA
Senior Tax Partner Selden Fox
Certified Public Accountants

Dave Kauppi, CBI
President MidMarket Capital, Mergers & Acquisitions Advisors

Date: Tuesday October 30, 2007
Time: 7:00 AM to 9:00 AM includes Breakfast Buffet

Location: The Wyndham Drake Oakbrook
2301 York Road
Oak Brook IL 60523
RSVP: 630.705.3985

Your host is Sam Valeo,
Senior Vice President – Investments, Smith Barney
Please RSVP to Shirlee Mc Bain, Client Service Associate
(630) 705-3985



7:00 Breakfast Served
7:00-7:05 Welcome Sam Valeo Smith Barney
7:05-7:15 The Baby Boomer Effect on Sam Valeo Smith Barney
Mergers and Acquisitions
7:15-7:40 Preparation for Your Exit Dave Kauppi MidMarket Capital
10 Commandments of Selling your Business
7:40-8:05 Deal Structure for Minimum Tax Steve Pierson Selden Fox
8:05-8:15 10 Steps to Maximize Selling Price Dave Kauppi MidMarket Capital
8:15-8:30 Your Power Years – Strategies for Sam Valeo Citi-SmithBarney
Income Preservation
8:30-9:00 Questions and Answers All Panelists


Hotel Address
Wyndham Drake Oak Brook
2301 York Road, Oak Brook, Illinois, 60523
Tel: 630 574 5700 Fax: 630 574 5717

From O'Hare International Airport (11 miles): Take the 190 East to the Tri-State Tollway (I-294). Take the Cermak Road (22nd Street) exit and take the ramp toward Oak Brook. Turn left onto Cermak Road (22nd Street). Turn left onto York Road. Make a U-Turn at Dover Drive and the Wyndham Drake Oak Brook is there.

From Midway Airport (15 miles):Take I-55 South to I-294 North (via Exit 277A). Merge onto US-34W/ Ogden Avenue. Turn right onto N York Road. The Wyndham Drake is before 22nd

Dave KauppiPresident MIDMARKET CAPITAL, (630)325-0123 fax (630)325-9879 cell (630)

If you would like to sign up for our Exit Strategies newsletter, please visit

Monday, October 15, 2007

Raising Venture Capital – Let's Be Realistic

I do not mean to discourage you entrepreneurs in your quest to launch the next Big Thing. Many of you look at your path as write a compelling business plan, make a few presentations to the well-known venture firms, get $3 million for 5% of your company pre revenue, and launch. Product development progresses without a hitch, you hit all of your milestones, you get a second round at an even more favorable valuation, and you land the big high-profile account. Two years later, you do an IPO with a market cap of $350 million. Fast forward another two years and you are the subject of a bidding war between Microsoft, Google, and Interactive Corp. You finally agree to a buy-out at $3 billion. Life is good.

Wow, that was easy. Unfortunately that is one in 10 million. I was listening to CNBC this morning and they were reporting on a new test developed by a Stanford PHD that would identify people two to six years in advance of developing Alzheimer's Disease. This is an ideal venture play – huge potential market, company founder with great credibility, and a great way to reduce future health care costs. On the surface this would seem like the sure fire bet for the venture guys, but the CNBC reporter said they were having trouble raising venture capital. What a shock.

If this company is having trouble, think about the battle you face. Because no one has a crystal ball, seven out of ten venture investments totally fail. With that backdrop, venture capital investors look to achieve a thirty times return on their investment in three years. Many potentially successful companies fail to achieve the promise of their great idea because they get caught up in the venture trap. They are passionate about their idea and believe that it will become the next big success story. They tend to be very optimistic which is essential for one that takes the kind of risks that a start-up requires. Their biggest flaw is that they focus way too much of their efforts on the venture dance. Endless meetings and presentations followed by delays and more presentations to other members of the same venture teams.

There are other alternatives. How about a strategic alliance with a bigger company in your industry? What about a licensing deal with a big player? Can a value added reseller play a role for you? What about an outsourced sales effort? Should you sell your company? If you do have a great idea and are meeting an important market need, it is likely that there are other companies out there that have the same or very similar solutions. In today's business environment that translates into a very limited window of opportunity to achieve scale. You are on the clock to achieve scale before your funds run out or before a well funded competitor simply captures your market.

Venture is very glamorous, but do not be myopic in your approach to cashing out on your big idea. There are several very important alternatives including building a solid, profitable small company under the radar and then raising venture to achieve scale and take it to the next level.

Monday, September 17, 2007

Selling Your Business - Should It Be a Do It Yourself Job?

Making the decision to sell your business is hard enough, but having a buyer tell the owner it is not worth as much as he thought can really be a blow. The emotional attachment that most owners have to their business is very deep. They remember the long hours, the financial hardships, the wearing of all the hats responsibility, the worry and the pride of success. They believe that they ran their business the right way and that the new owners should stick with their system. With this backdrop, the actual selling and negotiating process can be a bucket of ice water over the head awakening - not at all pleasant.

Buyers and Sellers are at cross-purposes when it comes to the terms and conditions of a sale. What is positive for the buyer is negative for the seller and vice versa. When was the last time you bought a car and simply paid list price? For the car dealership, this back and forth haggling is simply part of the process. For a business owner, this process can feel like a personal attack. The owner's response to this perceived attack can often create a barrier to a successful transaction.

If you have ever followed the contract negotiation process between professional athletes and their team, you have a good example of how the process can often unfold with bad results. The team is trying to get the best deal, maintain fiscal responsibility, and manage to salary caps. The player is trying to get paid as much as he can and often uses the contract amount as his measure of worth in comparison to the other players in the league.

The team is trying to justify a lower salary and may bring up another player with superior stats and a lower salary as a negotiating point. They may point out one or two weaknesses in the player's game. The player holds out and misses games, hurting his team. He may respond to the negotiating tactics with attacks on the team's management in the newspapers. This process often creates irreparable damage and after a contentious year, the player is traded for far less than he was originally worth.

The emotions of a business seller are equally charged. If the buyer's offer is a fair deal and the owner wants it to occur, he must be able to detach his emotions from the normal negotiating process. Every point is not a personal attack. The buyer must understand that his intent in buying the company is to gain post acquisition performance improvement. If during the process, he values the last nickel he can scrape out of the deal at the expense of the good will of the selling company, he has defeated his purpose.

The use of intermediaries that are familiar with and comfortable with this process can keep the deal on track and preserve the necessary good relationship between the buyer and the seller. For the advisor, this is just part of the process and a point given by one side is exchanged for a point taken by the other. The transaction is completed, the two companies come together in a spirit of cooperation and growth and a year later both buyer and seller are happy with the result. After all, trading the acquired company to another team is not really an option.

Thursday, August 02, 2007

The Offer to Buy a Business Depends on the Many Characteristics

In our Merger and Acquisition practice we try to prepare our business sellers for the multitude of different deal structures that they should expect from various buyers. We go through elements like cash at close, seller notes, earn outs, non-competes, escrow accounts, etc. More often than not our first time seller will actually put out his or her hand in a stop gesture and reply, "I only want the full price in cash at close." This article will discuss some of the selling company characteristics that directly effect both the selling price and the terms.

Selling Company Revenue Composition - This is a very important factor in determining how much a buyer will pay for your business and how much will be in cash at closing. If 80% of your annual revenue is a result of contractually recurring revenue, you can command both a premium price and a deal heavily weighted in cash at close. On the other hand, if you have little or no contractually recurring revenue and are heavily dependent on net new sales from new clients, your sale price will be far less and you will be expected to receive a significant portion based on a future performance earn out. Companies that can demonstrate historically repeatable revenue with long term clients will fall between the two extremes mentioned above.

Selling Company Management Depth - If every aspect of the company's business funnels through the two key partners who are close to retirement age and there is a huge gap in management depth and capabilities, this is risky to buyers. They are not inclined to write a big check to the owners only to have them walk out the door with their relationships and knowledge six months later. The more decentralized the customer and supplier relationships are and the more widely dispersed the intellectual property is, the higher the sale price and the higher the percentage of transaction value is at close. If it is all concentrated, the buyer will want the insurance of a transaction structure that pays over time based on future company performance.

Selling Company Customer Concentration - You can absolutely correlate purchase price and cash at close to this element. Let's say, for discussion purposes, that you had two identical companies in revenues, profits, profit margins, and EBITDA. Company A has no more than 5% of their revenue coming from a single customer. Company B has 40% of its revenues coming from four large blue chip accounts. Company A will sell for a 15-25% premium to Company B. Also Company B will command only 60 to 70 % of the cash at close that Company A commands. Customer Concentration is a big risk factor for a buyer that can not assume that the relationship dynamics will be the same once the principals leave.

Main Street versus B2B Company - Typically the issue of seller notes comes up with an individual buyer that has limited resources and is attempting to buy a main street type business with as much leverage as possible. Corporate buyers seldom utilize this vehicle.

Escrow Account Requirement - This is a portion of the purchase that is held by a third party Escrow Agent with instructions on how the funds can be released to the seller. These are typically required by a buyer where they perceive the risk of a future event such as product liability, a pollution issue, or an outstanding law suit. The funds are held for a period that could extend for several years if there are unresolved issues of this nature.

Professional Services type firm - Your company literally walks out the front door each evening. These may be consulting firms, accounting firms, executive recruiting firms, ad agencies, etc. Your producers have developed their book of business and their loyal account relationships. Your clients are customers of the company, but may be more loyal customers of their professional contact person. Sales transactions for this type of firm can involve a very heavy earn out component to protect the buyer from a mass exodus of clients because the professionals leave the firm post acquisition and take their clients with them. Non Compete Agreements - these are pretty much standard for prudent buyers buying a company and not wanting to defend themselves against the former owner who gets bored with retirement and decides to start a similar business. The seller should get some compensation for the agreement and the more restrictive the agreement, the higher the compensation.

Stock Sale versus Asset Sale - Most large corporations "have a policy" that they will only do asset acquisitions as opposed to buying the stock of a target company. There are some very good reasons to do this. When you do a stock purchase you get all the assets and all the liabilities both known and unknown. If you look at the reasons buyers have escrow accounts, many of the same reasons apply for wanting to do an asset acquisition. They simply are buying identified assets and the remaining corporate shell is still owned by the previous owner with all the liabilities not specifically identified in the asset purchase agreement.If the seller is a C-Corp, however, it is a major negative from a tax perspective to do an asset sale because the sale of assets is taxed as ordinary income at the corporate tax rate. The proceeds are taxed again at the owner's long term capital gain rate when the funds are distributed to him. For companies that do not have the escrow type potential liabilities, a stock sale may work. A buyer could successfully offer a significantly lower price with a stock purchase than a competitor requiring an asset purchase. The seller should analyze the two transactions from an after tax proceeds perspective to determine the superior offer.

If you are a business owner contemplating a business sale and you want the highest purchase price and the most cash at close, analyze your company based on the factors above. If you can implement changes that correct some of these risk factors you improve your odds of your best exit.

About the Author (HTML)Dave Kauppi is a Merger and Acquisition Advisor and President of MidMarket Capital, representing owners in the sale of privately held businesses. We provide Wall Street style investment banking services to lower mid market companies at a size appropriate fee structure.

Keywords: business selling price,letter of intent,cash at close,earnout payment,seller note,merger acquisition

FAQ's From Business Buyers

An area of great concern to our business selling clients as we help prepare them for a buyer visit is what questions the buyer is likely to ask. Below are a representative set of questions that we have encountered. This article will not provide you with the answers because they will vary with each business seller. However, we will provide a buyer motivation framework so that you can answer the questions with this common framework in mind.
Buyers want to eliminate as much risk as possible because an acquisition, by its very nature is a risky business decision. A buyer does not want to discover or be confronted with a bunch of Gotcha's after the check has cleared. As a seller, you must never convey the attitude of this place is falling apart and you can't wait to dump this dog. Your reasons for selling are very important and should focus on estate planning considerations, retirement and diversifying my assets or my favorite, we just do not have the resources to take advantage of all the market potential that we have created.
Another theme is that you want to convey how strong your staff is. You want to portray how the account relationships are managed by multiple staff members. You need to communicate just how widespread the intellectual property is dispersed among the staff. The owner has an easy job because the employees handle all of that.
Future potential and momentum are important. Make sure you can articulate the opportunities for growth that you have identified, and are either pursuing now or are planning to pursue if you had more resources. So keeping these themes in mind, be prepared to answer many of the following:

Why are you selling your business?

What are the last three year's net operating profits?

Who are your biggest competitors?

What are your industry ratios and trends?

What do you think I can do to increase sales and profits?

Why are you not doing to increase sales and profits?

Will you hold financing for the purchase of the business?

Will you be willing to stay with the business for a period of time after the sale?

Will you agree to a covenant not to compete?

Will the business sale include the transfer of real estate?

Don't you have children to transfer your business to?

Do you want a corporate stock sale or asset sale?

Who knows that the business is for sale?

Who will I be negotiating with?

What is your timetable for completing the business sale?

What do you do everyday?

Do you anticipate any problems with me getting credit from your suppliers

Do any of your suppliers represent more than 10% of your purchases? If yes, who are they?

What is it that you like best and least about the business?

What do you believe is the profile of the ideal buyer for this business?

What can be done to build the business?

How long will it take me to really learn this business?

How long can I count on you to train me after the sale.

What keeps you up at night about the business?

What are the details of the lease? How long? Any options? Do you anticipate any problems with the landlord assigning it to me or entering into a new lease?

How much vacation do you take (not that you're looking for time off…rather, you want to know if they have adequate staff that will allow you time away)

Are you the only owner?

Who are the employees? Any manager in place? Are there any employees that are critical to the business?

Are you willing to finance part of the purchase? If not, why?

Net revenue seemed to experience a huge decline last year versus previous years. What happened?

How much of the revenue is the owner responsible for?

How much of the revenue are the other business development people responsible for?

What are the titles and responsibilities of each of the employees? Please state how long each has been with the company and what they are being paid, and how they are being paid. If they have success-based compensation please let me know the actual for the past three years for each person.

What are their revenue production goals? Other goals?

What does their five-year plan look like going forward?

Why is the owner selling the business?

Can I see actual P&L statement for the last five years?

Is there one person in house today that would be interested in and capable of running the day-to-day operation while keeping up personal production and receiving an override and perhaps equity stake in the business?

Is the owner open to an acquisition plan that would be tied into continued success of the firm over the next five years?

Do the employees have non-compete agreements with the company? If so what is the nature of the non-compete? If not, why not?

Is the current owner willing to sign a non-compete agreement as part of the acquisition?
What is the owner's salary, bonus, fees, and commissions on an annual basis and over the last five years?

How much of the business are we likely to lose if the current owner retires or discontinues affiliation with the company? How would the owner propose to mitigate the loss for a new owner?

This list is by no means exhaustive and there may be questions that arise that are unique to your particular business or industry. However, if you can answer these questions with an awareness of the buyer's risk mitigation approach, your firm will be viewed as a better acquisition target. We are in no way suggesting that your answers are not truthful, we are just suggesting that you surround them with an attractive packaging. Any answers that are found to be inaccurate during the due diligence process will result in punitive adjustments to purchase value.

If you remember the old interview question, "What would you say is the biggest negative about your business approach?" Your positive answer was something like, "Well, I am so driven to be successful that I am sometimes impatient with people that do not share my same drive or capability." That's how we are suggesting you approach this. So for example, you have lost a few deals to XYZ Big Company. How will that impact the business going forward? Well, the competition from the XYZ Company is a good news bad news situation. The bad news is that they are a very tough competitor, but the good news is their attention to our space reinforces our view of the long term potential. How's that for positive?

Tuesday, July 17, 2007

Selling Your Business – Groom or Hire Your Successor

One of the exciting aspects of being involved in Mergers and Acquisitions is that we are constantly learning. One of our most productive classrooms is the buyer visit. In those visits the buyer's motivations, priorities, concerns, and value drivers and value detractors are often revealed.

This was the case in one recent buyer visit with our client. Her Firm is representative of many early baby boomer led firms that "started the business in their garage" (actually it was started in her living room) 25 years ago and built a successful business with an excellent brand and customer loyalty. She is now looking to exit her business and reap the rewards from her hard work in the form of a generous buy out offer.

The potential buyer is a business owner that started a similar firm at about the same time, but has morphed into part business owner and part private equity investor. He brings a unique perspective of analyzing this acquisition wearing two hats – one as a strategic industry buyer and the second as a disciplined financial buyer. It was quite instructive to watch the dual motivations at play during the visit.

While wearing his industry buyer hat, he was quite excited about the synergies of the two companies, the growth potential, and the new vertical market that the combined firm could capture. While wearing his private equity investor hat, however, that excitement was dampened by the risk that our owner had created with her company. The owner and her top producer directly touch 70% of the company's revenues. They are the face of the company. They are the "brand". They are also in retirement mind set and have not groomed a capable successor internally.

Even though we have coached our clients with the "We will stay on for a period of time to transition our relationships and transfer the intellectual capital" speech, the buyer perceives huge risk. Quite frankly, I completely agree with his thinking. As this issue was explored, it became evident that this factor would negatively impact both the transaction value and the deal structure. Translation – a discounted purchase price and much of that price deferred in the form of a multi-year earn out payment.

The good news was the buyer's strategic side recognized the value of the new vertical market our client's company would allow him to enter in full stride. He also recognized, because our client was represented by an investment banker, that there will be other buyers competing for this prize. The buyer came up with a very creative approach. Because this new vertical market is so strategic to him and recognizing the lack of management depth in the target company, he had initiated discussions with two individuals that were high caliber executives from the new vertical.

The buyer laid out his plan to our clients and asked permission to introduce this potential acquisition to the two candidates as a simultaneous acquisition and hiring scenario. Our client is very concerned about confidentiality and pushed back. The buyer then countered with two purchase platforms – one with the new hire as successor and one without. The one with the new hire was far superior in terms of both total transaction value and in the percentage of that value that would be paid at closing versus paid as and earn out.
After some discussion with our client and a review of the financial implications, we agreed to the buyer's plan to introduce this opportunity to his two candidates with the execution by them of a confidentiality agreement.

This dramatic contrast in transaction value and terms really helped quantify and crystallize what we have intuitively known for many years. To use the words of Curley from The Three Stooges, "If you want to catch a mouse, you have to think like a mouse." Our translation is, "If you want to sell your company for maximum value, you have to think like a buyer."

The lack of an internal successor, the lack of management depth, the concentration of account relationships and intellectual capital into one or two key people that are likely to leave shortly after a transaction will result in at best, huge discounts in your company selling price and at worst, will make your company a non-viable acquisition target.

Contrast this current situation to a client that we represented a few years back and you will understand our advice. The previous owner client recognized that he was going to sell his company two years prior to the event. He started grooming an internal successor, giving up most of his own direct involvement. When he was satisfied that this transition was operating smoothly, he fired himself as president and promoted his protegee into that position. He allowed the company to operate successfully in this mode for one year and then engaged us to sell his company. The results were as planned – no worries about post transaction client or employee defections and no discounts on the business selling price.

Our advice to business sellers is to begin your business exit process well in advance of your exit. Give up your natural tendency to be involved in every aspect of your business. Relinquish control, delegate, develop your staff. Promote your successor into day-to-day responsibility. If you do not have a capable internal candidate, go out and hire one. Your added expense will be more than offset and rewarded with a much higher business selling price.

Dave Kauppi is a Merger and Acquisition Advisor with Mid Market Capital, Inc. MMC is a private investment banking and business broker firm specializing in providing corporate finance and business intermediary services to entrepreneurs and middle market corporate clients in a variety of industries. The firm counsels clients in the areas of M&A and divestiture, family business succession planning, valuations, minority interest shareholder sales, business sales and business acquisition. Dave is a Certified Business Intermediary (CBI), a licensed business broker, and a member of IBBA (International Business Brokers Association) and the MBBI (Midwest Business Brokers and Intermediaries). Contact Dave Kauppi at (630) 325-0123, email or visit our Web page

Tuesday, July 10, 2007

Tax Tips on a C Corp Asset Sale

First, unless you are planning on going public or have hundreds of stockholders do not form a C Corp to begin with. Use an S Corp or an LLC. If you currently are a C Corp ask your attorney or tax advisor about converting to an S Corp. If you sell your company within a 10 year period of converting to an S Corp the sale can be taxed as if you were still a C Corp.

Here is what happens when there is an asset sale of a C Corp. The assets that are sold are compared to their depreciated basis and the difference is treated as ordinary income to the C Corp. Any good will is a 100% gain and again is treated as ordinary income. This new found income drives up your corporate tax rate, often to the maximum rate of around 34%. You are not done yet. The corporation pays this tax bill and then there is a distribution of the remaining funds to the shareholders. They are taxed a second time at their long term capital gains rate.

Compare this to a C Corp stock sale. The stock is sold and there is no tax to the corporation. The distribution is made to the shareholders and they pay only their long term capital gain on the change in value over their basis. The difference can be hundreds of thousands of dollars.

Secondly, keep all assets that may appreciate in value outside the C Corp and in an LLC. Your real estate, patents, intellectual property, etc. should be held in a pass through entity so you avoid the potential high C Corp corporate tax rate and the double taxation if you do an asset sale.

Let's say that you are a C Corp and the buyer refuses to do a stock sale. If you can get the buyer to move as much of the transaction value to a covenant not to compete, you will be much better off. That will be taxed to you personally at the long term capital gains rate and not the corporate tax rate and the gain can be spread out over the non-compete period.

Another approach you can use is "Personal Good Will". This is where the seller's reputation, expertise, and relationships are in effect separated from the assets of the company and account for as much of the good will value as possible from the business. So let's say that the company sells for $8 million dollars and the amount allocated to the hard assets is $6 million. That leaves $2 million that can be classified as good will. If that good will is assigned to the C Corp, it will be taxed at the 34% rate and then taxed again when it is distributed to the shareholders at 15%.

If you can move that amount to personal goodwill for the owner, it is paid directly to him and he gets taxed at the 15% rate only. The calculation looks like this: If the good will is $2 million and is allocated to the C Corp. They pay $680,000 in corporate income taxes. The $1,320,000 remaining gets distributed to the shareholders and an additional 15% tax is paid or $198,000 for a total tax on that $2 million of $878,000. Moving it all to personal goodwill results in a total tax on that $2 million of $300,000, a savings of $578,000. This approach was pioneered in a classic IRS case called the Martin Ice Cream Case.

There is a built in bias on the part of buyers with the advice of their attorneys to avoid doing stock sales because you buy everything including any hidden liabilities. You as the seller want to convince the buyer to do a stock sale by demonstrating that there are no hidden liabilities. Another argument you can use is that most contracts are not assignable without the consent of the other party. In an asset sale it could be problematic to get assignments of a large quantity of contracts. An example is if your company is in a favorable long-term property lease the landlord will never agree to an assignment of that lease. If you have a long-term contract with a government entity, a change in ownership can trigger a contract end. In a stock sale these are not issues.

There are many variables in a business sale negotiation. Price, Cash at close, Stock versus Asset Sale, and allocation of purchase price. The IRS does not allow the buyer's allocation of purchase price to be different than the seller's. It also must be noted that from a tax standpoint, something favorable for the seller is correspondingly less favorable for the buyer. An experienced buyer will structure the deal in the most favorable way for himself. Sellers must get good advisors to help them negotiate to achieve the maximum after tax proceeds.

Tuesday, June 26, 2007

The Pricing Dynamics of Selling a Business

How much is my business worth? That depends. Of course it depends on profits, sales, EBITDA, and other traditional valuation metrics. A surprisingly important factor, however, is how you choose to sell it. If I could share with you how you could realize at least 20% more for your business would you read the rest of this article?
The way to achieve the most value from the sale of your company is to get several strategic buyers all competing in a soft auction process. That is the holy grail of company valuation. There are several exit or value options. Let's examine each one starting with the lowest which is liquidation value.

Liquidation Value - This is basically the sale of the hard assets of the business as it ceases to be a going concern. No value is given for good will, brand name, customer lists, or company earnings capability. This is a sad way to exit a business that you spent twenty years building.
Book Value - is simply an accounting treatment of the physical assets. Book value is generally not even close to the true value of a business. It only accounts for the depreciated value of physical assets and does not take into account such things as earnings power, proprietary technology, competitive advantage, growth rate, and many other important factors. In case you are working on a shareholder agreement and looking for a methodology for calculating a buy-out, Book value is a terrible metric to use. A better approach would be a multiple of sales or EBITDA.

Unsolicited Offer to Buy from a Competitor - This is the next step up in value. The best way I can describe the buyer mindset is that they are hoping to get lucky and buy this company for a bargain price. If the unsuspecting seller bites or makes a weak counter offer, the competitor gets a great deal. If the seller is diligent and understands the real value of his company, he sends this bottom-feeder packing.

Another tactic from this bargain seeker it to propose a reasonable offer in a qualified letter of intent and then embark on an exhaustive due diligence process. He uncovers every little flaw in the target company and begins the process of chipping away at value and lowering his original purchase offer. He is counting on the seller simply wearing down since he has invested so much in the process and accepting the significantly lower offer.

Buyer Introduced by Seller's Professional Advisors - Unfortunately this is a commonly executed yet flawed approach to maximizing the seller's transaction value. The seller confides in his banker, financial advisor, accountant, or attorney that he is considering selling. The well-meaning advisor will often "know a client in the same business" and will provide an introduction. This introduction often results in a bidding process of only one buyer. That buyer has no motivation to offer anything but a discounted price.

Valuation From a Professional Valuation Firm - At about the midpoint in the value chain is this view of business value. These valuations are often in response to a need such as gift or estate taxes, setting up an ESOP, a divorce, insurance, or estate planning. These valuations are conservative and are generally done strictly by the numbers. These firms use several techniques, including comps, rules of thumb, and discounted cash flow. These methods are not great in accounting for strategic value factors such as key customers, intellectual capital, or a competitive bidding process from several buyers.

Private Equity or Financial Buyer - In this environment of too much money chasing too few deals, the Private Equity Groups are stepping up with some surprisingly generous purchase deals. They still have their roots as financial buyers and go strictly by the numbers, but they have increased the multiples they are willing to pay. Where two years ago they would buy a bricks and mortar company for 5 ½ X EBITDA, they are now paying 7 X EBITDA.
Strategic Buyers in a Bidding Process - The Holy Grail of transaction value for business sellers is to have several buyers that are actively seeking to acquire the target company. One of the luckiest things that has happened in our client's favor as they were engaged in selling their company was an announcement that a big company just acquired one of the seller's competitors. All of a sudden our client became a strategic prized target for the competitors of the buying company. If for no other reason than to protect market share, these buyers come out of the woodwork with some very aggressive offers.

This principal holds as an M&A firm attempts to stimulate the same kind of market dynamic. By positioning the seller as a potential strategic target of a competitor, the other industry players often step up with attractive valuations in a defensive posture.

Another value driver that a good investment banker will employ is to establish a strategic fit between seller and buyer. The advisor will attempt to paint a picture of 1 + 1 = 3 ½. Factors such as eliminating duplication of function, cross selling each other's products into the other's install base, using the sellers product to enhance the competitive position of the buying company's key products, and extending the life of the buyer's technology are examples of this artful positioning.

Of course, the merger and acquisition teams of the buyers are conditioned to deflect these approaches. However, they realize that their competitors are getting the same presentation. They have to ask themselves, "Which of these strategic platforms will resonate with their competitors' decision makers?"

As you can see, the value of your business can be subjectively interpreted depending on the lenses through which it is viewed. The decision you make on how your business is sold will determine how value is interpreted and can result in 20%, 30%, or even 40% differences in your sale proceeds.

Tuesday, June 19, 2007

Selling A Business - The Eleventh Hour Contract Change

The next line could be, "Will it Derail Your Sale?" We have seen it go both ways, unfortunately. If a deal does blow up, everybody looses. The seller has spent six months of divided focus and many of the normal business development activities have been put on the back burner. His or her business will simply not be as strong if the business sale process is not completed.
Normally a buyer that has made it to this point is the one that recognizes the most strategic value and has indicated their willingness to pay for that value. The second, third, and fourth place buyers, if they even have been uncovered, are generally far short of the winning bidder. We have had some very specialized companies that were great fits for only one buyer and the next best bid was less than 50% of the leader's offer. That is not a very attractive backup plan, should the best buyer go away.
The buyer is also damaged by an eleventh hour deal blow up. They have devoted senior level people to analyzing, negotiating, preparing for the integration of the two companies, etc. It often involves several hundred thousand dollars of opportunity costs. If the target company was the answer to a gap in the buyer's product set, they will no longer be able to recognize the anticipated benefits unless they now build it themselves or go acquire the next best target company. Both of these approaches are expensive and time consuming.
Let's get back to the root of the problem. What would cause a buyer to make an eleventh hour change? Our experience has shown that in 80% or more of the cases, it has been the buyer's corporate counsel or outside counsel. They have discovered a deal component that when memorialized in a definitive purchase agreement is either not legal or violates the corporate "risk versus reward covenant."
This is where it gets emotional. It is done "after we had a deal.' We coach our sellers up front and warn them that this can happen. The way we position it is that as a simple matter of logistics, the buyer's legal team has very limited detailed involvement prior to crafting the definitive purchase agreement. In the heat of negotiations, however, the M&A guys have often agreed to something that will not pass the protectors of the mother ship (corporate counsel). When the particular deal term moves the Risk/Reward needle into the red zone, the corporate counsel over rules the M&A guys. An example of this would be an earn out that was open ended and not capped - simply unacceptable on Wall Street.
Another manifestation of the eleventh hour change is the buyer's business development team is tasked with bring the deal along to a point with final approval reserved for the president or the board. Sometimes the M&A team simply commits to something that gets rejected in the final approval process. Unfortunately, sometimes this is real and sometimes it is a popular negotiating ploy called deferring to the higher authority. It can be very tricky determining which is real and which is negotiating.
O.K. So we have established that more often than not, the seller will encounter the dreaded eleventh hour deal change. How should he or she respond?
First Rule - be prepared and know that it is part of the normal process. Do not put it into the category of this is the evil empire looking to beat up the little guy.
Second Rule - Do not destroy your personal good will with the buyer. Often times, the owner has huge value to the buyer in terms of post acquisition product integration and education on their market. If this last minute deal change turns you into Mr. Hyde at the negotiating table, the buyer's Risk/Reward needle could be moved into the red zone. If they view you as someone that could damage company morale or who will be high maintenance or worse, will be litigious, they will walk away from the deal at this point.
Rule Three - If you feel you are about to explode in front of the buyers, ask for a 15 minute break, go into another room and unload on your advisors. Get it out of your system, calm down, and go back into problem solving mode.
Rule Four - Let your advisors do your bidding. Recognize that this is an emotionally charged area for you and it is essential for you to preserve your relationship with your future employer. Let your M&A advisor or your attorney be the bull dog, not you.
Rule Five - Respond in kind at the appropriate economic level. Do not look for a pound of flesh to compensate you for your sense of moral indignation. In corporate America it's not going to happen. Work with your advisors to identify the extent of the economic value you have lost due to the change. Ask for concessions in return that match the economics of the buyer's change.
Rule Six - Keep your eye on the prize. In this very emotional time, you must prepare yourself to be an economic being. If your next best buyer is $2 million below your current buyer's offer, do not put the deal in jeopardy by violating Rules One through Five for a change with maximum impact of $20,000. Put your ego on the shelf, step back, keep your moral indignation in check and preserve your good will. Remain fluid and creative while allowing your advisors to take on the role of the bad guy. Get your deal signed, enjoy your new substantial bank balance, and prosper as a prized member of your new company.

Tuesday, June 12, 2007

Do Your Company's Sales Match the Excellence of Your Product or Service?

For many entrepreneurs, technology based companies or healthcare companies, the answer to that question is a resounding, NO! There is an exception to this with the rapid rise of the new economy, new media, highly scaleable companies like Google, U-Tube, Ebay, PayPal, and MySpace. In their case, their prospective customers highly value their newness, their breaking the mold, their non-establishment approach. They are viewed as doing what they do far better than the technology establishment stalwarts. The notable exception to this is Apple who has been able to transcend old establishment and be accepted as both old and new economy.
But I digress. Back to topic. Most companies that sell to other companies, or B2B companies are evaluated by their potential customers in a traditional risk reward analysis. Or using computer terminology, their buying decisions are made using a legacy system. It was once said that no one ever got fired for making an IBM decision.
Let's look at this legacy buying model and see exactly why your company's sales do not match the elegance of your solution.
One of our healthcare clients insisted that we read CROSSING THE CHASM by Geoffrey Moore to give us greater perspective on his company's situation. By the way, if you are a smaller technology based or healthcare company selling in the B2B space, this should be required reading.
Our client was a two year old company selling a cutting edge, on-line nurse shift bidding and self scheduling system to hospitals. This is a great product. The ROI's were easily quantifiable. The handful of installed accounts loved it. Most importantly, it had a positive effect on the nursing staff's morale. This alone could justify the cost of the system.
Our client had some very encouraging early success selling his solution to some of the more progressive hospitals. They received some outstanding early PR. After that initial success, however, our little edgy technology based company hit the wall. The sales cycle went from six months to beyond twelve months. Cash flow became an issue and, to top it off, a generously funded venture backed competitor with well known industry executives was aggressively developing this new market.
What was happening? Our clients were very smart people and figured out what was happening. They knew that they would have to make some difficult and dramatic decisions in short order. Turns out the majority of hospitals are legacy buyers and make buying decisions based on a risk avoidance paradigm. Our client's early success was realized as a result of selling to the small minority of early adapters in their industry. These are the pioneers that don't mind the arrows in their backs from heading out West with new products or new vendors.
Legacy buyers, however, do not value references that are early adapters. They are known to have a much higher risk tolerance than the traditional majority. Below are some buying criteria from these legacy buyers:
1. Big is good. Bigger is better. Buying inferior technology solutions from a blue chip publicly traded company wins most of the time.
2. Old is good. There is no replacement for experience and the grey haired company beats the gelled hair Tech Wizard company more often than not.
3. Industry Cred means everything. If you are a company that adapted your product from success in another vertical market and you are entering our space, the old familiar face carries the most weight.
4. Will the little guy be in business next year? The failure rate for the sub $ million company is a thousand times greater than for the $ billion company. This change in technology is painful enough. Do I want to risk having to do it over again in a year?
5. If I have problems, the big guy can fill the skies with blue suits until my problem is solved. The little guys cannot appropriately respond to my problem.
This is a punishing gauntlet for the small companies and it is amazing that any new companies survive in this environment. Let's look at a few of the "crossing the chasm" strategies that have been effective in swaying legacy buyers decision making in favor of the smaller provider with superior technology.
A. A well-known executive from an established healthcare company is put at the helm of the new company. The thinking from the buyer is that if he did it once, he can do it again.
B. Get an industry-recognized authority to endorse your solution or, better yet, have them join your board or advisory council.
C. Close a deal with a conservative, well respected customer and make them your marquee account with all the trimmings - i.e. a contract with a favored nations clause, the technology or computer code held in escrow with specific instructions if you go out of business, case studies and Public Relations glorifying the progressive decision maker, and providing an equity stake in your company are some examples.
D. Forging a strategic alliance, joint marketing agreement or resellers agreement with an industry giant. All of a sudden your small company risk factors have been eliminated and it has only cost you 30%-50% of revenue on each sale they make.
E. Sell your company to the best strategic buyer. Sometimes the best solution is to sell your company to the best strategic buyer for your greatest economic value. This is the most difficult decision for an entrepreneur to make. Below are some of the market dynamics that would point to that decision. Note: several of these factors influenced our entrepreneurial clients to ultimately sell their business to an industry giant.
You see your window of opportunity closing rapidly. You may have great technology and the market is starting to recognize the value of the solution. However, you have a small competitor that was just acquired by a big industry player. The bad news is you probably have to sell to remain competitive. The good news is that the market will likely bid up the value of your company to offset the competitive move of the big buyer.
The strategic alliance is with the right company, but the sales force has no sense of urgency or no focus on selling your product. The large company lacks the commitment to drive your sales. An amazing thing happens with an acquisition. The CEO is out to prove that his decision was the right one. He will make his decision right. All of a sudden there is laser focus on integrating this new product and driving sales.
You have created a strategic alliance and poured your company's resources into educating, supporting, and evangelizing your product. Whoops, you have counted on this golden goose and it has not met your expectations. Also you have neglected your other business development and sales efforts while focusing on this partner.
Many large healthcare companies now employ a try it before you buy it approach to M&A. They find a good technology, formalize a strategic alliance, dangle the carrot of massive distribution and expect the small company to educate and integrate with his sales force. Often this relationship drains the financial performance of the smaller company. If you decide to sell at this point your value to another potential buyer has been diminished.
Do not despair. If you have demonstrated a cultural fit and have helped your products work in conjunction with the big company's product suite, you have largely eliminated post acquisition integration risk. This can often more than offset any short-term profit erosion you may have suffered.
It is not easy for the smaller healthcare company to reach critical mass in this very competitive and conservative environment. Working harder will not necessarily get you where you need to be. Step back and look at your environment through the eyes of your buyers. Implement some of these strategies to remove the risk barriers to doing business with your company. Now you have created an opportunity for your sales to match the elegance of your technology solution.

Tuesday, June 05, 2007

Selling Your Business - The Buyer Visit

In our mergers and acquisitions practice a very important event prior to receiving letters of intent is the buyer visit. Don't be fooled into thinking that this is a simple headquarters tour. Experienced buyers know just the right questions to ask to uncover risks and to discover opportunities. We try to coach our sellers on how to present and how to answer these carefully scripted questions.

Unfortunately, a man or a woman that has called their own shots for the last 25 years is not always receptive to coaching. If we get a feeling that our advice is falling on deaf ears, we schedule the first visit with a buyer that is not the top candidate. Once our seller has made a few tactical errors in this dry run, they are then open to some coaching.

This is what we tell them. Acquiring another company is very risky. Mistakes can damage the buying company. Therefore, a buyer is looking to identify and mitigate risks. Their questioning will focus on what they can expect once they are the owner of your business. Are you bailing on a business that is on a downward spiral? When you leave, will major customers leave with you? Will your key employees stay? Will our company have your strong support in transitioning your knowledge and intellectual capital to our staff?

The number one question is, why are you selling your business? The unacceptable answer is, so I can get away as quickly as possible and sip umbrella drinks on an island. The correct positioning of your exit is, we have built this business and are nearing retirement. In order to realize the future potential we will have to invest back into it at a time when we should be diversifying our assets. A strategic larger company could leverage our assets to achieve much greater market penetration than we could.

Another important theme is that you are in control. You understand your costs and your margins. You can identify the opportunities for growth that a better capitalized company could capture. You can articulate your strengths. You know your weaknesses and they are simply that you do not have enough resources, capital, or distribution to capitalize on all this potential you have created. You understand your market and your competition.

Buyers like to believe they are buying a business at a discount. You should try to present your weaknesses in such a way that the buyer will think, we can easily correct that. For example, an eight week order backlog could be considered a negative. A smart buyer will think, that is a high class problem. I wonder how many orders they lose because of the order delay? We could hire three more people, open two more work bays and cut that backlog down to ten days, immediately capturing 10% greater sales.

Another example is that the selling company is technology focused and really lacks sales and marketing expertise. The savvy buyer with a fully developed sales and marketing engine pictures a 20% increase in sales immediately. If the selling company already had these weaknesses corrected, the buyer would certainly have to reflect that in the purchase price. Because the weaknesses exist and the buyer has already identified how his company will correct them, he views it as buying potential at a discount.

A corporate visit should be a good two-way exchange of information. The seller should ask such things as: How long have you been in business? How many locations do you have? How many employees work for your company? This question is a good way to back into company revenues by applying industry metrics of revenue per employee. Sometimes private companies are hesitant to reveal sales figures. The seller wants to determine whether the buyer is big enough to make the acquisition.

What are your biggest challenges? Who are your biggest competitors? How do you see the market? Where are your best opportunities? Have you made any prior acquisitions? How do you feel about them? What are you really good at? What areas would you like to improve? How would you see integrating our company with yours?
There is some very important information that you are seeking from this line of questioning. First, their answers give you some hooks on which to hang the assets of your company in order to drive up your perceived value to the buyer. Find their opportunities and show how your company combined with theirs can help capture them. Show how your assets will give them an advantage over their competitors. Show how your combined assets can eliminate some of their problems or weaknesses.

You want to determine if there is a cultural and a philosophical fit. Is there trust? Do you feel comfortable? Do they "get it" in terms of recognizing your company's strategic value or are they just trying to buy your company at some rule of thumb financial multiple?
Often a company acquisition is comprised of cash at close and some form of deferred transaction value like an earn out. If your deal was structured like this, do you have confidence that you would reach your maximum in future payments? Have they been able to articulate their growth plan after they acquire you?

As you can see, the buyer visit should not be looked at as simply a show and tell corporate visit. It should be viewed as an opportunity for the seller to gather valuable information that will help him answer three questions: 1. Is it a fit? 2. How can my company help them grow and better compete? 3. Are they willing and able to pay me for that?

business broker, merger and acquisition, sell a business, succession planning,investment banker,M&A

Tuesday, May 29, 2007

Business Sellers – Don't Allow the Process to Derail the Deal

Most business owners sell only one business in their lifetime. It is complex, emotional and pressure packed. Given this backdrop, the odds of a great outcome are, well, not that great.

As Merger and Acquisition advisors, one of our most important functions is to prepare our client for the bumpy road ahead. The worst outcome is to go through the exhaustive process of marketing the business, corporate visits, and due diligence, only to have the deal crater in month eight because of some ruffled feathers or perceived bad faith dealings.

First we try to make the seller understand that as the process unfolds and as the buyer tries to memorialize the parties' understanding in documents, new elements are added. For example, taking a discussion between buyer and seller on value may be followed with a "non-binding" letter of intent where for the first time, the structure is described. The seller may react very negatively if he was thinking of a $7 million wire transfer at closing and the written document combines $4 million cash at close with a $1 million seller note and an earn out that caps out at $2 million. If we had not earlier forced the issue or warned our seller that this was a possibility, then maybe we deserved to have an unhappy client. Our goal is to turn this from a "he changed the transaction" deal breaker to a couple of deal points that we negotiate.

Another sticky point if the seller is not prepared is the concept of the net working capital adjustment. This is a customary deal approach from experienced buyers that is fair. Trying to explain it to the seller for the first time during the heat of battle can be problematic. In advance we tell our seller that the buyer is going to want a measuring point based on the latest financials he receives in order to make his offer. If, at that point, the current assets are $350 K and the current liabilities are $300 K then the company has net working capital of $50 K. If that level changes then at the post closing true-up, an adjustment will be made to account for the change.

If a seller is not prepared for the pages of reps and warranties that are a standard part of most Definitive Purchase Agreements, the initial reaction is often, "no way." It is, however, a deal breaker for buyers, especially if they are public companies. With the new corporate governance scrutiny, these companies are very meticulous about protecting themselves.

The next potential stumbling block is when the buyer's corporate attorney gets involved to make sure that the mother ship is protected. It happened at the 11th hour and the way it was handled by the buyer almost blew up the deal. We had settled on the terms and conditions of the transaction and had worked out a 12-month consulting contract with the founder of the selling company. The senior management of the buyer detailed the duties and responsibilities in a "consulting agreement." When their corporate attorney received this document, he said that it is not a consulting agreement, but an employment agreement. Our client did not want to go from being a CEO to now being a VP. It was a drop in prestige for her and did not fit the image she had created for herself post acquisition. We had to talk her off the ledge and had to convince her that this should not be a deal breaker. We had to remind her that this buyer was the best fit for her company and she had the best opportunity of maximizing her earn out portion of the transaction with this buyer.

We convinced her to sleep on it. We also enlisted the support of her CFO, husband and dear friend (all the same person). We were able to enlist his calm logical thought process and convince his wife that this was a relatively small impact, all things considered. She agreed.

Wait, you thought this was settled. Not so fast. Enter the Business Development/ Merger and Acquisition person from the buyer (BD). He attempts to push the deal through without adding employee benefits to the employment agreement because those benefits were not figured into his original financial analysis. He got very protective of his turf and made this counter proposal without consulting his President and EVP. Our client went ballistic. We literally had to walk her out of the conference room and cancelled the closing meeting until the next day.

We had already done two end runs around BD and we were worried that if we did a third we may cause doubt about the post acquisition behavior of our client in the eyes of the buyer president, or worse, cause BD to blow the deal up because we bruised his ego.

Well, we got lucky. The next day, before our meeting was due to begin, we ran into an individual doing a walk through at our client's offices. We introduced ourselves and asked her who she was. She replied that she was the head of HR for the buying company. We asked her if they typically had two classes of employees, one with benefits and one without. She looked at us incredulously and asked us what we were talking about. We explained and she said she would have it cleared up by the end of the day. She also gave our client her card and scheduled a call with her so she could implement the full package of employee benefits. Fast forward – BD has been moved out of the M&A position.

We had spent a tremendous amount of our client's time, the buying executives' time and our time and everyone involved knew that this was a good and fair transaction. With all of the pressure, emotion, and egos involved, sometimes even good deals do not get completed. You need experienced advisors that operates in the role of "shepherd of the deal" to guide the transaction through closing.

Tuesday, May 22, 2007

Selling Your Business - Business Broker or Merger and Acquisition Advisor

Number of Clients Represented - Business Brokers want to represent as many business for sale as they can. When contacting their vast network of individual buyers it is a real benefit to have a vast inventory of companies. Because on this, their approach is more of a mass mailing, mass email, post the business on a business for sale Web site, type of approach and their attention is spread over 25 or more simultaneous clients. Merger & Acquisition Advisors usually limit their number of engagements to 3 or 4 per professional at a time. Their approach is very hands on and labor intensive. Merger & Acquisition Advisors usually rely on a direct selling approach of calling the buyers and talking with the M&A department or the president. Often Merger & Acquisition Advisors will have specific industry niches and will have a customized data base of contacts. They often have had several prior contacts with the buyers and are able to penetrate the call screening that is set up to protect these individuals. A corporate buyer does not buy through a posting on a business for sale Web Site. A corporate buyer will open 2% or less of letter solicitations. A corporate buyer will read less than 1% of unsolicited and unknown emails. Corporate buyers demand personal and professional contact to get their interest.

Up-Front or Monthly Fees - Business Brokers generally will charge a minor up-front fee to begin the engagement or have a simplified valuation completed. Generally there is no monthly fee charged. Merger & Acquisition Advisors generally charge either a substantial up-front fee or a monthly fee in the $3500 to $10,000 per month range depending on the size of the business.Success Fees - Business Brokers generally charge a success fee of 10% of transaction value. Merger & Acquisition Advisors generally have a sliding scale based on the anticipated size of the business. The known Wall Street firms that sell the mega businesses will not touch a transaction where they are not guaranteed $1 million in fees. The big regional firms require at least $750,00. The M&A firms that deal in the lower end usually charge considerably less than that with a minimum or $150,000 cash at close. If your transaction value is in the $10 million range, count on paying your M&A firm $300K to $400K.

Conclusions - The deciding factor is in cost benefit. An M&A firm is going to cost a lot of money and you are going to be paying either an up front or monthly fees without a guarantee of success. If your business is smaller and is a commodity type business or Main Street business where the target buyer is an individual, an M&A firm will not add much value and is not worth the fee.If your business is larger, complex, unusual, strategic, with a high component of intellectual property or technology and subject to a broad interpretation of value in the marketplace, an M&A firm is the right choice. In the final analysis, is a swing of 20% in your company's selling price worth $5,000 per month for 8 months?

Thursday, March 29, 2007

The First Himss Venture Fair –2007

I attended the new Venture Fair at the Himss Conference (The major Healthcare Information Technology Association) and applaud the organizers for launching this new event. In spite of its maiden voyage, it was very well organized, well attended and very effective. In fact, the biggest difficulty was the weather not co-operating and the morning session had a majority of entrepreneurial presenters compared with qualified investors. By Mid Afternoon, with late arrivals, however, the ratio of investor to presenter was approximately one-to-one.

I am looking forward to attending this event at next year's conference and anticipate that the word will get out and attendance will triple.

If there were a disappointment, it was that only Eclipsys had a representative attending and all of the other major HIT vendors were absent. Part of that may have been because this was a brand new event. At the very least, the big guys should want to keep their finger on the pulse of the up and coming technologies. Some useful platforms were presented including a patient smart card, biometric security and a voluntary patient reported health record.

In spite of the passion and creativity of this group of entrepreneurs, half of them will not be around in two years. The major hospitals are not early adapters. The implementation of new technology can often be way more costly and difficult than originally anticipated and results are not guaranteed. Combine that technology risk with the "small company risk" and the sales environment is not very welcoming.

Like the entrepreneurs in the room, I too want to have a positive impact on the healthcare system, but our firm is a little investment-banking firm. So I am going to apply my passion and creativity to propose a new financial paradigm that is designed to accelerate the introduction of game changing technologies. I call this our Hybrid M&A Model. It is designed to provide the entrepreneur the capital to develop his or her technology toward commercial success. This new model invites the big HIT players in as venture investors.

They would acquire a minority equity interest in promising companies with a call option exercisable at some future date at a predetermined, contractually negotiated valuation metric. Now for the hard part. They then take the role as a supporter of their investment and tell the entrepreneur to press on as an entrepreneur. The spirit, passion, and energy of the entrepreneur remain in tact. More importantly, the efficiency of the start-up remains in tact. Translation – very low overhead compared to a comparable product launch with a large company's infrastructure.

The advantages to the large company are that they create a very low cost and efficient R&D platform. They dramatically reduce their financial risk of major product development failures. They also spread their risk over a portfolio of promising technologies. If they do exercise their call option, they have actually helped the seller make his/her company more expensive. However, it is likely that their pre-negotiated valuation metric will allow them to complete the acquisition at below current market value.

The entrepreneur is able to secure much needed funding to help develop his/her vision. More importantly, however, is the backing of the major HIT vendor largely removes the "small company risk" component for the risk adverse hospital decision makers. This alone will accelerate the adoption of new technologies so they can reach the scale necessary for commercial success.
Some very smart and successful companies like Cisco Systems have deployed similar models with great success. They recognize they do not have a monopoly on all the great new developments in their industry so they cast their net over a broad territory through this type of creative equity investment

Wednesday, March 28, 2007

Venture Capital Alternative for the Technology Entrepreneur

If you are an entrepreneur with a small technology based company looking to take it to the next level, this article should be of particular interest to you. Your natural inclination may be to seek venture capital or private equity to fund your growth. According to Jim Casparie, founder and CEO of the Venture Alliance, the odds of getting Venture funding remain below 3%. Given those odds, the six to nine month process, the heavy, often punishing valuations, the expense of the process, this might not be the best path for you to take. We have created a hybrid M&A model designed to bring the appropriate capital resources to you entrepreneurs. It allows the entrepreneur to bring in smart money and to maintain control. We have taken the experiences of several technology entrepreneurs and combined that with our traditional investment banker Merger and Acquisition approach and crafted a model that both large industry players and the high tech business owners are embracing.

Our experiences in the technology space led us to the conclusion that new product introductions were most efficiently and cost effectively the purview of the smaller, nimble, low overhead companies and not the technology giants. Most of the recent blockbuster products have been the result of an entrepreneurial effort from an early stage company bootstrapping its growth in a very cost conscious lean environment. The big companies, with all their seeming advantages experienced a high failure rate in new product introductions and the losses resulting from this art of capturing the next hot technology were substantial. Don’t get us wrong. There were hundreds of failures from the start-ups as well. However, the failure for the edgy little start-up resulted in losses in the $1 - $5 million range. The same result from an industry giant was often in the $100 million to $250 million range.

For every Google, Ebay, or, there are literally hundreds of companies that either flame out or never reach a critical mass beyond a loyal early adapter market. It seems like the mentality of these smaller business owners is, using the example of the popular TV show, Deal or No Deal, to hold out for the $1 million briefcase. What about that logical contestant that objectively weighs the facts and the odds and cashes out for $280,000?

As we discussed the dynamics of this market, we were drawn to a merger and acquisition model commonly used by technology bell weather, Cisco Systems, that we felt could also be applied to a broad cross section of companies in the high tech niche. Cisco Systems is a serial acquirer of companies. They do a tremendous amount of R&D and organic product development. They recognize, however, that they cannot possibly capture all the new developments in this rapidly changing field through internal development alone.

Cisco seeks out investments in promising, small, technology companies and this approach has been a key element in their market dominance. They bring what we refer to as smart money to the high tech entrepreneur. They purchase a minority stake in the early stage company with a call option on acquiring the remainder at a later date with an agreed-upon valuation multiple. This structure is a brilliantly elegant method to dramatically enhance the risk reward profile of new product introduction. Here is why:

For the Entrepreneur: (Just substitute in your technology industry giant’s name that is in your category for Cisco below)

The involvement of Cisco – resources, market presence, brand, distribution capability is a self fulfilling prophecy to your product’s success.
For the same level of dilution that an entrepreneur would get from a VC, angel investor or private equity group, the entrepreneur gets the performance leverage of “smart money.” See #1.
The entrepreneur gets to grow his business with Cisco’s support at a far more rapid pace than he could alone. He is more likely to establish the critical mass needed for market leadership within his industry’s brief window of opportunity.
He gets an exit strategy with an established valuation metric while the buyer helps him make his exit much more lucrative.
As an old Wharton professor used to ask, “What would you rather have, all of a grape or part of a watermelon?” That sums it up pretty well. The involvement of Cisco gives the product a much better probability of growing significantly. The entrepreneur will own a meaningful portion of a far bigger asset.

For the Large Company Investor:

Create access to a large funnel of developing technology and products.
Creates a very nimble, market sensitive, product development or R&D arm.
Minor resource allocation to the autonomous operator during his “skunk works” market proving development stage.
Diversify their product development portfolio – because this approach provides for a relatively small investment in a greater number of opportunities fueled by the entrepreneurial spirit, they greatly improve the probability of creating a winner.
By investing early and getting an equity position in a small company and favorable valuation metrics on the call option, they pay a fraction of the market price to what they would have to pay if they acquired the company once the product had proven successful.

Let's use two hypothetical companies to demonstrate this model, Big Green Technologies, and Mobile CRM Systems. Big Green Technologies utilized this model successfully with their investment in Mobile CRM Systems. Big Green Technologies acquired a 25% equity stake in Mobile CRM Systems in 1999 for $4 million. While allowing this entrepreneurial firm to operate autonomously, they backed them with leverage and a modest level of capital resources. Sales exploded and Big Green Technologies exercised their call option on the remaining 75% equity in Mobile CRM Systems in 2004 for $224 million. Sales for Mobile CRM Systems were projected to hit $420 million in 2005.

Given today’s valuation metrics for a company with Mobile CRM Systems' growth rate and profitability, their market cap is about $1.26 Billion, or 3 times trailing 12 months revenue. Big Green Technologies invested $5 million initially, gave them access to their leverage, and exercised their call option for $224 million. Their effective acquisition price totaling $229 million represents an 82% discount to Mobile CRM Systems' 2005 market cap.

Big Green Technologies is reaping additional benefits. This acquisition was the catalyst for several additional investments in the mobile computing and content end of the tech industry. These acquisitions have transformed Big Green Technologies from a low growth legacy provider into a Wall Street standout with a growing stable of high margin, high growth brands.

Big Green Technologies' profits have tripled in four years and the stock price has doubled since 2000, far outpacing the tech industry average. This success has triggered the aggressive introduction of new products and new markets. Not bad for a $5 million bet on a new product in 1999. Wait, let’s not forget about our entrepreneur. His total proceeds of $229 million are a fantastic 5- year result for a little company with 1999 sales of under $20 million.

MidMarket Capital has borrowed this model combining the Cisco hybrid acquisition experience with our investment banking experience to offer this unique Investment Banking service. MMC can either represent the small entrepreneurial firm looking for the “smart money” investment with the appropriate growth partner or the large industry player looking to enhance their new product strategy with this creative approach. This model has successfully served the technology industry through periods of outstanding growth and market value creation. Many of the same dynamics are present today in the high tech industry and these same transaction strutctures can be similarly employed to create value.

MidMarket Capital, Inc., MMC is an M&A Advisory firm specializing in providing corporate finance and investment banking services to entrepreneurs and middle market corporate clients in the high tech, and select niche markets. The firm counsels clients in the areas of mergers, acquisitions and divestitures, private placements of debt and equity, valuations, corporate growth and turnarounds. Dave began Mergers and Acquisitions practice after a twenty-year career within the financial and information technology industries. Contact Dave Kauppi (630) 325-0123

Saturday, March 10, 2007

Business Brokers - Bad Practices from the Big Boys

I sit on the board of directors of the Midwest Business Brokers and Intermediaries (MBBI). An attorney from a small Chicago law firm was recently elected to the board. In his first meeting he introduced himself and said he was on the board at a Chicago attorney association. He stood up in front of our board and said, "You guys don't have a very good reputation in the legal community.

That certainly got our attention and he went on to explain the reasons why. As I listened to him, it occurred to me that what he was describing was the behaviors of a few of the big national Middle market M&A firms that put on the Business Seller Seminars. Because these firms have so much marketing muscle, they effectively become the face of our profession. No wonder the legal profession does not embrace us.

I walked up to him after the meeting and asked him if I could meet with him and share with him another view of our profession. As our meeting date approached, I was contacted by a business owner who had located me through a Google search (we write a lot of articles) and told me his sad story.

This was a small company that I would describe as being in the pre-profit stage. This owner had received a series of solicitations inviting him to come to a seminar about selling his business. He signed up and was contacted by phone several more times by this company's representatives to make sure he would attend. They were very specific that he should not bring any company logo items to the seminar for confidentiality reasons.

The presentations were very professionally orchestrated and this firm gave the attendees the impression that the M&A firm possessed this special skill to take these companies and write a powerful "Book" that would dramatically improve their value to the market. They actually used the words, "We will dress up the Pig." They also said they had a big roster of foreign buyers and that they had an upcoming conference in Brussels where they would be presenting the seminar attendees' companies to these qualified buyers that were just dying to get their hands on American companies.

In the Seminar's question and answer period, this business owner asked, "Why am I here?" The presenter jumped all over that one. Everyone of you in this room was specifically selected because your industry is hot with M&A activity. Later in the presentation, one of the seminar presenters took this owner aside and said he would give him a break on the $37,000 up front fees.

They scheduled a follow-up meeting where this Seminar guy pounded on this poor business owner and below is a cut and paste from the email this seller sent me:

"Thanks a lot for the high speed education this morning. The man explained that because of the vast target market for the Product Name Confidential globally, it's effectiveness and price etc. that Company Name Confidential in the right hands could generate $300,000,000 a year etc. blah blah blah. "It would also give the buyer enhanced stock value. We probably have about 200 qualified buyers right now for you..." He continues, "What you have is an oil well, what the buyer has is a derrick". He's from Texas thus, the oil analogy. "One owner no partners with all their attorneys this will be so easy to sell, so clean neat and tidy....."

Finally, "He left very angry because I told him I wasn't gonna pay them $29,000. So.. I was left to believe that $29,000 was gonna stop his firm from reaping all that "easy money". That just doesn't sound real world enough for me. I don't want to be stuck in their database. I don't know what he was pissed about... They called me I didn't call them. I'm not on any "I wanna sell my company" lists. Hell I just got the company phone number listed about two weeks ago. Honest to God I haven't gotten the first Company Name Confidential phone bill yet."

Wow. Where do I begin? How about what a sleazy, dishonest, outrageous load of bull.
Luckily this seller had talked to me before his meeting and I warned him about this approach. I had no idea it was quite this misleading. This business owner sent this guy packing and he was ticked off because he didn't sell a $29,000 book.

As long as I have gone this far, I might as well expose the whole story. This approach works to sign up business owners with stars in their eyes for $37,000 books. What an awesome business. Write a book with industry boilerplate and some minor analysis compiled by some recent grad analysts sitting in a room at HQ that costs the seminar company a maximum of $2500 to produce. Enter these deals into their inventory database and send it out to the Private Equity Groups and present the list to the foreign buyers.

They lock up the seller with a long contract tail and effectively prevent a legitimate firm from actually working the sale process for 2 to 3 years. If the business is in the 2 in 10 that gets immediate interest, then the seminar firm will have a banker work on it. If you are in the unfortunate 8, you become a passive entry in their deal inventory.

Our bankers and the bankers of the 90% of M&A companies that provide a fair value for their services, can only handle effectively four to five simultaneous transactions. If you took this Seminar Company's deal inventory and divided it by the number of bankers, you would find that they have over 25 live deals per banker. It is impossible to professionally represent these sellers who have paid an up-front fee of $37,000 for this service.

Foreign buyers are not stupid, they do not pay more for companies than American companies, and they are generally not interested in even looking at an acquisition under $25 million in revenue. A "book" never sold a company or made it more valuable. Making changes in your company to improve its performance will make it more valuable. A good M&A advisor or your CPA can provide you important input about that.

What really helps you maximize your company's selling price is to have an M&A advisor directly contact the universe of most likely strategic buyers and to get several interested in your company. This results in a competition for your company, often called a soft auction. As these strategic buyers view your company as a must have acquisition, the price and terms are significantly improved.