Our first bit of advice is to keep your eye on the ball. It
sounds simple, but the business sale process is disruptive. The smaller the
company with fewer management personnel, the more disruptive. We tell our
clients to maintain their focus on running the business and rely on their mergers
and acquisitions advisors to manage the business sale process. That being said,
there are many demands placed on the owners for answering buyers' questions,
conference calls, corporate visits, evaluating buyers and their offers, and
negotiating.
If the disruptions cause the sales and profits of the
business to fall, the buyer does not care that they fell because the owners
were distracted. They only care about the bottom line performance of the
business. The sale process generally runs for a period of eight months to over
a year in many cases.
The original financials in the offering memorandum are often supplemented several times as each quarter passes. If you have received purchase offers based on one set of financials and those financials deteriorate, you can count on the offers being lowered across the board to reflect your company's new reality. If the downturn is sizable, it may interfere with the buyer's ability to secure financing, especially if the buyer is a private equity group.
The original financials in the offering memorandum are often supplemented several times as each quarter passes. If you have received purchase offers based on one set of financials and those financials deteriorate, you can count on the offers being lowered across the board to reflect your company's new reality. If the downturn is sizable, it may interfere with the buyer's ability to secure financing, especially if the buyer is a private equity group.
Many owners want to juice their sales while the business is
being sold to drive every last bit of value into their business sale price.
They want to bring on that extra salesman or launch that big marketing campaign
in order to spike their sales and profits and then get rewarded with a 5 X
EBITDA bump in the business selling price. This is very expensive flawed logic
on the part of the business owner. A new salesman, even an outstanding new
salesman is a drain on the company profitability for 9 months to a year. That
is the best case scenario. In the majority of cases the new salesman does not
make the grade and is fired. His loss, however, hits the company's financials.
A marketing campaign is not always the sales driving engine
the owner hopes it will be. But, for discussion sake, let's say that the
campaign was well conceived and executed. The full impact of the campaign is
usually delayed by six months to a year. If this occurs during the business
sale process, the financials reflect the drop and the lowering of the buyers'
offers will follow as surely as the next sunrise.
The cruel irony of this dynamic is that you are investing to
make the business more valuable for you to sell, but instead are giving the
buyers an opportunity to buy at a discount. Your investment then pays off a
year after the new owner has taken over.
OK, I admit, I have painted the worst case scenario. So
let's say that the salesman you hired was a real star or your marketing
campaign caused sales and profits to spike in the near term. You, the business
seller, now with the upper hand, go back to your buyers with a business selling
price increase commensurate with the buyer reductions sited above. The reaction you get from the buyers is not
at all what you expected, however. Instead of raising their offers by your
increase in EBITDA multiplied by your prior offer valuation metric, they refer
to this increase as an anomaly or an outlier. Instead of rewarding you
proportionately in the purchase price, they want to normalize this over the
prior three years.
For clarification, let's look at the following example. Your
2011 EBITDA was $2,000,000, 2012 was $2,200,000 and 2013 was $2,400,000. You
are selling your business starting in June of 2014 and you launch your
successful marketing campaign that boosts your EBITDA to $3,200,000 in 2014.
Your offer on the table was 5 X 2013 EBITDA or $12,000,000. You go to your
buyer and say my new price is 5 X 2014 EBITDA or $16,000,000. The buyer
(especially if they are a Private Equity Group or financial buyer) will say,
wait just a minute, this was an anomaly and we need to normalize that over the
past 4 years. So they add up all of the EBITDA numbers and divide by 4 to get a
normalized EBITDA of $2.45 million. They raise their purchase offer from
$12,000,000 to $12,250,000.
So you have taken on a large financial risk to invest in
your business to increase your sales and profits. You beat the odds in
achieving a short term bump and your buyers attempt to minimize the impact on
their offer price.
On the other side of the ledger, some owners attempt to
significantly cut costs during the business sales process. We advise against this approach as well. If
the market does not provide the selling price that the owners are satisfied
with, they will simply not sell. If you have temporarily slashed your Research
and Development or Training budget for the sale, those cuts could come back to
hurt you, should you not sell your business near term.
The lesson here is steady as she goes while you are in the
midst of your business selling process. A fall in profit is punished and an
increase is not rewarded in proportion to the investment or the risk.
Dave Kauppi is a Merger and Acquisition Advisor and President of MidMarket Capital, providing business broker and investment banking services to owners in the sale of lower middle market companies. For more information about exit planning and selling a business, click to subscribe to our free newsletter The Exit Strategist
