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When to Sell Your Business
Every business will eventually change ownership and the decision to sell a company can either be viewed by the owner as the most painful event or the most liberating. Some owners are unprepared for business transitions and are caught off guard by ill health, unexpected financial crises, divorce or personal stress. These owners are forced to sell without proper planning and often receive less than optimal compensation for their company. Other owners recognize that in order to maximize the value of the business, the same strategic planning that was done during the years when the company was built is also necessary before selling the enterprise.
The goal of this article is not a crystal ball analysis of why selling a business is the right time; The purpose of the article is to review the factors that may affect the timing of this decision and to prepare in advance for the eventual business transition or sale. Life circumstances are constantly changing and proper succession planning is the single most important way for an owner to control the terms and conditions of business exit. There are a variety of reasons for transferring business control, and those who are proactive in implementing an exit plan can have more opportunities to increase business value, reduce tax liabilities, retain key employees, and reduce emotionally charged family issues.
Determining the best “time” to sell a privately held business depends on many factors, both internal and external. Finally, the timing decision is influenced by the reason(s) behind the sale, especially since not all business sales are premeditated. Increasing value has historically been at the top of the wish list when it comes to selling, but it is often balanced with the owner’s personal goals and lifestyle needs. Some common reasons for selling or transitioning a business include:
• Quality of Life/Retirement – Owning a privately held business is time consuming with associated opportunity costs. Most owners reach a point where they are interested in other things in life, be it spending time with spouse/children/grandchildren, indulging in personal hobbies, or taking time off to travel the world.
• Diversification – A privately held business typically represents a significant component of family wealth and the owner will be keen to diversify these assets into other investments.
• Burn Out – Many long-time business owners have lost their “fire in the belly” when they founded the company. As a result, highly successful and functional businesses may show lower sales and profits as a result of lower ownership commitment and drive. Many experts recommend that the best time to sell a business is before the condition threatens business operations and/or value.
• Illness – Facing the illness of a personal or family member is one of the many “unforeseen” reasons that may lead to the pursuit of a business sale.
• Divorce – Marriage breakdown is the reason for the sale of many family businesses.
Company performance, tax implications, buyer activity and the economy are all factors involved in creating the “perfect time” to sell a business. The timing of peak sales can be very difficult due to the unpredictable variability of many internal and external factors. Sales contracts are won and lost, new competitors enter the market, technology becomes obsolete, and business costs skyrocket (eg health care costs)… any of these events can affect future sales and earnings and thus have a material impact. Company valuation.
Profitability and cash flow of a business is one of the main drivers in determining a company’s value and marketability. As buyers look for companies with the potential to grow in the future and generate reliable earnings, in most cases the valuation will be tied to past performance and achievements. A business in an attractive industry with stable staff/management with solid earnings history will be highly marketable and should fetch a reasonable price regardless of the economy. Other business-specific factors that may influence assessments and play a role in timing decisions include:
• Competition – How has the business fared relative to competitors during the recent economic downturn?
• Customer Concentration – What percentage of revenue is generated from the top 3-5 customers?
• Business/Industry Trends – What are the trends for the past 3 years – revenue, COGS, expenses and net income? What factors will positively or negatively affect future earnings?
• Areas for growth – What new products, new markets or financial factors will enable top and bottom line growth?
Tax Consequences (Current vs. Future)
Business owners need to be aware of the tax costs involved in selling their business (income, capital gains, estate, personal property, and payroll) and how these tax increases will affect net after-tax dollars. Understanding the impact of pending tax increases enables business owners to make informed decisions as it relates to intelligently structuring and timing business sales transactions to maximize net after tax dollars.
Understanding the conditions that create increased buyer demand can often help make better timing decisions.
• Cost of Capital / Interest Rates – Third party financing is responsible for most of the funding of privately held business sales. The level of interest rates directly affects the cost of capital and lower rates will create more value for the target business. A tight credit market can reduce the pool of qualified buyers because it typically increases the credit and collateral requirements needed for loan approval.
• Quantity of buyers – A bad economy (while detrimental to many companies’ earnings) often increases the number of available business buyers, as displaced corporate executives seek to leverage their skills and retirement savings to acquire the company as a source of future income and livelihood.
• Competitive Companies for Sale – The number of companies for sale in a given industry or geography can affect the price these companies capture in the market. The much-vaunted retired baby boomer phenomenon is predicted to put downward pressure on businesses as more companies become available for sale.
It is important for business owners to continually evaluate their exit plan options throughout all phases of their business. The subprime loan crisis and financial market turmoil of the past several years have caused more and more business owners to reevaluate their life goals and retirement plans and compare them to the opportunity costs of managing their current business. For some business owners, exiting in the near term is not financially feasible. With the help of a competent business intermediary, they can develop a transaction structure that allows them to be involved in their business in some capacity, post-sale. Obtaining professional assistance to determine the current market value of the business and establishing a framework for an exit strategy ensures that ‘windows of opportunity’ are not missed. In this way the transaction value of the ongoing business can be maximized while the company is still relevant, profitable and holds viable growth prospects for the future.
“When” is the right time to sell a company is a question that is probably asked by any business owner. In most cases, the best time is when the owner doesn’t need to sell. Some owners consider selling the company when the business is growing rapidly and the company is clicking on all cylinders. When times are lean and earnings are pulled back, owners also hesitate to sell based on the feeling that the particular dollar value they have in mind for their enterprise may not be realistic in the current market. In both cases, the “purchasing power” generated by sales proceeds may be roughly equivalent given the efficiency of financial markets. During a strong economy a higher transaction value may be achieved but the value of comparable assets (eg real estate) will also be at a higher level. Conversely, a business sold in a more sluggish economy may fetch fewer dollars for the seller but provide a higher level of buying power based on the value of comparable assets in which the money is likely to be reinvested.
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