If you're planning to sell your business in the near future, it's a good idea to "dress" your business for success to help attract the most potential suitors. Here are six steps to M&A success:
Buyers are most interested in a target's core competencies. Nonessential items — such as underperforming segments, nonoperating assets, shareholder loans and minority investors — complicate mergers and acquisitions. Consider removing these items from your balance sheet.
Sales are often based on multiples of earnings or earnings before interest, taxes, depreciation and amortization (EBITDA). Do what you can to maximize your bottom line. That includes cutting extraneous expenses and operating as lean as possible.
Buyers also want an income statement that requires minimal adjustments. For example, they're leery of businesses that count as expenses personal items (such as country club dues or vacations) or engage in above-or below-market related party transactions (such as leases and relatives on the payroll).
Private business owners nearing retirement may lose the drive to grow the business and, instead, operate the company like a "cash cow." But buyers are interested in a company's future potential.
Achieving top dollar requires a tack-sharp sales team, a pipeline of research and development projects, well-maintained equipment and a marketing department that's strategically positioning the company to take advantage of market changes and opportunities.
It's no surprise that businesses with higher risks tend to sell for lower prices. No company is perfect, but industry leaders identify internal weaknesses (such as gaps in managerial expertise and internal control deficiencies) and external threats (such as increased government regulation and pending lawsuits).
Honestly disclose shortcomings to potential buyers and then discuss steps you have taken to mitigate risks. Proactive businesses are worth more than reactive ones.
Buyers want more than just financial statements and tax returns to conduct their due diligence. Depending on the industry and level of sophistication, they may ask for marketing collateral, business plans, financial projections, fixed asset registers and inventory listings.
Many will even ask for copies of major contracts, such as leases, insurance policies, franchise deals, employee noncompete agreements and loan documents. Before you give out any information or allow potential buyers to tour your facilities, enter into a confidentiality agreement to protect your proprietary information from leaking to a competitor.
Evaluate different ways to structure your sale to minimize taxes and maximize selling price. For example, one popular element is an earnout, where part of the selling price is contingent on the business achieving agreed-upon financial benchmarks over a specified time. Earnouts allow buyers to mitigate performance risks and give sellers an incentive to provide post-sale assistance. Some buyers also may require you to stay on the payroll for three to five years to help smooth the transition to new management. Seller financing and installment sales also are gaining popularity in management buyouts and purchases by joint venture partners.
A fundamental question buyers and sellers both ask is what the company is worth in the current market. To find the answer, business valuation professionals look beyond net book value and industry rules of thumb.
For instance, a valuator can access private transaction databases that provide details on thousands of comparable business sales. These "comparables" can be filtered and analyzed to develop pricing multiples to value your business. Or a valuator might project the company's future earnings and then calculate their net present value, using discounted cash flow analyses. These calculations help buyers set asking prices that are based on real market data, rather than gut instinct.
They can also estimate the value of buyer-specific synergies that result from cost-saving or revenue-boosting opportunities created by the deal. Synergistic expectations entice buyers to pay a premium above fair-market value.
Contact a valuation professional to discuss your options in today's hot M&A market and obtain help to "dress for M&A success" before interest rates and the supply of businesses for sale rise, leading to a less lucrative selling market.
Another important question to address when negotiating a sale is whether the deal should be structured as an asset or stock sale.
Asset sales. The buyer gets to cherry-pick the most desirable assets from the seller's balance sheet. That way the buyer isn't saddled with the seller's liabilities.
In addition, the depreciation and amortization of long-term assets starts anew, based on their current market values. That lowers the buyer's future tax obligations compared to a stock sale.
Contracts, licenses and loans also must be renegotiated in an asset sale.
Stock sales. The seller's equity transfers to the buyer so the business continues to operate uninterrupted.
Sellers generally prefer stock sales, because shareholders' proceeds are taxed at long-term capital gains tax rates, which are lower than ordinary income-tax rates.
By comparison, sellers usually pay more tax on asset sales, because these proceeds are typically taxed as a combination of ordinary income and capital gains.
Deal structure is an important consideration to understand before sitting down at the negotiating table.
Ask a tax professional to calculate your after-tax sales proceeds under different scenarios to find the option that works best for you and your buyer.
Get in touch today and find out how we can help you meet your objectives.