By Doug Hubert, Managing Partner
As a result of your hard work, dedication, countless sleepless nights, and good fortune (we all need a little luck), you’ve built a successful family business. Unfortunately, most business owners don’t spend as much time and attention considering a potential sale/exit/transition as they have in building their business – rarely is a formal plan in place, and many are unprepared when a triggering event causes them to finally consider this possibility. In most cases, the “trigger” is an inbound call or email from a prospective buyer – either a senior executive from the buyer or, more likely, someone working on behalf of the buyer. In fact, most successful companies receive several of these calls/emails weekly.
What should you do? This is conceivably the most important business transaction of your life – worth many millions of dollars (or tens of millions) if you have built a good-sized business. What you don’t want to do is start this process unprepared. There is always a temptation to go it alone – a preference for a quiet, confidential, and efficient process that you handle yourself. Don’t go there! No matter how good of a negotiator you think you are, you will be dealing with professionals who have a significant experience advantage over you and whose job is to purchase your business for the most favorable price and terms possible…for them…and not at a market-clearing price. Even if they are the nicest folks possible with an exceptional cultural fit and discuss what seems to be a fair price, they are not looking out for your best interests.
It is perfectly acceptable to take the call or respond to the call/email strictly to gather information such as asking about the prospective buyer’s strategy and why/how have they identified your business as a fit (this is a “tell” – if they are knowledgeable about your industry, have a precise explanation of their interest, and are familiar with the specifics of your business, then they are likely credible). But…do not provide any specifics of your business (revenue, profitability, number of employees, names of customers, etc.) and just note to the prospective buyer that you are not exploring a sale at this time but merely creating a working file for future reference). You will want full control over your timing as to when to provide company-specific information.
Regardless of where you are vis-à-vis your timing and potential interest in exploring a transaction, we strongly recommend that business owners pursue the following actions in advance of a sale to maximize value –
1. Educate Yourself on the Buyer Market & Prospective Valuation for Your Business
Establish a relationship with an experienced M&A advisor / Investment Banking firm. A good M&A advisor, in advance of a sale and without any fee, should be willing to offer you specific guidance about:
(i) an approximate valuation of your business (typically identified as a multiple of your EBITDA (Earnings Before Interest, Taxes, Depreciation & Amortization) – “recast” to remove any non-recurring expenses and unusually high salaries. This valuation guidance will likely be expressed as a range and should be grounded in specific feedback from market participants in your industry versus “technical” valuations using discounted cash flows and comparables from publicly-held companies in your sector.
(ii) the type of transaction that would meet your specific goals – specifically, this could be either:
o 100% sale; or
o Sale of a majority or a minority interest, known as a “recapitalization,” to take money and risk off the table, but find a partner/investor to provide the capital and expertise to help you grow and expand your business while you maintain an ownership position
o Raising debt or another form of non-dilutive capital to allow you to maintain full ownership to buy out family members or partners or to use growth capital
o Selling your company to your employees through an ESOP
Each of these options has pros and cons that are important to understand relative to your goals and preferences.
(iii) An initial list of buyers/investors – while the buyers that are most likely to put a premium valuation on your business are strategically aligned to your industry (includes publicly-held and large private businesses, including those owned by private equity firms), the buyer universe has exploded in the last decade with many thousands of institutional investors, including foreign buyers, family offices, independent sponsors, search funds, and other pools of institutional capital searching for businesses to purchase. A highly qualified, experienced investment banker will be plugged into these buyer sectors. As an aside, the most active buyer pool currently is private equity firms with “platform” investments that are seeking to quickly grow through industry consolidation (add-on) strategies. This buyer class moves quickly and can be highly flexible with deal structuring – but can also be highly opportunistic when they have an advantage in a deal negotiation, so be careful.
(iv) Advice on strategies to increase value in advance of a sale / transaction timing – there are a host of initiatives that are wise to tackle in advance of a sale that could help increase your valuation and/or certainty of completing a successful transaction. These include ensuring your accounting procedures are compliant with industry standards and financial results are clean/accurate, reducing customer concentration, addressing operational issues that could impact sale value, establishing or updating compensation incentive plans to ensure that the management team stays in place and supports the company during and after a sale, cleaning up/settling any litigation and/or IP ownership issues, extending customer contracts, reviewing all short-term initiatives to determine if they provide value, and many more…this is a long list and an involved discussion. Just as importantly, given the “facts on the ground,” a good M&A advisor will offer guidance on timing – specifically when to initiate a transaction to obtain the most favorable result. This is often focused on achieving expected revenue and profitability goals and maintaining strong financial performance during the course of the business sale marketing phase, but is also tied to cleaning up shareholder issues, tax mitigation strategies or external issues (including favorable market conditions).
2. Consult with a Trust & Estate Specialist
This can be either through your law firm or wealth management advisor. The time to perform any tax planning is in advance of a sale as you want some time separation between the establishment of any trust, gifting strategy, or state residency relocation and the initiation of a transaction. It is difficult to argue for a low valuation for any company stock for tax and estate purposes when a written offer for a higher price is in hand. Once you understand the market value for your business, you can then be in position to evaluate your likely tax obligations and after-tax proceeds, which will likely have an impact on transaction timing. Your wealth management firm, in addition to helping craft any tax and estate planning in conjunction with legal specialists, will also be able to model out projected investment returns to help you get comfortable with your personal and charitable goals. As an example, we had a recent client who, in advance of the sale of his business, established separate Trusts for his wife and children and changed his state of residency to a jurisdiction with no state Capital Gains Tax to minimize his tax obligations. Unfortunately, this type of advance planning by business owners is more the exception than the rule.
3. Make Sure Family Members in the Business and Other Key Equity or Senior Management Partners Are Aligned and Aware about Transaction Timing & Goals
This does not necessarily mean getting everyone’s consent, but it is critical to ensure that all equity owners and the most senior executives on your team are aware of the intent and timing to pursue a transaction. We have run across several companies where the children of the founder involved in the company were opposed to the sale of the company to any outside parties. This created an immediate roadblock as the children made it clear they would oppose any effort to sell the company. A transaction is difficult enough without having internal family opposition, and these conversations will flush out any issues and, if necessary, allow for a negotiated settlement before a sale is initiated. While selling or transitioning the business to your children or other family members is an admirable goal, it may not be the best solution for the business or your family’s finances depending upon the talent and skill set of the next generation. For family businesses with members/equity owners directly involved in the business and other members without active involvement, the best solution is often a recapitalization with an outside investor where any family member who wants an exit is paid in cash (at a market price) while any family member who either wants to remain actively involved or continue to have some ownership would receive an option to have a portion of their sale proceeds (other than cash) paid in equity of the newly-organized company. Any reputable M&A Advisor/Investment Banker can help you evaluate these options.
4. Run a Formal Sale Process for Your Company
This is perhaps the most important piece of advice in terms of value maximization we can offer. For most family business owners, they will have only one opportunity to sell their business – and, without question, the only way to ensure the best price and the most favorable terms is to have multiple qualified buyers bidding against each other for the right to buy your business. A qualified M&A Advisor/Investment Banking firm will work with you to design the most appropriate type of sales process – essentially focused on the number of prospective buyers included in the process. The goal is to find the buyer that needs to buy your business, and the more buyer prospects that are approached, the higher your chances are of finding this match. Your company may have a specific product or service that is differentiated from your competitors or perhaps you operate in a geographic territory or market niche that a prospective buyer needs to enter. There are also situations where an acquisition can be defensive in nature – an acquirer perhaps cannot afford for one of its competitors to acquire you, and therefore they pay more to keep their franchise intact. Thinking outside the box is also important – perhaps a foreign buyer in the same industry needs to enter the U.S. market or a buyer with a related business or product but no presence in your specific industry is presented with the opportunity to expand into an adjacent opportunity by acquiring your company (think Amazon acquiring Whole Foods Supermarket to increase their touch points with consumers who subscribe to Amazon Prime while also using the Whole Foods store network to install storage lockers for deliveries).
There are also market dynamics within the most active class of institutional investors – private equity – that can drive enhanced value for sellers. We have run across several instances where a private equity buyer has raised a new, larger fund, but can’t close on the fund (and begin collecting management fees) until remaining “dry powder” in their current fund is fully committed. We have also had situations where a private equity buyer had not prevailed in several previous auction processes and was under pressure from their limited partners to invest their committed capital and have a “win.” All of these situations can potentially work to the benefit of the seller…but only if enough qualified buyer prospects are involved.
Three final thoughts…
First, you will be dealing with professional investors/buyers who are highly disciplined with respect to pricing/valuation. The only time they will go beyond their comfort zone is when they are about to lose a transaction to another bidder. Second, a buyer that has prevailed in a sale process for your business and is in due diligence to close the transaction will be more accommodating on various deal points (and less likely to re-negotiate) if they know other interested parties are “in the wings.” Third, be sure to have team of seasoned deal makers in place to help assist you during a complex and emotional process – this includes an experienced transactional attorney, accountant, wealth manager, and investment banker/M&A advisor who have your best interests in mind.
De NES Partners focuses on representing single and multi-generational family and other privately-held businesses across the United States with revenue between $10-250 million, and works across the full spectrum of manufacturing, distribution, and company-to-company business services. Our business owner clients consider transactions typically following a formal estate or succession planning process, the receipt of an unsolicited offer from a strategic or financial buyer, or the need to buy out a partner or family member.
De NES Partners offers a comprehensive and customized approach and welcomes all inquiries, which are treated in confidence.
For further information, contact Doug Hubert at (770) 858-4491, [email protected], or visit us at our website at www.deNESpartners.com.
©2021, De NES Partners, LLC.