At some point down the track, you will most likely find yourself with a successful business that you want to sell or pass to another. These exits can be planned or unplanned. Either way, it is best to be always ready to exit. It is quite likely that the value of your business, when you sell it, will be closely related to its profitability. Therefore, it makes sense to spend some time and energy positioning your business for the most profitable sale that you can achieve. Our DP30, DP100 and DP365 strategies are designed exactly for this purpose. They will be useful reading for anyone considering selling their business within a year or two. This is a Yellow Belt article.
Reasons for Exit
You may be an intentional seller of your business but it is also possible that you will need to sell your business unexpectedly.
The following is a list of reasons why your business might go on the market:
- You are reaching retirement age and do not have family members who wish to continue the business.
- You have become bored with the business. Possibly because the excitement of the Start Up is no longer there, or possibly because you have moved on from the type of business you started.
- You want to make some Capital Gains from the sale of the business to potentially get you started in another business or to take the money and invest in other activities.
- The business may not be performing well and you are unclear how to make it improve. Perhaps you are tired of trying to improve it leading to you thinking of selling it.
- Someone might approach you "out of the blue" with a takeover or merger offer that you are not prepared for and therefore do not have the business in a position for the most profitable sale.
- Your health, or of those around you, may take an unexpected downturn and you find, either, that you are unable to run the business yourself or that you need more time to focus on people around you with health issues.
- A co-partner/co-founder in the business wants to move out of the business and you find that you are unable to continue to run the business by yourself or are unable to pay the departing partner their share of the business and therefore must put it on the market.
- You may be faced with a marital breakup that means you have to dispose of the business assets.
- You may make the judgement call that the future of your industry is not looking to good and it is time for you to get out. This sort of thing was faced by book shops when Amazon got started, hotels with AirBnB and any other industry that is faced with a new and disruptive competitor.
The moral of the story is that a wise business owner tries to keep the business tuned for profit in case of a planned, or unplanned, sale.
Business exits fall roughly into four categories:
- Trade sales to another similar business in, or entering, the industry.
- New entrants to the industry
- Passing the business to family members who take it over (Succession) and
- Selling to your existing management; a so called Management Buyout
A trade buyer will pay some multiple of price, which is often more than a new entrant. This is because they can see the strategic advantage of bolting your business onto their existing business.
They will be pricing it more for the future value your business brings strategically. To maximise your sale price to this type of buyer, you will need to demonstrate the maximum potential.
This is why very large sums are paid for (e.g.) hi-tech start-ups that have never made a profit but have a strategic ‘runway’ for the buyer.
The Profit Savvy Re-double Your Profit in a Year (DP365) article (link to DP365 article) will help you with this because it is about focusing your business for future growth.
If you are selling to a new entrant to the industry, they are going to be more focused on the present profitability because that will help them cash-flow the purchase and/or act as collateral to borrow from the bank.
You can periodically run the Profit Savvy Double Your Profit in 100 Days (DP100) (link to DP100 article) program to scrape profit-slowing ‘barnacles’ off your business to maximise its profit.
This is usually when the business is passed to family members.
It can be a fraught process due to (e.g.);
- debate on what the incoming family members should pay. The seller considers it their retirement funding whereas the incoming family might consider it their birthright and not be willing to pay too much
- not all family members might want to work in the business on a day to day basis. And you might not want them to; the so called "too many cooks spoil the broth". Do the non-participants get brought out or do they get a dividend from the hard work of those staying in the business? Gender bias used to be a big issue here but thankfully is diminishing.
- what is the timing of the payments and what is the process if the transfer of ownership goes wrong.
For all these reasons, succession planning has its own professionals well worth consulting to facilitate the process. Both because you don't know when you might want to leave (say due to ill health) and because some times transfers have to be done over a long period of time, if you are going down this route, best to get started sooner rather than later.
This option is usually abbreviated to MBO. It means your existing senior manager(s) buy you out of the business.
They clearly know the business so can make informed decisions on its prospects and what they should pay.
If you are going down this route, there are specialist books you can consult for guidelines.
Irrespective of the reason that you are exiting your business, you are likely to get the best price for it if its profitability is as high as you can get it.
If you know that you are planning to leave your business, you could, for a comparatively short period of time, use our DP100 and DP365 techniques to get the business as profitable as you can.
This may seem rather like a sprint at the end of the marathon of running your business for several years, but, for a comparatively small amount of time and energy, you can get a considerably better price.
Also, several of the reasons given above can cause you to put your business on the market unexpectedly. So it makes sense to keep your business as profitably tuned as you can all of the time.
Perhaps a final quick sprint to get it as profitable as possible prior to selling. One can be mindful of the old Boy Scout motto "Be Prepared".
Other Issues to Consider
Selling the Shares or the Business Assets
As well as planning your exit from a profitability point of view, there will be a number of legal and tax issues that you may want to take into account, and prepare for, in advance of a planned or unplanned exit sale.
You may want to consider the legal structure of your business. A buyer will not want to buy an overly complicated legal structure and may choose to buy just the business assets and not the shares in the business.
If they buy the shares, they buy the business but also inherit any legal complications, tax implications and reputation of the company. They are generally not interested in picking up these problems.
In this eventuality, you will need to work out how to separate the parts so that this is possible.
Purchase and Sales Taxes
In some countries, the sale of the business incurs Stamp Duty, or a similar tax, imposed by the Government on the buyer of the business.
In some jurisdictions, if the buyer buys the shares of the business, rather than the operations of the business, they can avoid paying Stamp Duty. However, they will not want to buy the shares in a business that is overly complicated.
You may want to remove any attachments that will not be sold with the business or shares, well in advance of putting it on the market.
This could include personal vehicles, holiday homes and investment properties that are not going to transfer with the sale of the business.
In many jurisdictions there will be a Capital Gains Tax, or a similar tax, levied on the seller for the profits they make.
Unfortunately, if you have been successful in starting up your own business from zero, you will find that you are likely to end up paying a larger amount in Capital Gains Tax than if you had purchased your business.
The reason is that you pay the tax on the difference between the purchase price (which with a Start Up is zero) and the selling price.
Some advance planning using e.g. Trusts, might enable you to manage this situation.
Because it takes some time to do, you may want to start this type of planning well in advance of your potential sale.
There are specialist writers on the topic of selling businesses. If you are serious about selling, you should read some of these.
There is also an industry known as ‘business brokers’ who help to sell businesses.
They will charge a selling commission but their services and their industry contacts identifying potential buyers can be useful.
Due Diligence Periods
During your sale you will need to, as they say, "open the kimono" and show the buyer all the aspects of the business that they want to know.
This is rather a fraught time because you are allowing someone - who may be a competitor of yours - access to a lot of your business knowledge. Even though you may have a "non-disclosure agreement" that theoretically prevents them from taking this information away and giving it to third parties, in reality, this is very difficult to police.
You may be able to reduce the probability of stealing your Intellectual Property by only giving them access to some of the details of that property at the time of purchase. They can certainly know how well the Intellectual Property does its job but you can avoid them understanding exactly how it does its job.
There is a risk during the due diligence period they will see, and then steal, your customers and there is very little that you can do about that.
The due diligence period can be intentionally, and unnecessarily, prolonged to ‘starve you into submission’. They may try and lock you into an exclusivity deal where you cannot approach anyone else.
You should approach all of these types of issues with a great deal of caution. A good business broker can advise you.
Earn Out Clauses
In many jurisdictions, it is common to have "Earn Out Clauses".
This means that you get, perhaps, 75% of the money at the time of the sale and the other 25% of money comes over time if the business performs as well as you said it would.
The great difficulty with this is that you may not be there to run the business. Therefore, you have no control over whether the profitability that you said was possible might have been achieved if you continued to run it.
If your business is merged into another, it can be very hard to identify what is the profit from just your part of the business.
For this reason, many experienced Business Brokers say that you shouldn't plan on getting this final sum of money and if you do, that is an additional benefit.
Part of the Earn Out process may be that you are required to continue to work in the business. This is your call but you might keep in mind that the sorts of people who can start and run their own business don't necessarily work very well in harness for another, more senior, manager. The upside is that you can better monitor any “earn out” clause.
When to Tell the Staff
Deciding when to tell your staff is a very difficult timing issue.
If the staff become unsettled because they think they might lose their job, they start looking around for positions with more job security. You lose staff even though you haven't managed to sell the business.
This might be particularly the case if the operation buying you is physically located elsewhere and your workers think they might close the business and move customers to their other operation and make your local staff redundant.
You can consider offering retention incentives by way of so-called "Golden Handcuffs" that give them a bonus if they remain until the business is sold; and perhaps sometime after the sale while you are still in the Earn Out period.
There are a number of books that specialise in the sale of Small Businesses. If you are thinking of exiting in this way, you might want to start to read a few of them.
One of the well known writers is John Warrillow and his best known book is Built to Sell
Warrillow also does a popular Podcast with something in the order of 150 interviews with businesses of various sizes that have sold their business.
Listening to these Podcasts, while driving, can be informative if you are thinking of exiting.
Warrillow also has some online survey tools that you can quickly apply to your business to see where its strengths and weaknesses, from a sales point of view, might be. Visit http://www.builttosell.com/