As everyone who has ever tried to start their own company realizes, owning your own business isn’t just a job, it is an entire lifestyle built around a very important and fragile financial asset. When the time comes to think about the next chapter, employees can retire, but business owners need to orchestrate an exit that will not only serve their long-term financial needs, but also protect and preserve the critical relationships with employees, customers and suppliers they’ve built over many years of late nights, weekends and delayed family vacations.
Chances are you’ve built your business by creating and maintaining relationships with a core group of trusted professional advisors like your accountant, attorney, and a few key employees. You’ve carefully selected these trusted advisor relationships to fill in areas where your personal expertise and available time is inadequate to deliver the high-level results needed for the success you’ve been driven to achieve.
As you think about an exit from your business, following the same strategy of creating business relationships with a trusted professional advisor, is a logical path. This advisor will guide you through the process of selling your company by creating the buyer interest and competition needed to generate multiple offers.
Be wary of any advisor who thinks an immediate sale is always the best decision. This is self-serving advice as most decisions to sell are more nuanced and can benefit from a financial planning process, to determine if the likely, after-tax, cash from a sale will be enough to fund the next chapter in the current owner’s life. Sometimes the best decision can be to stay and continue growing the business in order to support a more comfortable retirement. Other times, a sale is needed quickly due to life circumstances. Only by understanding how the business fits into the context of the owner’s life can a proper decision be made.
The right advisor will work with your other trusted advisors to bring order and transparency to the decision making process. The decision to exit a privately owned business is a big one. Make sure this decision fits into the other key aspects of your lifestyle, and will look just as good 10 years in the future as it looks today.
Large Retainers Change the Incentives of Advisors
An advisor without retainer only earns the success fee by closing a transaction. Unlike advisors who charge retainers, and on average close only 20% of their opportunities, a typical no-retainer advisor closes over 75% of their deals.
Preparing a new opportunity for market is a time-consuming process, the success fee only advisor needs to be certain the final product will be attractive to the types of buyers he already knows how to attract. The lack of a retainer forces the advisor to be realistic in evaluating new opportunities, and will push the advisor allocate their time and attention accordingly.
Qualified Buyers Prefer Brokered Deals
Unlike the stock market and even eBay for used Pez dispensers, the lower middle market is an illiquid section of the M&A marketplace. With typical transaction sizes exceeding the SBA lending limits of $5m, the pool of potential buyers is limited. Most individuals are unable to assemble enough capital to complete a transaction.
Companies in the lower middle market are usually too small to draw the attention of the numerous private equity investors, many of which won’t consider companies with under $5m in EBITDA.
This leaves a select group of Private Equity Funds, Family Offices, and Search Funders as potential buyers of these companies. Most are looking to grow the business into a middle market size company, and achieve a profitable exit 5-7 years into the future. A few buyers also pursue a buy and hold strategy with the goal of growing the business to terminal size, and collecting distributions from the ongoing cash flow.
One reason the lower middle market is a tough sector is because both sustainable, growable businesses, and owner dependent businesses can exist within this range. To determine if the business being sold can transition to new ownership and continue to grow and prosper into the future is a time consuming process. The buyer will need to undertake extensive due diligence and analysis in order to differentiate the two.
In this frequently overlooked section of the market, buyers spend their time separating the truly successful, sustainable businesses, from the ones that succeeded due to the grit and persistence of a founder who can’t be replaced.
Few tasks waste as much time as an unmotivated seller or a business that is not properly prepared for analysis. With so many opportunities available, this limited pool of professional business buyers won’t wait around as the seller slowly prepares that necessary documents for proper evaluation. Being prepared for market is key for successfully selling a business and an area where an advisor can add significant value.
Brokers Know Real Transaction Values and Terms
Techniques to value business can be found everywhere — from the advice of online motivational speakers — to books, websites and videos detailing “how this one public company bought a startup for 100 times revenue.” Don’t be misled by all the hype and misinformation. Most of these sources are just telling you a fantasy story in the hope you buy their book or attend their conference. They are not actually promising to find a buyer for your company at these types of multiples.
Developing a valuation on a lower middle market company is part art and part science. Brokers have access to actual past transactions, and can generate valuations based on actual deals that were closed of companies of both your size and industry. They are in touch with buyers on a regular basis and know what is currently being paid for similar companies.
It is important to bring the business to market at standard valuation multiples. These realistic and reasonable asking prices will attract the most reasonable and realistic buyers. Buyers that have committed capital, also have access to the same databases of past transactions as your advisor. These buyers have a deep understanding of both the macro and company specific market, and can’t be convinced to drastically overpay for blue sky promises of future growth that haven’t yet materialized on the current financial statements. Buyers will pay for your achievements with cash. They transfer the risk of your promises of potential with earnouts.
Once these buyers are engaged, the real work begins developing the relationships and creating the competition that will ultimately drive up the offers and get a deal to close . This is a far superior approach to an out of market valuation. The dramatically over priced opportunities will mostly attract unfunded amateur buyers who, after great promises and consuming countless hours of the seller’s time preparing documents, will prove to be unable to bring a transaction through to closing.
Brokers can remove uncertainty from the process
All deals involve a level of uncertainty and stress. You typically won’t know your buyer until you go to market and start meeting the various strangers interested in your company. Engaging in a transaction with a stranger creates stress and uncertainty. An experienced broker will work with your attorney and accountant to help remove risk from the transaction documentation, but also work with the various parties to unlock stalemates during the negotiation process. Being able to navigate conflict and disagreements is a key skillset in a successful advisor to enable deals to close.
Most business owners will only complete the sale of a single company during their entire career, while lower middle market business buyers will typically close on 2-3 transactions per year. Trusted brokers help level this playing field in order to bring the parties together to get a deal to close.
David Jacobs (DRE:02097583)
Link Business – Silicon Valley
About David Jacobs
David is a licensed California business broker with a focus on Software, Software Enabled and B2B Service companies in the Lower Middle Market. His services cover the entire process of preparing an exit plan all the way through closing and transfer of funds. He’ll be with you and your trusted advisors on every step of the journey.