7 tips on business sales

Seven Planning Tips for Selling Your

BusinessHow to Avoid Potential Traps, Pitfalls and

Heartache of Selling Your Business

© John Caughell All Rights Reserved

About Today’s Speakers and Sponsors• Currie & McLain CPA’s• John Caughell

• Find out more about us on the web

• www.currie-mclain.com


http://www.currie-mclain.com/

Objectives and Goals of Today’s Presentation

• Identify the most common ways businesses are sold• Understand types of buyers and their different motivations• Understand valuation terminology• Learn how to prepare your business for sale


The Ugly Truth About Small Business Sales

• It takes 6 to 18 months to sell a business• It takes 15 to 20 inquiries before you find a solid prospective buyer• According to Tom West, a business with fewer than 10 employees

has an 80% chance of not being able to be sold• Most small businesses are completely reliant on the owner• No Owner – No business

• The Ability to run a business is not genetically transferrable


Business Sale Basics• Two Primary Ways to Sell Your Business• Stock (Equity) Sale• Asset Sale

• Most Small Business Sales to Outsiders are Asset Sales• Buyer gets to record purchase at new values• Records Goodwill for purchase premium• Depreciation and amortization of new values and goodwill

• Buyers avoid potential liability from old operations• Eliminates headache of past business acts• Reduces due diligence costs


Business Sale Basics• Two Primary Ways to Sell Your Business• Stock (Equity) Sale• Asset Sale

• Most Small Business Sales to Insiders are Equity Sales• Business redeems equity of retiring owner• No goodwill• Book values remain the same, so no depreciation benefit

• Buyers keeps potential liability from old operations• Understand the business well so risk is potentially limited• Key employees can work through issues with customers


Business Sale Basics

• Business Sales by C Corporation• Sale of Stock in the Company (Redemption or sale to others)

• Seller• Capital Gain Treatment for consideration received

• Buyer• No new valuation of assets for retiring the stock

• Sale of Assets to New Buyer• Seller

• Typically taxed as ordinary income• Assets are then distributed to shareholders and taxed as dividend received• The Dreaded Double Taxation

• Buyer• New valuation of assets purchased• Depreciation and amortization © John Caughell All Rights Reserved

Business Sale Basics

• Business Sales by S Corporations• Sale of Shares

• Seller• Capital Gain Treatment for consideration received

• Buyer• No new valuation of assets for retiring the stock

• Sale of Assets• Seller

• Gain passed through to Shareholders no corporate level tax• Buyer

• New valuation of assets for purchasing assets and goodwill © John Caughell All Rights Reserved

Seven Planning Tips

• Decide on when you want to sell• Determine who might be the best buyer for your business• Understand how buyers might value your business• Put Key Employees in Positions of Authority• Ensure your accounting records are continuously up-to-date• Remove excess cash and other assets from the business• Consider adding bank debt

• Bonus Tip: Always focus on improving cash flow/profitability


Tip 1 – Decide on Timing

• Plan 3-5 Years in Advance• Focus on improving market share/profitability/key performance indicators• Eliminate unnecessary assets• Hire and train key employees

• Rushed Sales – under 2 years – are stressful• Insufficient time to hire and train• Asset distributions can drive up taxes• Employees likely lack effective training


Tip 2 – Think about Ideal Buyer• Types of Buyers• Strategic

• Local Competitor• Local Customer• Supplier• Competitor from outside looking to break into your area

• Financial• Family – especially kids working in the business• Management Buy-out• Investor looking for a job

• One is not better than another, but important to know ideal buyer


Tip 2 – Think about Ideal Buyer

• Real Life Story• Client decided to sell to son• Son had never made sales calls• Dad took off for Europe for 3 months• Business failed to make payments to dad


Tip 3 – Think about Buyer Valuation• Know your business• Asset Based Business• Equipment Intensive• Inventory is a substantial investment• Real Estate

• Revenue Based Business• Service is Primary Revenue• Low investment in assets


Tip 3 – Think About Buyer Valuation• Asset Based Business• Asset Appraisal• Industry Rule of Thumb

• Revenue Based Business• Multiple of Revenue• Multiple of Net Cash Flow• Multiple of Discretionary Cash Flow• Industry Rule of Thumb

• Most Businesses are Revenue Based• Therefore, Focus on Revenues and Profits!


Tip 3 – Think About Buyer Valuation• Real Life Story• Client was a service business with inventory and trucks• Company generated $5.0MM in revenues and had $1.0MM in

inventory and assets• His largest customer was interested in buying the business

• Offered appraised value for the equipment and cost plus 10% for the inventory• Offered about $750K

• Multiple of cash flow valued business at $2.0MM


Tip 4 – Get Key Employees Making Decisions

• Owner as sole decision maker is a hindrance to a sale• Customer loyalty is to owner, not business• Buyer has to create the organization once you are gone• You need to take more vacations

• Hire dependable professionals to manage key spots• Production• Sales

• Remember, goal is to sell the business so…• Family may not be best choice to fill those positions


Tip 4 – Get Key Employees Making Decisions• Real Life Story

• Company was owned by two people 10 years age difference• Older owner got sick and wanted to retire• Owners had a buy-sell agreement• Valuation formula to come up to agreed-upon buyout price

• Retiring owner didn’t like the price formula – felt it was too low• Hired a valuation firm which valued the business even lower• No key people 80% of customers were controlled by younger owner


Tip 5 – Keep your Accounting Records Clean

• Buyers have the right to review your books and records• This is called Due Diligence• Your accounting system is your business scorecard, make it easy to follow

• You want to ensure that there are no major issues in your accounting• Bank accounts are reconciled• Uncollectible accounts receivable are written-off• Assets that do not exist are adjusted for Property and Equipment Account• Non-productive assets are disposed or sold• Liabilities are stated at their appropriate balances• Clean up unnecessary or duplicate accounts © John Caughell All Rights Reserved

Tip 5 – Keep your Accounting Records Clean

• Real Life Story• Client (buyer) interested in a business opportunity• Target (seller) did not have any accounting records• Only had tax returns which were produced from excel spreadsheets• Could be backed up with bank statements

• Buyer paid for “Additional Procedures” to determine actual cash flows• Required seller to reimburse for the costs


Tip 6 – Remove Excess Cash and Toys• Excess Cash is• Cash balances in excess of working capital needs• Greater than your accounts receivable balance• Generating interest

• Toys• Anything on books that does not help generate revenues• Cars• Vacation Homes

• Distribute these to the owners• Potential for tax impact• Sorry, but it is going to happen sooner or later © John Caughell All Rights Reserved

Tip 6 – Remove Excess Cash and Toys• Real Life Story• Company had rental properties and wave runners• Used for management retreats• “Team building exercises”

• First good buyer walked away from the deal • Felt the Company played too much and price was excessive

• Removed all the “non-productive assets”• 2nd buyer offered 5% more and closed the deal


Tip 7 – Add Bank Debt

• Bank Debt can Show Business is Credit Worthy• How to add effectively• Purchase new necessary equipment• Add/increase line of credit facility

• Keep leverage reasonable• Finance 70 to 80 percent of purchase if necessary• Do not prepay or accelerate payments


Bonus – Focus on Profits and Cash Flows

• Profitable businesses sell better• Discretionary Cash Flow (DCF) is typically the beginning point of value• DCF is

• Profits before tax plus• Owner Compensation• Interest• Depreciation and Amortization

• Pay yourself adequately, especially if you are profitable• Reasonable debt and new assets do not hurt valuation


ExamplePre Cleanup Post Cleanup

AssetsCash 250,000 50,000 A/ R 100,000 100,000 Inventory 150,000 150,000 Current Assets 500,000 300,000 Equipment 500,000 500,000 Toys 350,000 - Less A/ D (300,000) (300,000) Total Assets 1,050,000 500,000

LiabilitiesA/ P 100,000 100,000 Accruals 50,000 50,000 Current Liabilities 150,000 150,000 Line of Credit - 200,000 Equity 900,000 150,000

Pre Cleanup Post CleanupRevenues 6,000,000 6,000,000 COGS 4,000,000 4,000,000 Gross Profit 2,000,000 2,000,000 Operating Expenses 1,950,000 1,960,000 Income tax on Operating profit (17,500) (14,000) Net Profit (GAAP) 32,500 26,000 Discretionary ExpensesIncome Tax 17,500 14,000 Officer Compensation 750,000 750,000 Officer Auto Allowance 25,000 25,000 Interest - 10,000 Depreciation 25,000 25,000 Profit Sharing 150,000 150,000 Tax Effect of Discretionary Expenses - - Net DCF 1,000,000 1,000,000

Pre Cleanup Post CleanupCurrent Ratio 3.333 2.000 Return on Gross Assets 2.41% 3.25%Return on Net Assets 3.10% 5.20%Return on Investment 3.61% 17.33%

Valuation multiplier of 5 5Value on Net profit 162,500 130,000 Value on Discretionary Cash Flow 5,000,000 5,000,000

Pre Clean up – shows adequate returnsPost Clean up – shows higher returns

Same End Valuation but better presentation


7 tips on business sales

Small Business & Entrepreneurship