How to Make Your Business More Valuable to Buyers
Dick Gregerson presented this speech to the Manhattan Beach Chamber of Commerce in April 2012
I am Dick Gregerson, President of Janas Associates. We are an investment banking and management consulting firm. Over the past 15 years, we have helped hundreds of family owned businesses grow, prosper and sell. In that process I have met with hundreds of potential buyers. I know what they are looking for and what kinds of things scare them off. Most look at a lot of businesses before they buy, because let’s face it … no business is perfect.
Every business has issues—and businesses with serious issues get sold every day. And some really great businesses go begging for a buyer.
I would venture to say that everyone here has a successful business. You have customers and clients that trust and value your products and services. You have established a reputation for your expertise. Obviously you have survived start-up and now enjoy a level of success and income. But just because your business is a success does not mean that your business will automatically be seen as being worth buying to a potential acquirer. Because when it comes to acquisitions, size matters.
Now I’m going to quote some statistics from 2005, which was a good year for selling companies, but not the very best.
In regards to size, if your company has more than 500 employees you have few worries. In 2005, 100% of those larger firms that were put on the market sold.
For companies with between 100 to 500 employees, only half sold.
Those with 20 to 100 employees, only one in three sold. And under 20 employees, only one in five sold.
Why does size matter? Buying a business is not at all like buying real estate. In real estate the property is tangible. You can inspect all of the aspects of the building, tour the neighborhood and get comps. At closing, you can feel pretty sure that what you thought you were buying is what you got.
By contrast the most important part of a business is intangible—even for manufacturers and certainly for service businesses. Businesses are made up of relationships with customers and vendors, knowledge of how to solve problems and deliver product, management who can make good decisions, a company culture that inspires a way of doing things and systems of accountability that correct problems. In bigger companies, these things are easier to see and document. Hundreds of employees in dozens of divisions with all kinds of established procedures are pretty convincing.
In smaller companies, most all of these functions are handled by the owner and one or two trusted associates. To the owner there is nothing intangible about the business. In fact it may be the owner’s whole life. You socialize with clients and vendors, manage every aspect of the business, and make the hard decisions. How could it be more real? Heck, it is your life.
Buyers tend to be a suspicious lot. Their first question is always, why are you selling? What’s wrong with the business? To an outsider, your business could be smoke and mirrors. They worry that when the owner leaves, so will customers, key employees and the special knowledge that made the business a success. In short, the business owner is too important to the business for it to survive under new ownership. I’ll give an example of a recent Janas deal.
Two engineers were given an opportunity to buy out a manufacturing department at a large automotive airbag manufacturer. Their old employer, who was moving from analog to digital technologies, promised to purchase analog parts from the engineers company for as long as they needed them. Orders steadily declined and after several years, they had virtually ceased. However, in the mean time, the engineers had found new customers to more than replace the lost volume.
When they felt they had reached their goals they engaged Janas in 2007 to sell their business and move on to new challenges. With signs of a weakening economy, every offer was too low and each required them to stay on for 3 years to get paid out. Every buyer worried that the owners were too important to the newly-won customer relationships. Janas suggested that they take the company off the market and hire a recent engineering college grad to be their understudy and take over sales. This would make the owners less important to the continuation of the business. Two years later we sold their company for 45% more than the earlier offers. Better yet, the deal was all cash with no earn out, and they only had to stay on for 6 months.
So sometimes you don’t have to be a big company to sell. You just need to address the buyer’s concern that your business will continue to be successful after the transaction.
What can you do to make sure that your business is that one in three companies with 20 to 99 employees that found a buyer or the one in five with less than 20 employees that sold? Let’s look at who that specific buyer might be.
Statistics show, that for companies with less than 20 employees that about 60% are sold to individuals or small companies already in your industry. Actually it’s kind of surprising that 40% of buyers have no prior experience in your business.
And how did these buyers pay for the businesses? In general, about 40% paid cash, made up of their own savings and an SBA loan. New SBA rules require that buyers have years of experience in your industry and in managing a business so this percentage may be overstated for today’s tight banking guidelines. So selling to someone in your industry is now more important than ever.
In the other 60% of deals, the buyers paid a cash down payment and provided a note promising to pay you over several years. The lesson is that you are likely to get more cash from someone in your industry than one of the 40% who have no direct experience.
In planning to sell your business, first take a look at your industry. When we are engaged to sell a business, Janas researches what companies in that industry are selling and who are the buyers. We ask buyers why they purchased a particular company and what kinds of qualities are they looking for in future acquisitions. When possible we ask sellers what they thought really sold the buyer on doing the deal. Analyzing who your likely buyer will be will help you figure out how you might change things to make your business more attractive for sale.
And before you put it on the market you need to realistically assess what kind of value you might get for all of your efforts. Conventional wisdom says that some types of businesses never sell. For instance, small contracting firms rarely sell and when they do they typically sell for little more than a year’s worth of income. But outright sale isn’t your only option.
Five years ago a contractor came to me wanting to sell. He had remarried and had a second set of kids. He felt like he had missed out on his first son’s life by working too much. I appraised his business which had a low value—less than two year’s earnings. But in the process I found out that he had a really good number two guy.
I recommended that he give stock to his number two guy and gradually cut back on his own time at work. Within a year the contractor was making 70% of his former salary but only having to show up a day or two per month. He coached his second son’s basketball team and his daughter’s soccer team, and generally became more involved in home life. In the meantime his number two guy was promoted to partner. Now he was the one working late and worrying about growing the business.
The contractor recently told me that his last 5 years with his kids were the best in his life. And to date, he has made twice as much money as he would have selling. Sometimes owning on your own terms is the best solution.
So here is my check list for getting your business ready for sale:
- Define your goals. How long do you want to work and what do you need to retire? Expect that it could take a year to sell and on top of that most buyers will want you around working for a year full time and part time thereafter. Others might require as much as three years full time.
- Change your mind set. Try to imagine your business as a product that you are selling to your target audience, your probable buyers. What needs to change to make buying your company both more exciting and less risky?
- Identify your probable buyers and track what companies are selling in your industry.
- Remember, bigger is better. If you need to be bigger to sell, think about merging with a similar company—or several–to become more attractive to buyers, if you have the time and skill to manage a larger organization.
For instance, a few years ago we were hired by two companies that specialize in emergency repairs of boats and oil rigs. I learned from my client that larger boats and oil rigs don’t use anchors. They use GPS and have motors that keep them stationary. When those motors break they either go to dry dock or they hire divers who have developed technology to fix them in the water. Of course a drifting boat or oil rig was always an emergency job.
These diver businesses are small businesses with very irregular schedules—lots of talent sitting around waiting for the next emergency. Four diver companies formed an alliance in which they shared personnel and equipment. Janas and their attorney both suggested that if they were ever to sell they should merge together. Individually the businesses would sell for a low price or would not sell at all if the owners wanted to retire.
But combined, they could go from “a small company providing skilled diving services” to becoming a global customer service solution making them worth considerably more..
In conclusion, I want you to walk away today with the thought that selling your business is like any other new product introduction. In this case, the product is your business. It takes imagination and research to figure out what a buyer might be looking for. It takes a solid plan and focus to make the changes to your business to make it more attractive. But don’t worry. You’ve already done the hard part—you’ve already created a successful business. And with a little more work you can make yours the business that a buyer just can’t live without.