Selling your company

Posted by Kathleen Fasanella on Nov 23, 2005 at 8:41 am / Small Business / Trackback

In a similar vein as Are you a target pt 2 comes one man’s adventure in buying an existing concern. If you should find you’d like to become acquired, Buying a company is required reading, for example:

To this cash flow, owners and brokers will apply a multiple to arrive at a sales price. These multiples usually range from 3 to 6 times the annual cash flow to owners. So, if a company has a cash flow to owners of $100,000, they might try to sell it for anything from $300,000 to $600,000. Note that many large companies can pay 8 or 10 or even more times cash flow when they acquire companies. When you buy stocks in the stock market, you might be paying 15 or 20 times cash flow.

This makes small companies potentially attractive acquisitions. But there is a reason for the low multiples. Much more can go wrong with small companies, and small companies are much more likely to have hidden problems, falsified financial statements, etc. Companies without much performance history and dodgy accounting statements will trade at the low end, while companies with very clean financials and solid performance history will trade at the higher end.

Of most particular importance to you as the seller -substantiating the value of your company- are items 2-5 of part two in the series:

2. Are there any hidden liabilities, like lawsuits, unpaid debts, aging equipment that needs to be replaced, pensions, etc.
3. Are there any looming business problems or opportunities that could radically change the company’s performance in the future. For example, if you are buying a small hardware store, the fact that they are planning to build a Home Depot around the corner might make a difference. Or, if the business depends on low cost labor, a looming hike in the minimum wage may be significant
4. Can the business survive without the previous owners, or does it depend on their unique skills and/or relationships
5. Does the business make sense to you? Is the customer base strong and growing? Do they have a good plan for staying ahead of competitors?

The author reiterates the importance of these elements saying

Questions 2-5 have to be answered by you. You need to question everything and everybody. You need to inspect all the facilities. Do not rely on others – its is your money. You need to have confidence that there are no surprises. When you and your attorney write the legal documents, you can protect yourself on some of this stuff but not all!

…to which I’d add -as someone who has analyzed the value of DE (designer-entrepreneur) companies-, I am continually amazed that buyers dramatically underestimate the value of production tooling (e.g. patterns) to say nothing of a company’s internal production system infrastructure. By that I mean that if your product development processes are not in flow and continually improving (better known in lean circles as Kaizen), you’re in a poor position to transfer the need of such to the new owners. Similarly, item #4 brings to bear one of the things I discussed in Are you a target pt2 in that it is likely (and desirable) that the new owner will require your continued participation in the venture for a period of time. Likewise, just because somebody buys a design company doesn’t mean they can actually pick up where you left off which is significant when considering item #5 as you’ve established a particular niche with existing clients. If someone who acquires you assumes the design function, it is entirely possible their differing vision could alienate existing customers in very short order resulting in after-the-transaction acrimony and buyer’s remorse. It is critical that a buyer understand the unique properties specific to design manufacturing companies. As the seller, it’s incumbent upon you to emphasize these challenges. All the more reason for you to remain involved for a period of transition.

The third article of the series emphasizes the buyer’s hurdles in financing the acquisition of your company. In my opinion, although anecdotal, this series is very educational and a must read for anyone considering the sale of their company. Likewise, I’d think a wise entrepreneur should organize their structure from the get-go to facilitate the eventuality of a potential sale. On an unrelated note, Kate G. -the wife of the author of this series- recently won the Arizona Rising Star Fashion Award which is how I found this business buying series in the first place. I just love the circuitousness of the web, don’t you? And thanks to Eric for pointing it out in the first place.

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