Spring Cleaning

By John Herubin,
Managing Director

The Benefits of Disposing of Idle Assets Prior to Selling Your Business

I felt the annual urge to spring clean around our home. “Stuff” had slowly accumulated in the basement, garage, attic and yard as the winter months rolled by and it’s time to clean up and get ready to enjoy the much too short spring and summer season. My wife and I will “discuss” which items to keep and rearrange, and identify those that have lost their intended usefulness and must be discarded. Invariably, items remain from year to year that we disagree about, one of us lobbying to keep them for sentimental or other reasons (i.e., that seldom-if-ever used garden tool that looked really cool when our neighbor bought one, or our son’s rusting bike he rode at age nine even though he’s currently 6’6” and in college).

This spring cleaning discussion intensifies when done in anticipation of selling a house. Often the result is a garage sale (or trip to the scrap/recycling yard) to unclutter the home and make it more presentable and attractive to potential buyers. These buyers usually don’t see the sentimentality of such items or the value in purchasing them.

This home analogy also applies to owners contemplating a sale of their business. We advise many companies in preparation for sale to literally walk through their offices and facilities and look for assets that may not be useful to a future owner, or are not currently in use or necessary to operate the business. In essence - a pre-sale spring cleanup. Examples of these items include nonfunctioning machinery and equipment, obsolete or slow moving inventory, and on premise personal/hobby and sentimental items. In some instances, the presence of these items may be detrimental to the company’s value, and the Seller will not get full value for these items once the business is acquired.

Business Spring Cleaning Items:

• Non-functioning / Seldom-Used Machinery and Equipment – Many entrepreneurs are by nature resourceful and innovative. Their mentality is to avoid waste and minimize costs by reusing and recycling parts from old machinery. We encounter sections or corners of many manufacturing facilities that are congested with old equipment and machinery (and some real museum pieces). Not all of it is for spare parts; some is occasionally used to create a specific item for a specific customer, but sits idle otherwise. The presale planning process requires owners to assess whether such occasional process or part creation can be more effectively outsourced, thus creating more factory room for a potential buyer to expand and grow the business internally. We often recommend that unused machinery be sold at liquidation value or scrapped for salvage value to recover this additional floor space. The same can be said for onsite vehicles, trucks, forklifts, carts, racking, and barrels. By disposing of these items the current owner turns unused assets into cash without affecting the purchase price.
• Obsolete and Slow-Moving Inventory – Because of favorable pricing on raw materials, or in anticipation of a particular use, many entrepreneurs make bulk raw material purchases. The raw materials may be used in production of a specific part for a particular customer, and, depending on how the contract is structured, the owner may produce more parts than are ultimately ordered or purchased. In this situation the owner is “stuck” with excess raw materials or inventory. While these raw materials are sometimes reused on other projects if not unique to a special project, the parts made from that inventory may have a limited use. The owner may hold on to the parts hoping the customer will purchase more in the future, but that need is not certain. Other times inventory is created in anticipation of sporadic or undetermined future needs. This situation results in obsolete or slow-moving inventory, which can sit in facilities taking up valuable space and imposing carrying costs (i.e. rent, insurance, financing, overhead). This inventory problem is the subject of many discussions with buyers that don’t see the inventory’s value as part of an acquisition of the business. It can also negatively impact seller’s working capital calculations, which are part of many purchase agreements. We recommend that sellers seriously evaluate the likelihood of eventually selling the inventory versus selling it for scrap or at a reduced value. Again, selling it may result in additional cash, a cleaner facility (and balance sheet), reduced carrying costs, and avoidance of a potential valuation reduction.
• Personal/Hobby and Sentimental Items - We advise numerous multi-generation businesses and have witnessed over the years how personal and sentimental items appear and remain in offices and facilities. Before a sale, these businesses must identify items that are present simply for sentimental value or the owner’s convenience or enjoyment.

If a purchaser proposes a stock purchase, all the assets of the company will transfer unless specifically excluded. Even in an asset purchase structure, buyers normally include all of the items in the facilities unless otherwise excepted. Examples include the 75-year-old desk being used by the founding owner’s grandson, various plaques and awards accumulated by the company over the years, family pictures and paintings, a restored classic 1955 Chevy used as an advertising vehicle, and an extensive and expensive sports memorabilia collection located in the business lobby. We have encountered fathers whose business accommodates manufacturing, supplying, and funding a racing team for his salesman son (company logo on the car). The selling owner must identify these items and work with advisors to verify whether they will or will not be necessary or valuable as part of the business under new ownership. Putting a value on sentimental items is difficult at best, and often impossible. It’s best to determine how these items will be treated well in advance of discussions with a purchaser.

Performing this cleanup function may add to the business’ “curb appeal,” avoid conflicts over nonessential items, put additional cash in the sellers’ pockets, and improve the prospect of a successful sale process. Much like the unused garden tool in my garage, converting nonproductive assets to cash is never a bad thing.

(Note: Goodyear recently sold at auction a set of four stuffed squirrels in classic 19th century boxing poses for $70,000).

© Copyrighted by EdgePoint. John Herubin can be reached at 216-342-5865 or via email at jherubin@edgepoint.com.