Aligning the Stars for Exit- What Turns Buyers On?
By Russ Warren,
Oddly, many a business owner carefully planning a plant expansion or new sales initiative thinks little about meaningfully preparing for perhaps his or her most important project—selling the business at the highest price and on the best terms.
This article, based on experience advising hundreds of owners on the sale of middle-market businesses with sales of $10-100 million, should give you a handle on the process to achieve that goal.
Three Stars need to align for a ”successful exit.” Think: What’s really important to you?
Macro Star – Overall conditions in the hands of others: world markets, the U.S. economy, and industry conditions. M&A pricing markets fluctuate with macro factors: supply of and demand for sellers, financing availability and economic outlook. In April 2015,Macro Staris about as good as it gets, with historically-low interest rates and capital gains taxes. Private equity buyers are eager to deploy cash and lenders are equally eager to deploy capital as they actively pursue opportunities.
Business Star – Attributes you can control or influence (a main focus of this article).
Owner Star – Includes controllable events (e.g., retirement, estate planning, and pursuit of other interests) and noncontrollable concerns (e.g., health issues) of the owner(s). Controllable events can be aligned with Macro Star and Business Star. To some extent, the impact of noncontrollable events can be tempered by planning techniques like leveraged refinancing.
Let’s look at Business Star, and what turns buyers on.
To sell your business for the highest price and on the best terms, you need to optimize and communicate the attributes that buyers are willing to pay a premium for, including:
Corporate Clarity – A business they can understand, and a business model that says “sustainable competitive advantage.”
- Can you state the essence of your business in a sentence?
- Have you clearly defined your target customer groups and the value proposition your business offers them?
- What is your competitive advantage? Is it sustainable?
- How do your financial results compare with peer companies? Do you benchmark against industry data?
Profitability – Operating profit as a percent of sales and as return on investment (equity). To earn a premium multiple for your size and type of company, buyers want to see an EBITDA margin (adjusted for owner-discretionary expenses) above industry peers.
Predictability – The ability to credibly predict EBITDA (gross cash flow) and operating profit, and the absence of financial surprises.
- How far ahead can you see into your revenue stream? How could you improve predictability?
- How dependent is your business on one or a few customers, suppliers or employees?
- How variable were your revenues in 2008-10? Have you made changes since then?
- Do you have pricing power? Have you challenged your pricing policies recently?
- What is changing in the competitive landscape? Do you have a plan to deal with that change?
Growth – Steadily increasing EBITDA and profits over a normal planning horizon (e.g., five years).
- Have you demonstrated growth in the last five years? Do you havecrediblesales growth projections?
- Do you understand your addressable markets? Do you have a plan to add geography, customer groups, or new products? Have you made or targeted strategic acquisitions?
- Is your business scalable?
Financial acquirers will pay for clarity, profitability, predictability and growth.
Strategic acquirers (typically larger companies in your market space) are attracted specifically to things like your intellectual property, reputation or key talent, but they value clarity, profitability, predictability and growth viewed through the lens of “what can we do with the combined business – how much can your business add to our value?”
Getting to alignment – Embarking on the exit planning journey
A well-run sale process normally takes six to nine months from engaging an investment bank until closing. But thinking of how to align those stars … ah, that could take a few months or a few years.
First, clearly define a successful exit – what you want from the event. Certainly, a full, fair price is important – but what else?
- A customized role for yourself after closing?
- Protecting key employees or family in the business?
- Protecting the business’ reputation and service customer levels?
Second, know what your business is worth today, and what after-tax proceeds you expect from a transaction, to see if your personal, family and philanthropic objectives will be met.
Business valuations come in all stripes.For exit planning, you need the amount a willing buyer will pay if the business is offered in a professionally run auction process to an appropriate number of selected buyers. A valuation computes enterprise value (equity plus outstanding debt). In a transaction closing, the owner(s) pay off the debt and keep the cash. Your tax advisor can then compute your expected proceeds, based on enterprise value.
Competition creates value.Surprising to most owners, private-equity firms today may pay more than strategic acquirers. A competitive process generates the highest price, best terms, and greatest certainty of close. The remaining variable is timing. Is time your friend or foe, and what is the risk that your Macro Star will plunge out of alignment at the worst time? Think: Murphy’s Law.
Finally, decide on a start date and assemble your exit advisory team. Working with an attorney with M&A transaction experience can shorten the process and increase your certainty of close. A Tax Advisor, your CPA and any specialists needed to burnish the Business Star or align the Personal Star also have valuable roles to play. The investment banker acts as advisor and quarterback until closing, to keep the process on track. He or she drafts the marketing materials, identifies dozens to a few hundred buyers with a clear reason to own your business, handles communications, and negotiates issues with buyers. Once you have all the stars in alignment, you’re ready to begin the sale process.