HK CORPORATE FINANCE
Key Issues on Sale of a Business
There are any number of reasons why vendors want to sell their businesses: retirement being one of the more common. Potential buyers include the next generation of the family, existing management, competitors and other outsiders to the business. Value tip: Rags to riches to rags – the success of intergenerational succession plans is dismally small. Do you really want to put the success of your retirement in the hands of your adult children, assuming they cannot pay cash for the business on sale?
There are any number of issues to be dealt with when selling a business, not the least of which include the following:
Stress of the sale process
Selling a business, even with the help of a trained professional can be a stressful and time consuming process. For many SME owners the largest part of their net worth is tied up in the business. Many are emotionally attached to their "baby". Throughout the selling process, which can take 5 to 8 months, the business must maintain top performance and for the most part key employees are not aware of the sale process. Value tip: The easiest thing to agree on is the selling price. It is the terms and conditions that are more difficult to agree upon.
Confidentiality
In the sale process the owner ultimately has to reveal the inner secrets of the business to one or more potential buyers. A process is required to protect the customer base and key employees from being lured away by "prospective" buyers and to remove the tire kickers. Initially, expressions of interest are sought from a low disclosure "Teaser" document, issued by the vendor. For those who are chosen to proceed, a non-disclosure agreement is a must and provides some of the protection sought after. Value tip: Timing of release of sensitive information should be delayed as long as possible. The hiring away of sales staff, who hold the key sales relationships, may in some cases avoid the need to buy the business.
Purchaser Prospecting
The profile of the most likely purchaser will influence the price ultimately obtained for the business. The most likely buyer could be the management group, a financial buyer, an industry buyer, or a foreign public company, all of whom have differing reasons for buying and can and will pay differing prices for the business.
Value tip: The management group may recognise higher value in the business than non-synergistic buyers because they understand the risks of the business better. However they are often less willing to pay for goodwill because they believe that, in part, they created the goodwill.
Pricing of business
The owner needs to set a realistic target sales price for the business, supported by realistic estimates of future cash flows. The quantum of goodwill needs to be supportable and its payback realistic.
Value tip: Generally vendors see greater value in the business than the buyers because they live with the risks of the business on a daily basis and therefore understand and are more comfortable with the risk profile.
Transaction Structuring
The assets not related to the operations may need to be stripped out of the business prior to sale. If the purchaser is uncomfortable with the quantum of goodwill it may well be that they will require an earn-out, with some of the goodwill be paid out of profits of the business over time as it is earned. The purchaser will want to protect the value of the goodwill purchased by having the vendor sign a restraint of trade agreement.
A printing company was sold to multi-national buyer. The printing company had recently spent significant sums on new presses, which were not currently fully utilised, but the vendor's projections indicated they would be inside of 3 years. The sale was constructed in two parts – the first 50% for a 4 times EBIT multiple of current EBIT and the second 50% to occur at the end of year 3 for 4 times EBIT of year 3. The seller got certainty of a deal, got to participate in the growth and the buyer lowered his risk. The year three projection was met and everybody went away happy.
Earnouts can take a variety of forms and are generally fraught with problems. Value Tip: Discounts are applicable to a clean all cash purchase price.
Tax
The balance sheet may need to be cleaned up and restructured prior to sale. The impact of imputation credits, if any, will need to be reviewed. The price range set will need to be considered if the sale is by way of assets or shares and the differing tax impact.
Vendor Financing
Pay little, pay late is the purchaser's mantra. Pay as little cash as possible. Defer the risk and payment of the full purchase price for as long as possible. If this turns out to be the case, issues such as the requisite security for payment of the outstanding purchase price and control over the business become major issues.
Buyers expect and get discounts for cash. Ask many of the dot.com multi millionaires what their shares in public companies received on the sale of their private companies are worth today. A number of these vendors have seen a (say) $90 million share payout, subject to a two year holding period, worth only $2 million or less at the end of the holding period.
Transition / continuity
Many buyers of private companies want to the seller to stay with the business in a management / consulting role for a number of year(s). The buyers find it useful for continuity with key customers and suppliers and feel it lowers the risk of goodwill evaporation.
Value tip: It's a far cry from being in control to being told what to do in "your" business post sale. Most sellers are gone within 12 months.
