A Mindset Tune-Up for a Profitable Exit Strategy
After pouring years of hard work to create and build a successful business, you earned the right to sell it so that you can move on to new pursuits. Maybe even a well-deserved retirement in Maui.
But selling a company is not the same as selling your products or services. Some of the lessons that you learned in business will serve you well, but you need to plan and make decisions based on a different perspective.
Planning a business sale does not require a full paradigm shift in the thinking that contributed to its past success. Until you hand the reins of your company over to a new owner, you have a responsibility to keep it in good shape. However, when you decide to sell, you need to tweak your thinking to ensure that you retain or add value to your business. It makes sense to start talks early with your accountant and trusted business finance professionals to strategize specifically about what you can do to help get maximum valuation for your company.
Here’s a four-point tune-up of your thinking that can help you attract buyers and move toward a profitable deal:
1. Do not stop planning for the future of your business.
The importance of long-term planning is one of the first lessons students learn in business classes. All too often, business owners become near-sighted when they put up the “for sale” sign. It’s tempting to try to protect the value of your business by making short-term decisions in reaction to economic conditions and other issues. But short-term thinking averts focus from the things that created a profitable business in the past -- and an attractive opportunity that buyers will be willing to pay for.
You still need a three- to five-year strategic plan, even if you plan to sell your business within the next year. Long-term planning can help you identify pre-sale opportunities and issues. And it makes a notable difference when delivering your sales pitch. When you can share an impressive long-term vision with prospective buyers, they see opportunities for their own future growth.
The more potential they foresee, the more value they are likely to place on the business when extending an offer to you.
2. Think hard before making major investments.
If you plan to sell your car, you clean it thoroughly, inside and out. You might even consider popping out the most serious dings on the body. But you would never pay for an expensive paint job or put in a more powerful engine because you would never get these major investments back in the sale price. Think of pre-sale business investment decisions as car sales on steroids.
Spending that makes your business more attractive to buyers is worthy of consideration. For example, if you want to sell your factory, you definitely want to pay for the repair of broken equipment or even replace any vital equipment that cannot be fixed. On the other hand, you probably don’t way to acquire a compatible business, even if the acquisition was an attractive prospect before you decided to sell. Successfully integrating a new acquisition into your business over a short period is very risky. Your buyer may want to do it later, but you should take that idea off of the table prior to the sale.
When you ran your business, you saw it as a conglomeration of products or services, employees, the building and the equipment that formed the tools of your trade. Buyers recognize the importance of these components, but they base their offers primarily on the bottom line. Any investment that you make shows up in the books as a reduction in short-run financial performance and lowers the valuation of your business -- even if it will lead to an amazing long-term gain to the buyer.
So before you spend, make sure that the rewards of any investment justify the risk.
Related: Selling Your Business at Your Price
3. Anticipated future growth should not cloud the timing of your sale.
Would you consider buying a condemned home and moving in? Just as you would want a home with lots of life in it, the people buying your business hope that it has a strong future. All too often, owners delay the sale of their businesses because they want to continue reaping earnings while the company’s business cycle continues to trend upward.
There’s nothing wrong with a bit of greed here, but you have do the math. Holding on to the business longer may realize $10,000 of extra earnings. But if you try to sell later when the business is on a downward trend, the valuation may be reduced by $50,000 -- if you can sell it at all -- and that’s a bad tradeoff for you.
4. Some expenses that help a small business now can reduce company valuation at sale time.
Throughout the life of your business, you naturally need to spend money. Any business expense reduces earnings at tax time, which allows you to hold on to more of your hard-earned dollars. But when you decide to sell, you have to look at your expenses in a new way. Some expenses directly relate to your day-to-day operations and you will probably continue paying for them until the time that you hand over the keys to a new owner. Other expenditures, such as business entertainment and company cars, require additional analysis because, as non-core expenses, they can deflate the value of your business.
Valuations at the time of sale are generally calculated based on a multiple of a business’ cash flow or earnings. If your business spent $100,000 on non-core expenses prior to the date that you put it on the market, a valuation based on 6x cash flow would reduce its value to prospective buyers by a whopping $600,000.
This does not mean that you can necessarily eliminate all non-core expenses, but you can prune them. In your company’s heyday, buying a company Ferrari might have presented the right image to the world. But if you need a new car within the last years prior to business sale, maybe a Ford would be a reasonable alternative. And maybe your quarterly lobster and champagne company dinners can become annual events, assuming that you don’t want to switch to burgers and beer.
As a rule, you probably want to start making these adjustments at least two years prior to the time that you want to sell so that you have more than one set of financial statements supporting an attractive valuation. If you don’t have that kind of time, your investment banker may be able to help you develop a set of pro-forma financial statements. By identifying and adding back expenses that would not be needed by the new buyer, you can probably get at least partial credit that will enhance your company’s valuation.