You can sell your business yourself. You can promote it in a variety of different manners on a variety of different venues. As far as promoting it yourself, you can put it in a newspaper. Depending on the size, if you have a business journal you can advertise it there.
There’s a number of websites you can post to. Here are the most known websites you can check:
One thing that you need to be really sensitive to is confidentiality. If employees are important to you as far as not knowing that your business is for sale, and you probably don’t want them to know, you definitely want to either work through some sort of intermediary whether that’s a broker, investment banker, account attorney, somebody that can insulate you from the marketing that you’re doing for the business.
This is similar to the first question where ‘quick’ is contingent upon the price. Obviously, the lower the price the less decision-making has to happen. When I say ‘decision-making’, I’m referring to due diligence, the scrutiny of financial records and legal documents, things like that.
You can sell a business in the same venue that I mentioned before; print publications, industry publications, trade magazines, business journals, newspapers, and online sources like the websites I mentioned earlier. If you have a larger business you can go to www.axial.net.
In our practice, we always strongly suggest utilizing an intermediary. I always believe that you should have somebody insulating you from the outside world, fielding those questions from buyers, and maintaining confidentiality.
I’m not certain there’s such a thing because there’s always expense in the disposition of an asset. Unfortunately, I don’t think you can do it for free. Now, could you do it yourself? Sure, you can. There’s a lot of content out there about how to sell a business yourself. Again, the biggest challenge that anybody runs into is whether or not you can effectively maintain confidentiality. Keeping the business operating as a going concern while you’re effectively performing an entirely different job serving as the broker, investment banker, etc.
If you are working with a broker, there is a commission that is based on the purchase price I’ve seen anywhere from Lehman which is:
- 5% of the first $1 million of purchase price paid to the seller
- 4% of the second $1 million of purchase price paid to the seller
- 3% of the third $1 million of purchase price paid to the seller
- 2% of the fourth $1 million of purchase price paid to the seller
- 1% of everything above $4 million of purchase price paid to the seller
Or the double Lehman which is:
- 10% of the first $1 million of purchase price paid to the seller
- 8% of the second $1 million of purchase price paid to the seller
- 6% of the third $1 million of purchase price paid to the seller
- 4% of the fourth $1 million of purchase price paid to the seller
- 2% of everything above $4 million of purchase price paid to the seller
Most brokerages from the industry periodicals that I follow get between 10%-12% of the total purchase price. As far as other advisers, legal and accounting, the rough rule of thumb is 1%-3% of the purchase price is paid to those professional advisors. You also have to pay the taxes associated with the sale.
The IBBA and M&A Source Market Pulse
The Main Street of the IBBA and M&A Source Market Pulse is considered $0-$2M in revenue. The Lower Middle Market is considered $2M-$50M. I want you to be sensitive when I’m talking about the main street vs middle market. That’s the delineation. This is done by the IBBA and the M&A Source in conjunction with the Pepperdine Graziadio Business School and Pepperdine Private Capital Markets Project. This is the result of the questionnaire that was sent out in the 4th quarter of 2019 through January 15, 2020. There were 300 business brokers and M&A advisors that responded.
Market Outlook for 2020
Generally speaking, the market outlook is positive for 2020. Advisors expected that deal flow will continue to grow and that multiples will remain constant. As you probably heard in my DealStats episode, market multiples are not changing and they’re not that volatile. The optimism is centered around the greater deal flow, increased exit opportunities for sellers, because of capital there’s an opportunity for business growth, closing rates are increasing, and it’s an election year so we’re probably going to have a pretty good prevailing economic conditions for deal-making.
As we look at the 4th quarter, under half-million dollars in revenue, the average multiples are roughly 2.8 times the adjusted cash between $500K and $1M. That’s average across all industries. The $1M to $2M is 3.3 times in cash flow. And as you move upstream into the middle market, the $2M to $5M is 4.3, and the $5M to $50M is averaging about 5.8.
Size of Business in Revenue
$1M to $2M
$2M to $5M
$5M to $50M
The interesting thing is, as I looked across from 2014 to 2019, there is very little change in multiples at all. The $2M to $5M in revenue drops from 4.6 in 2014 Q4 to 4.3 in 2019. Conversely, the $5M to $50M, we got a 5 multiple in 2014 then 5.8 in 2019.
Time to Close
When we look at the time to close, the average is 8.6 months which is substantially from 2013 which is roughly six and a half months. The rough indication is that it takes 6 months to get from launch to mutually agreed upon to price terms and conditions or a letter of intent. And it takes 2 months from there to close doing due diligence, executing legal documents, financing, and etc.
Going through the size of businesses, the time from launch to close, under half-million dollars in revenue is 7 months, $500K to $1M is 7 months, $1M to $2M is 9 months, $2M to $5M is 9 months, $5M to $50M is 11 months. The average, as I said, is 8.6 months.
Time From Launch to Close
$500K to $1M
$1M to $2M
$2M to $5M
$5M to $50M
That’s a little bit of an increase across all of those revenue thresholds with the biggest one being at a half-million-dollar mark.
From offer to close, under half-million dollars in revenue is 2 months, $500K to $1M is 3 months, $1M to $2M is 3 months, $2M to $5M is 3 months, $5M to $50M is 4 months.
Time From LOI to Close
$500K to $1M
$1M to $2M
$2M to $5M
$5M to $50M
That’s not unexpected either. I think there’s a lot of people that are relying on a lot of professional advisors and it takes time to get that advice. If you are a business owner and you’re looking to sell in 2020 you should probably anticipate that it’s going to be a 9 months adventure.
Based on the poll, the smaller businesses are having challenges securing financing. Believe it or not, in our practice we haven’t seen that at all. Credit is flowing pretty well. But based on the 300 respondents from the survey, here’s the overview:
I’m going to go by Revenue Class and I’m going to talk of Cash at Close, Seller Financing, if there’s an Earn-Out, and any kind of Retained Equity. But let me preface that I haven’t seen anybody retaining any kind of equity 1% or 2%. I may have seen 20% or 25%, but certainly, I have not seen 1% or 2%.
Cash at Close
$500K to $1M
$1M to $2M
$2M to $5M
$5M to $50M
Let’s look at a couple of things:
First, for those of you that don’t know what Earn-Out is, think of it as If-Then Financing. If something happens, then I’m willing to pay you. If I hit a revenue threshold, then I’m willing to pay you X number of dollars over and above what I already paid you.
Next, Seller Financing. It is generally a component of almost all the deals. It’s a way that the buyer can mitigate the risks and keep your attention should there be a challenge post-closing. The only real surprise that I’ve seen that’s inconsistent with what we’ve had in our practice is the $2M to $5M where there’s 15% Seller Financing. We’re seeing maybe 5% Seller Financing, don’t know why, but we have not seen those same numbers.
This is about the seller’s market and the sentiments of 'is it a buyer’s or seller’s market?'. Rather than me pontificate, I’ll just read you what it says:
Seller-market sentiment dipped slightly in the lower middle market this quarter, but advisors still indicate that sellers have a strong advantage across all but the smallest business sector. Excluding businesses valued at less than $500K, advisors have not rated any sector as a buyer’s market since Q3 2017.
Seller sentiment for lower middle market deals remains near record peaks. The downward trend can most likely be attributed to uncertainty due to the upcoming 2020 elections.
2019 Top Industries
Let’s talk about the top industries and what’s selling because I always get that question. In the Main Street category, here’s what makes up the pie chart:
Restaurants and personal services - 33%
Retail - 14%
Business Services - 10%
Construction - 9%
Retail - 14%
Manufacturing - 7%
Wholesale Distribution - 6%
Health Care - 6%
Others - 14%
I think the big surprise to me would be retail and manufacturing is strong. Let’s talk about retail first. Anything that’s going up against Amazon or anything that can be sold online, it seems that there’s a mass exodus away from the behemoth in the retail world. The next one is manufacturing. I would have thought that business owners are moving more toward the market, but that’s not necessarily the case. A lot of the baby boomers that are now 72 or 73, the exit is probably now just reaching their radar and they're now evaluating. I think in the next couple of years we’ll probably see manufacturing be 10% to 15% of the pie chart.
As we look at the Lower Middle Market, here’s what makes up the pie chart:
Manufacturing - 22%
Construction - 17%
Business Services - 14%
Wholesale Distribution - 12%
Health Care - 11%
Information Technology - 6%
Personal Services - 5%
Restaurants - 1%
Others - 12%
The big surprise for me would be construction. It surprises me that it would be that high because I think buyers are scrutinizing deals a little more harshly these days. We all know that there’s bound to be an economic downturn at some point. And to be in a spot where you have a 10-year note with a conventional lending institution and you know full well that in some time during that 10-year period you’re going to face some sort of an economic downturn, it’s a bit surprising. As we look at that, we’re seeing high multiples and construction selling. To me, that’s the big question mark. What’s prompting that? A lot of people are buying market share in anticipation that they want critical mass when the economic downturn occurs. There’s certainly some merit to that but construction here surprised me.
2019 Active Buyers
This is the composition of the buyers that are acquiring companies in the Main Street market:
1st-time buyer - 43%
Serial entrepreneur (high network individuals that are acquiring multiple companies for their portfolio) - 31%
Existing Company (company buying company for strategic acquisition) - 23%
Private Equity platform (company served as required by the private equity group that took it and made it into a platform company) - 1%
Private Equity Add-on (there is a platform company and the private equity bought it and bolted it on to one of their other companies ) - 12%
Other - 1%
This is the composition of the buyers that are acquiring companies in the Lower Middle Market:
1st-time individual - 18%
Serial entrepreneur - 13%
Existing Company - 40%
Private Equity platform - 13%
Private Equity add-on - 12%
Other - 4%
Again, there’s probably no real surprise here either. I guess, if I had a little bit of question it would be I would have thought the Private Equity acquisitions and add-on would have been a little bit higher just by virtue of what we’re seeing as far as the private equity groups dipping a little bit lower into the lower middle market to find deals because they have to deploy capital. It’s just a little bit of a surprise, but then again, the private equity groups are maybe bypassing deal guys and are going right to the business owners themselves and this made it skewed a little bit.
Reasons Sellers Went to Market
Here are the reasons why business owners are selling their businesses in 2019:
Retirement - 48%
Burnout - 14%
New/better opportunity - 11%
Family issues - 7%
Relocating/ moving - 6%
Health - 5%
Recapitalization - 2%
Unsolicited offer - 1%
Other - 6%
I guess what’s surprising for me in this pie chart would be Health. I would have thought that it is a bigger part of this pie chart because as business owners age, health deteriorates, and it’s not something we can dodge. I would have thought at least 15% of the reasons why people are selling will have to do with health.
Exit Planning 2019
Those businesses valued less than half-million dollars, three-quarters of them had no plan. From $500K-$1M, roughly 60% had no plan; $1M-$2M, 64% didn’t have a plan; $2M-$5M, 44% didn’t have a plan; and those over $5M, 25% didn’t have a plan.
No Exit Planning
The bigger the companies, probably the greater the number of advisors. More people are saying, “You know what, you need to plan your sale.” Surprisingly, there’s not much planning. As much as it’s prevalent these days, you can’t go anywhere without someone talking about exit planning. Everybody wants to talk about exit planning.
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If you are considering selling in 2020, you may want to consider doing some formal work as far as getting an idea of where your company is valued at. As I said, it’s taking 9 months to sell, so plan accordingly. If you want to sell in 3 years, a third of that time is being used up in the marketing and sale of your company. And as always, if I can help, let me know.
There are 3 approaches to valuing a business; the asset approach, the income approach, and the market approach.
The Asset Approach focuses on the components of the company - the tangible and intangible assets. You value them individually then add them together to come up with a value. It typically renders the lowest value but I tend to only use it when I have another performing company and there’s not a whole lot of goodwill associated with the company.
The Income Approach is based on forecasting. In the space that I work in, the small business forecast is extremely difficult. The only time I ever use them is if my client has a history of being able to forecast accurately their next two to three years and yet that’s not enough. So if you are unable to forecast with any degree of certainty, it’s probably not the approach for you.
The Market Approach, which I spend most of my time using, is based on privately held sale data and apply to the company we’re valuing. We’re looking at revenue and cash flow and we apply it to the company we’re valuing. That serves as a proxy for value. As much as I don’t like the analogy, think of the market approach as valuing a home. You see other homes with 4 bedrooms, 2 baths, within a certain area, and you can apply what you learned about those homes and apply to your home to get a rough estimate. Same thing you can do with a business. The challenge that we have is market data, but if you listen to my podcast with Kenny Woo and Adam Munson from DealStats, you will hear how we get that information and how we apply it.
Just as indicated on the podcast, most businesses are saleable at some price. The challenge becomes a matter of risk and reward and identification of value. In the case of customer concentration, we bump into “How does the buyer mitigate that risk?” because post-sale they don’t know what’s going to happen whether or not that buyer/customer is going to stay with them. “What’s the relationship with you and the owner?” “How does that work?” If I’m a buyer I have to come up with a way to mitigate that risk and typically it’s done through Gift and Fit Financing. If X, Y, and Z happen, I will pay you X. So, that’s the challenge with customer concentration.
Now, let’s address the 40%. As you examine the 40%, I think the first couple of things you need to examine is where is your profit coming from. For example, we had a client who lost 20% of their business but it was making up 40% of their profitability, so it was a considerably bigger hit. My suggestion would be to dig deep into that customer and see how valuable they are to your business.
Addressing the saleability matter, yes, I think it is. But I think you need to understand that so long as there’s a customer concentration challenge that the buyer is going to have to mitigate that risk. That’s going to spook the lenders and it’s going to spook the buyers. So, what do you do? The first thing you can do is anticipate that the buyer is going to make part of the price contingent upon the retention of that customer. You may have to alter some of your post-sale plans in order to accommodate that transition. Second, you may have to stay with the business in elongated time to ensure that that client/customer is transitioned over to the new buyer. You may want to deploy some sort of incentive program for those within the organization or salespeople that can help you diversify that customer base.
I am not going to sugarcoat that it is a challenge, one of which is surmountable. But you’re going to have to understand that it’s going to take a little bit more than the normal deal in order to get out from under it. If you are looking for some ways to diversify your customer base, email me offline at email@example.com and I will do what I can to help you out.
Unfortunately, this is one of those things where I have to say “It depends”. Some buyers prefer independent businesses where the others are just the opposite. They need a system that has been worked out that they can simply follow, and if they do everything they’re supposed to do they should be able to turn a profit.
Let’s take a look at some of the attributes related to independent as well as franchise businesses. The ownership model is the first thing. And when we look at it, franchises are a system. There’s an infrastructure put together and everything is systematized. Whereas the independent system may not be systematized, and so it requires the owner to put in more effort in order to operate the business effectively. If you have ever read Michael Gerber’s The E-Myth Revisited, you will see that it’s one of the things; systematizing the business so it’s almost operating like a franchise.
Next thing you have to consider the size. If you are an independent business, you may have a corner on a particular type of service or product that you’re selling. But if you look at a franchise, for example, chances are they’re probably a national brand and they have better name reputation that you. If you have a local presence, then they probably have a national presence. Probably the last thing that I would bring up is the success rate. I mean, the proof is in the pudding.
When we look at both types of business, I think you find that it’s debatable whether or not one type of business is better than the other. You have to evaluate each business based on its merits. I was speaking at an event the other day and they brought up the topic of Subway. If you took a Subway sandwich shop that was generating $200,000 profit and you have Joe’s sandwich shop that’s also generating $200,000 in profit, which is more valuable? Likely, it’s the Subway because the Subway has less risk associated with it and that it will be reflected in the multiple.
As a general rule, here are the factors that have to be in place for you to likely to be able to sell your company:
- Profit. A buyer has to be able to pay the debts to acquire the business and get a return of the owner of the investment. There has to be that profit available in order to do that.
- Location. If you have dismal location chances are that the buyer is probably going to take a hard pass. For example, in manufacturing, access to rail or highways or air is important. Having an ideal location amplifies the likelihood of a sale.
- Equipment. The equipment has to be in good operating condition.
- Inventory. If the business is selling products, the inventory that the buyer is acquiring has to be a good saleable inventory.
- Customers. Customer concentration, the composition of customers, longevity of customers... these make the business saleable. If you have long-term contracts, that’s a good thing for a buyer because it makes the future revenue predictable. And predictability in small business amplifies value, not detracts it.
- Competition. Look at what the competition is out in the marketplace. Is it a saturated market? Is it a race-to-the-bottom-with-the-lowest-price-wins? Is there an opportunity to take advantage of the unique attributes of your particular business in order to compete at a much higher level?
- Intangible Assets. If you have copyrights, or trade secrets, or intellectual property, that is something that amplifies the value and increases saleability (assuming that it can be transferred to the next person).
- Accounts Receivable. This goes hand-in-hand with customers. If you have a composition of sloping customers, that is a red flag because the quicker cash comes in the less working capital that the buyer has to obtain in order to acquire the company.
- Employees. Having a good quality workforce is certainly a big plus. In fact, there’s a lot of companies that acquire other companies just simply because of the opportunity to acquire talents.
- Their own database. Ed and his team have done roughly 2,100 deals so they have a lot of empirical evidence within their four walls.
- When Ed goes outside, he goes to a few places to find market data:
Look at it from the standpoint of “Are you a target?”. If you look at the landscape of who are your potential buyers, look at customers, suppliers, competitors, who would benefit from acquiring you? From a cost standpoint, do you share the same suppliers, vendors, customers? All those types of attributes amplify value.
The rule of thumb is that the target company is five times smaller than the acquiring company. If you're doing a $1M in revenue, a $5M company is the likely candidate to acquire. There are differing opinions on why that is, most of it has to do with risk. When we look at putting the two companies together in order to mitigate the risk, the company tends to be substantially larger than the company that’s for sale.
Ed wants to stress caution in approaching a competitor. It’s better to approach an intermediary just simply because you can maintain confidentiality on a more sound basis than you personally doing it.