KEY ARTICLE TAKEAWAYS
Selling a business is a lot like selling a house.
- There is a market of people out there looking for a house just like yours
- You clean up your house and highlight its best features to convey the home’s value to the market, while prospective buyers get to tour the house and ask questions before submitting an offer
- You accept the best offer, the buyer secures their mortgage financing and inspects the property, and the title is signed over from you to the buyer
Obviously, that is an oversimplification of the process, but selling your business includes the same three basic steps: identify who wants to buy it, craft your sales pitch and convince the market to pay a premium for it, then work through the logistics to close on the sale.
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Unlike selling a house, however, selling a business requires an immense amount of planning and preparation and can often be a long and arduous process of ups and downs.
Should you hire an M&A advisor?
Not all M&A advisors are the same – so the question of using an advisor (and which type of advisor) will depend on your unique business and motivations for selling, as well as the advisory firm you choose. M&A advisors come in two main forms: business brokers and investment banks.
Business brokers
- Focused on selling smaller businesses
- List businesses like homes on their website (with asking prices)
- Do not focus on preparation and guidance throughout the process
- May not support you through negotiation or other phases of the deal
- Require less work from you and your team, and usually charge less in fees
Investment banks
- Focused on selling wide variety of businesses
- Prepare for, and run, a thorough auction process, driving premium valuations through competition
- Focus on guiding you and your team through the close and afterwards
- Fees are higher, and more preparatory work is required of you and your team
The 3 (well, 4) steps to selling a company:
Before beginning the process, prepare yourself and your business for a sale
1. Identify prospective buyers
Business buyers come in many forms, but the two main types are financial sponsors and strategic acquirers. If you’ve ever heard the term “Private Equity” before, you’ve heard of the most common financial sponsor. There are over 15,000 private equity groups in the US alone, and the vast majority of them function like house flippers: they buy a business, make improvements to boost its value, and sell it a few years later for more money.
How most private equity groups work
Motivations of strategic acquirers
Strategic acquirers are companies not all that different from your own. They offer a unique product or service and are seeking to improve upon their ability to meet their customers’ demands. Sometimes the easiest way for a business to grow is to buy a business which already does what you want to do! There are truly infinite reasons for a strategic acquisition, but some common examples include:
- expanding product lines or service offerings
- setting up a new location in a new geography
- selling existing products or services into a new end-market
Sometimes, buyers can be your top competitors, key vendors or customers, or large corporations in your industry with enormous budgets and a team of people who operate a bit like a private equity group. No matter who is interested in your business, financial sponsor or strategic acquirer, each interested party will evaluate it differently and offer a different price (or “valuation”) based on the specific attributes they like and risks they uncover.
Value is in the eye of the beholder
Different buyers will evaluate the same company differently, and where one buyer may see opportunity, another may see risk.
Let’s look at an example where the defining characteristics of the target company are:
- Strong customer relationships
- Talented management team
Buyer 1
A competitor who has tried, and failed at, building relationships with your top two customers
- This buyer wants your customer relationships, but is less interested in the management team since they already have one of their own
- They will primarily value the business on customer relationships with the management team actually decreasing value for them
Buyer 2
A private equity group who sees the growth potential within your niche
- This buyer may find some value in the customer relationships, but their focus is the underlying trends in your niche and the of the management team to grow the business after the sale
- Their valuation will incorporate both characteristics and will likely result in a different offering price than Buyer #1
For this reason, we prefer to let the market compete in an auction with no starting price while each buyer indicates the value they see without knowing what other parties have offered or even who the other parties are. If you decide to use an investment banker, like Class VI, then they will typically produce the list of prospective buyers and manage the auction process for you. From our experience completing hundreds of deals, we have found that having an open mind about who it might be that buys your business gives you the best chance of finding that one-of-a-kind buyer offering to pay a one-of-a-kind price.
2. Market your company to prospective buyers
Preview the opportunity with buyers who understand your business's unique value
Marketing your business isn’t all that different from marketing a new product to consumers: identify the differentiators that prove why you’re better than other options a buyer might be considering. The sales pitch for a business typically comes in the form of a CIM (Confidential Information Memorandum), which is “M&A-speak” for a document outlining the business and its differentiators to prospective investors. If you hire an investment banker, they will develop the CIM with you and handle the marketing. Most of the time this is done through good, old-fashioned cold calls and emails – or through existing relationships with serial acquirers or strategic buyers in the industry.
Once you have identified what your sales pitch is and how to back it up with data, you need to get in front of your target audience. For most private business sales, buyers will review the CIM and other confidential information and will want to meet to ask questions about the business, get to know you and your goals as an owner (including your motivations for a sale), and tour your office or facility locations. The more prepared you and your business are prior to this process, the higher your odds of success.
Now let’s assume you have successfully marketed your business to a group of interested parties, and they are interested in submitting offers. In the M&A world, an official offer to buy a business is called a Letter of Intent (or “LOI”), and it will propose the economics of a transaction and all of the stipulations and procedures that the buyer and seller will need to meet and follow in order to close the transaction and wire funds.
Basic anatomy of an LOI
If you have hired an investment banker to run a process, they will identify the parties interested in buying your company, negotiate their offers to best and final, and should help you compare the offers “apples to apples”, so you can make the most well-informed decision. It’s important to remember that up until you sign an exclusive LOI, these investors are competing for your business, giving you negotiation leverage. The moment you sign an LOI, you lose that leverage, making it much more challenging to make favorable demands. We would recommend trying to finalize as many key terms as possible when you possess the most leverage.
Purchase price and terms
The amount being offered for your business, how it was calculated, the timing and form of payment (cash, stock, earnout, etc.), and items that may affect the economics of the deal (such as excluded assets, working capital, cash, or debt)
Conditions to close and due diligence
The amount being offered for your business, how it was calculated, the timing and form of payment (cash, stock, earnout, etc.), and items that may affect the economics of the deal (such as excluded assets, working capital, cash, or debt)
Confidentiality, exclusivity, and restrictive covenants
The amount being offered for your business, how it was calculated, the timing and form of payment (cash, stock, earnout, etc.), and items that may affect the economics of the deal (such as excluded assets, working capital, cash, or debt)
3. Finalize the terms, conduct due diligence, and close the deal
Due diligence and closing: The devil is in the details
Once you negotiate and sign an LOI, the most challenging stage in the process begins: due diligence. Up until now, the buyer has assumed everything you have said is true. Now, you’ll be asked to validate that information through organizational documents and reports. Prepare for every aspect of your business to be put under the microscope. Hopefully you have selected the right advisor and prepared your business to reduce the risk of any deal-killing surprises arising.
Major areas of due diligence:
Operational: expand upon the buyer’s understanding of the structure and key personnel used to make strategic decisions and implement them
Legal: examine the various legal agreements you have – or have not – put in place as well as any litigation in your company’s history
Financial, Tax, & Accounting: comb through the company’s reports and financial statements to analyze everything from how you recognize revenue to the numbers informing your strategic decisions
Human Resources (HR): review policies and procedures related to the people who make your business tick
Information Technology (IT): assess all the technology and systems used to run your business
Regulatory: ensure that the business complies with any relevant rules from governing authorities
Intellectual Property (IP): evaluate how you protect what is proprietary within your company
While you and your management team are busy fulfilling your buyer’s requests for information, your attorney (you will need a capable deal attorney) will be busy negotiating the legal agreements that will seal the deal, so to speak.
At this point in the process, deal fatigue is bound to set in. You will be tired of answering questions and talking to investors and attorneys (no offense to any investors or attorneys reading this), and you will just want the second full-time job that has become this transaction to be over with so you can retire or do all the cool things entrepreneurs do after selling their businesses. You will have felt like the deal had died, revived, then died again before resurrecting once more. Your employees will have begun to wonder why you have so many calls and meetings suddenly, and some may have even walked into your office and asked you about it. The smallest issue will feel like the deal’s greatest impasse. But you prepared for this and listened to your advisors throughout the process, and you will get to closing day and one of the most anti-climactic meetings to date: the closing call.
If the stars align on that day, and neither you nor the buyer have any last requests, the deal is closed and the wire transfers are initiated. You might go into work the next day and get busy building the next phase of the business, or you might never go into work again. Either way, you will have found your pot of gold at the end of an incredible road full of hard work, lucky breaks, and mistakes. if you are considering a sale of your business sometime soon or many years from now and have any questions about what to do, please reach out – we’d be happy to help!
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