It’s never too early to start planning your exit. In fact, early planning and implementation will not only give you time to focus on those areas of the business that can be improved in order to make the company more attractive to prospective buyers, but early planning can also result in a higher valuation. Additionally, by implementing an early and ongoing process of review, improvement and preparation your company will be in a position to quickly respond to any unsolicited but attractive offers.
In Part 1 of our series we are going to briefly outline 10 steps that a founder or entrepreneur can begin to implement today that will enhance the value of their business at time of sale.
- Identify and meet with the team of professionals that will work with you to help prepare your company. This team should include your tax accountant, your tax accountant, your lawyer and your investment banker.
- At least 2 years out you will want to ensure that you have the optimum ownership structure in place in order to minimize taxes on the sale. Early planning and implementation of certain steps to minimize taxes on sale should take place at least 2 years prior to the actual sale of a business. Ensure that your sale will qualify for the Qualified Small Business Corporations (“QSBC”) test by removing all redundant assets from the business if they exceed 10% of total assets. For example, establishing Family Trusts that hold shares in your corporation would allow the beneficiaries of the Trust to take maximum advantage of the CRA’s lifetime capital gains exemption of up to $824,177. (2016 indexed)
- Evaluate and if necessary, upgrade management team. Too often, the founder or entrepreneur is the key to customer and supplier relationships, a fact that creates risk and uncertainty for prospective buyers. Your objective should be to build the strongest management team possible with the objective of ultimately making yourself redundant. With sufficient lead time, you can make the right decisions to replace and upgrade members of the team so that your firm is operating on all cylinders. And while you’re at it, if you are planning on selling your company to an arms-length third party you may want take the necessary steps to ensure that your team is not built on nepotism.
- Understand the key company attributes that buyers look for that will increase the value of your exit:
- Predictable revenue growth and profitability – year-over-year swings in revenue and profitability will negatively impact your selling price;
- Quality of revenues and length of contractual agreements – recurring is better than one time revenues and long term contracts increase value;
- Sources of revenue – product versus services;
- Reduce customer concentration – no one customer should account for more than 25% or revenues and the top three customers should not exceed 50%;
- Reduce reliance on a limited number of suppliers – a supplier accounting for 40% or more of product increases risk to the buyer and results in a lower price.
- Reduce your working capital needs and tax efficiently move excess cash off your Balance Sheet. You should be looking to lower you AR balances and Days Sales Outstanding, reduce inventory levels and sell off obsolete and increase AP levels to the maximum accepted levels. Acquirers often look for a certain level of operating working capital to be left in the business on close so the lower your net working capital requirements and the longer period that these levels have been in place means more money in your pocket.
- Put in place a cost control program. We’re not talking initiatives like reducing R&D expenditures to increase earnings or delaying the purchase of capital assets necessary to generate your revenues but rather a complete review of all expenses, items like company cars, travel expenses, software and hardware purchases. It’s important to understand that in many cases your Company will be acquired at a multiple of EBITDA, cash flow or net income. Every dollar that you save can translate into X times that amount on the sale.
- Depreciate rather than expense: Companies often have accounting policies whereby they expense capital expenditures below a set limit rather than capitalize the assets and depreciate over time. From a tax perspective this makes total sense for most business owners but if you are two or three years away from selling your business it may be a good idea to implement a change in accounting policy and begin to capitalize and depreciate a number of these purchases.
- Identify any contingent liabilities and take steps to address these issues. For example, are you aware of the possibility of a lawsuit related to service or product problems or do you have concerns related to environmental impact issues such as fluid leakage on your property? Failure to address these will result in a lower price on sale so take proactive action early. Make a list of all business items of concern, challenges within the business and “skeletons in the closet”. You want to be able to disclose negative information early on in the process with your buyer but at the same time have logical answers or solutions to these items. Do not think that these issues can be swept under the rug and hidden from potential buyers. They will either discover these issues during due diligence whereby trust issues arise between buyer and seller or they will be covered off in the Representation & Warranties section of the Purchase Agreement and could come back to haunt you in the future.
- Review, document and contract all Employee matters: Have all employees signed Employment Agreements and Ensure that you have valid and signed contracts with all employees and contractors who have in ANY way been involved with design, development and engineering of any Company intellectual property. Are non-competes in place with key employees. Ensure that you are not mischaracterizing employees as independent contractors.
- Keep the company running: There is nothing like a drop in sales or earnings to put a deal on hold and in the business of selling your company, time equals risk. Finding the right buyer at the right price takes time and sometimes for reasons outside of your control transactions don’t take place. While you are proactively implementing the previous nine steps you must ensure that you do not take near term decisions that could negatively impact the long term growth and profitability of your firm. It’s easy to get distracted during a deal and few business owners truly understand the time, resources and effort that go into successfully completing a transaction. Owners should seriously consider hiring an Investment Banker or Agent to prepare the company and manage the sale process while the owner continues to operate the business.