Got A Business Valuation? Throw It Away. You Can Sell For A Lot More Than That Valuation!

Introduction

1. Attracting the right NUMBER of buyers & developing competitive tension

It's a simple supply and demand situation. For any individual business for sale if the vendor (or their broker) can find numerous buyers interested in buying the business, that helps enormously when it comes to getting a better price.

However, if there's just one buyer, that's very bad for price.

Why?

Because the sale process is a long one, there is much back and forth, much checking of data and numbers, a lot of "due diligence" (DD) and a lot of negotiations on the terms and conditions of sale. During that process buyers typically find all kinds of excuses to keep revising the number down. Having just one buyer puts the seller at extreme risk of this "chipping away" at price.

The buyers know the vendor has invested a lot of time and energy to get to the latter stage of the sale and that there's a high pain level to a late-stage pull out, so they'll push their luck and push their luck and push their luck. However, if there are other potential buyers ready to take their place, they will be a lot more circumspect about putting piling the pressure on as they are aware of the other options.

The danger of phantom buyers

Important Note: Some vendors invent "other buyers" ie. they tell an interested buyer that they have other buyers in the wings (even when they don't). This is dishonest, yes, but it is also extremely unwise!

When I was buying business I absolutely loved it when sellers came up with "phantom buyers". When I suspected the other buyers were imaginary, there was a simple strategy I used to flush the truth out and make the seller look very foolish. I'd tell the seller to focus on the other buyers and get back to me if nothing worked out with any of them.

The sellers in those cases, always, every single time, eventually returned to me.

But worse than looking foolish at being proven a liar, the vendor has now exposed a vulnerability: the vendor has me as their one and only hope. That puts the vendor on the back foot and gets me major concessions in the price / terms of the deal!

My advice: No phantom buyers ever! There is no substitute for actually having multiple interested parties. And you have to work hard to develop multiple buyers.

But it's not just about having numerous buyers, it's about managing them sensitively and diplomatically to ensure the development of competitive tension. That's a tricky tightrope to walk especially if the sellers are conducting the sale themselves. They can't put the buyers all in one room and ask them to bid against each other. And they can't go back and forth and tell B that A offered £x (B's not going to believe the other offer!)

If the business is large enough, we highly recommend having a competent M&A adviser do handle the sale, not a business broker or business transfer agent. We maintain a database of these professional and can assist finding the right one.

2. Attract the right KIND of buyers to get more than the valuation

Most first time sellers are unaware of how important it is to get the right kind of buyer.

But what is the right kind of buyer?

Even once the unfunded buyers, are eliminated, the right kind of buyer is someone who can derive a lot more benefit from the business than other buyers can - a strategic buyer who sees synergies between their business and the target, as opposed to a financial buyer who's looking simply at past performance numbers.

Let us take an example of a distribution business that's making £500K in net profit per year. Let's also assume that businesses in this industry are selling for 5x net profit (or EBITDA). A financial buyer would expect to pay no more than £2.5m (£500K x 5) because that's how much he sees the business making over the next five years. (Yes, it's about what they see in the future rather than what happened over the last five years.)

However, a strategic buyer, say a competitor, may be able to extract further efficiencies from this distribution business. On making the acquisition they could combine storage for both businesses and take one large warehouse rather than maintaining two small ones. They could also dispense with staff  - why would they need two warehouse managers and two people doing book keeping?

They may see numerous other ways to benefit from merging the two businesses. Perhaps they has some services that the target business doesn't currently provide and they recognise that on making the acquisition they'll have a ready customer base (of the target's customers) to whom they can offer an additional service.

They might be able to see a future of £600K in annual profit from the acquired business. They could therefore justify paying £3m (£600K x 5), a cool half a million more

We'd all love to have a strategic buyer, of course!

Why would anyone sell to a financial buyer?

Some businesses end up selling to financial buyers simply because the vendor (or his broker) didn't do a good enough job finding strategic buyers. Strategic buyers are not easy to find because, most often, and unlike financial buyers, they're not out there looking to make an acquisition! They need to be found, they need to be wooed, their board needs to be convinced to take the risk - buying a business is always additional risk! - and they need to be persuaded to sit down and talk numbers. This is no easy task by any stretch of the imagination.

And if vendors want to get multiple strategic buyers, they can do it themselves, but it takes a lot of legwork -  literally hundreds of hours of sorting (bought) data on companies in the sector, finding targets, approaching them, following up, generating the interest and gently guiding each prospective buyer.

And that's just to get them to the point of signing an NDA!

Further, it is difficult to generate candidates without exposing the company's identity. A better way is to hire the right business broker. Unfortunately, most brokers are not very good and it's not easy to find competent ones (that's why we exist - to help people find the right expertise in this industry!)

A broker will cost money in advance fees for all the early stage slog. (How much?) Yes, the competent and successful brokers won't touch any deal where the clients pay only at the point of successfully selling the business. They do charge a "success fee" but that's in addition to the advance.

For larger businesses (£500K+ in profit), we offer a service to help find the right professional expertise. Book a free initial phone consultation.

If the business has less than £2m in sales, there's the option of booking a paid consultancy session to discuss accounts, valuation, business circumstances and any other questions around selling. Get advice specific to the individual business and on extracting maximum value. Book your call now.

3. Attract buyers with the right KIND of funds

If they are funded, they are funded. Money is money, right?

Wrong!

There is a growing disease of "buyers" out there who pose as funded buyers but actually don't have their own money. There are numerous courses churning out thousands of these 'investors' every year! Some of these 'buyers' / 'acquirers' may claim to have investors behind them, to know a lot of high net worth individuals, to have "access" to funds, whatever. But they won't be able to provide a bank statement to prove liquidity or they provide fake statements.

They are buyers with the wrong kind of funds.

Doing deals with people who don't have the money is extremely difficult and stressful. Most of these deals fail, and they fail right at the end after the vendor has put many, many hours of work into it (and, probably, professional fees for a lawyer etc). Well over 70% of these deals fail at some point. 

This is why they fail: The "buyers" speaks with the vendor, asks some initial questions, looks at the accounts etc. They then make an offer and if it's accepted, they'll go hunting for finance. The investors behind the "buyers" aren't just going to give the "buyers" a big chunk of money. They are going to want details of the deal, want to know what cut they are getting (yes, they want a chunk of equity) etc etc. The "buyers" have to effectively negotiate a deal elsewhere, and that can take weeks ...or months.

If they do negotiate that deal, it'll likely be for only part of the agreed price as the investor wants the  "buyers" to have skin in the game and put in some of their own money. So the "buyer" is scrambling to raise a part of the price using their own resources. More time wasted. 

Learn how to detect these buyers and deal with them here.

Further complications that spell bad news.

All this pressure on raising finance means that the "buyer" will want to use some of the target business' assets on the day of the sale as security for a loan from a finance company. Or they'll want the vendor to agree to less of a cash payment up front and more of a deferred payment element.

In the highly unlikely event of all the above working out smoothly, the deal moves to the due diligence (DD) phase. But here the seller has not one buyer, but a buyer and their investor (or investors) plus a finance company. More people sticking their noses in, raising questions, posing objections, dragging out the due diligence. And through DD all of them will want to keep renegotiating and renegotiating the deal to get the "buyers" better terms.

Even if the vendor agrees to every price cut, every deferred payment change in terms, every unreasonable demand, it'll take just one party pulling support and the "buyers" can't proceed with the deal.

Unfunded acquirers are a PITA and, unfortunately, it's not easy to spot them. I've got some tricks up my sleeve and can smell these people from a million miles away, especially as several of them have attended training courses on "how to buy a established and profitable business without using any of your own money". There are certain subtle signals they give out which I've learned to spot. But it takes experience. Here are some tips on dealing with these unfunded buyers.

If the business has a turnover of at least £2m, get in touch and I may provide some more tips on how to identify and deal with unfunded buyers posing as funded buyers.

4. Prepare the business properly prior to sale

No, it's not just about the profit figures and attracting the right number and type of funded acquirers. One need to be prepared for sale!

Most small businesses go to market without any prior preparation and as a result suffer when it comes to price. But what is preparation?

A good adviser / broker - or a good exit planning book - would help on the preparation but it involves, broadly speaking:

- getting together the records, figures and documents that buyers are going to want to see. No, they don't already exist! Buyers, through the due diligence process, ask for hundreds of documents and records, sometimes thousands, many of which the vendor needs to create from scratch!

- doing a dummy due diligence (pre-sale diligence) process to anticipate the type of issues buyers are going to raise when they do DD and ironing out any problems before acquirers see them. For example, the T&Cs may have been written before GDPR and may need revision. Or the physical stock doesn't exactly match the value of stock in the books. Or the contracts employees signed are not completely in line with employment law as it is now;

- cleaning up and tidying up the property, tax matters, records, accounts, legal matters ... and a hundred other things;

- extricating the owners (dealing with, for example, personal guarantees they may have issued in the past to banks / suppliers);
etc etc.

No matter how good the records and how well run the business is, there are numerous "flaws" that need fixing if one is to get the best price. Because when buyers come in to ask difficult questions, the seller will be prepared for them, they'll have the answers ready. They are not floundering and looking foolish (and giving the buyer an opportunity to hammer price or, worse, simply walk away).

What many business owners THINK buyers want to see is usually very different to what buyers really want to see.

5. Provide credit, it can double the price!

Most deals involve some element of credit; buyers don't generally expect to pay the full price on the day of the sale itself. However, when I speak with business owners looking to sell their business, it's almost always the case that they start off expecting the entire price to be paid in cash! It takes a while before they are fully convinced of the merits of offering credit (and how it can be done safely).

Those sellers who still insist on being paid in cash on the day of the sale end up losing a lot of money. Their position may be they want all cash "because my business is worth it" or because "I can't give credit to someone I don't know from Adam".

They are losing out on price in a big way. Why is this?

Let's say a business owner has a price expectation of £2m. If this vendor expects an all-cash deal, it will attract only those buyers who have £2m+ in cash. However, if the vendor is a bit flexible on payment terms, it would attract a wider pool of buyers including those with perhaps just £1m or £1.5m. And these buyers understand that they need to pay a higher overall price to compete with the buyer who has £2m in cash!

So a good negotiator would get them to commit to a price of, say, £2.5m with £1.5m in cash on the day of sale and the remaining £1m to be paid in installments over the course of 12 or 24 months.

From the vendor's point of view, an additional £500,000 is not to be sniffed at!

But what about the risk of trusting a total stranger to pay a large sum in the future?

This is not the risk that most vendors usually assume it to be. There are numerous ways of securing that loan - it could be via a first charge on the buyer's home, for example. Or the buyer could come up with a bank guarantee for the entire amount!

Generally speaking, the lower the quality of security provided for the "deferred payment", the higher the price the buyer needs to pay to compensate the seller for the risk the seller is taking.

A side note: Buyers often offer a charge on the company itself as security. This is dangerous. Within hours of taking control of the business, a buyer can severely deplete the value of the business by loading it with debt and or siphoning assets off. The business can become virtually worthless within a day or two!

But is £2m in cash really better than £1.5m in cash with a further million over 12 months guaranteed by a bank?

Spread the payments over a sufficiently long period - say five years - and it may be possible to double that £2m price to £4m. And that's before taking into account the above market rate interest that the buyer is going to be paying on the loan and that can be reasonably built into the contract.

6. Reduce buyer risk, it will increase the money the business owner takes home

We've touched on seller risk above in relation to deferred payments, but sellers can add value by reducing the risk the buyer perceives in the transaction. The greater the risk reduction, the higher the price one can expect.

When it comes to investments, risk and return are closely related. The reason treasury bonds have a lower return than dividends paid by public companies companies is because bonds are less risky - they are backed by the government.

The same applies to business acquisitions. The lower the risk - or, rather, the lower the risk the buyer perceives - the higher the price the buyer can pay.

The seller can lower risk in numerous ways including, but not limited to, the warranties and indemnities provided in the contract of sale. If this is unfamiliar territory, please contact a business broker or M&A adviser to explain the various ways in which one can reduce risk for the buyer.

We do cover negotiation later, but it's relevant to point out here that the best negotiators walk out of the first meeting knowing exactly what the other side want, and what they are able to give. The negotiator then carefully plans a package that gives away the minimum possible to make the deal happen.

The first meeting is not about agreeing a price. A large chunk involves "reading" the opponent. In particular, you want to know their appetite for risk, where they sees risk and what solutions they will accept as mitigating against those (perceived) risks. And it's even trickier because at this stage the buyers don't have a great deal of information about the target business so they are just guessing on where the risks might lie!

7. Use an expert negotiator, don't do the negotiations yourself!

Negotiation is a specialist job. Even if a business owner has negotiated other deals, the negotiation for the sale of a business is different. There are numerous components to the negotiation, it's not just about agreeing a number!

Remember, the buyer is looking to get away with paying as little as possible. A good negotiator uses a lot of subtle tricks to flush out areas in which the buyer has more flexibility and he pushes the right buttons to extract concessions. More importantly, s/he protects the seller's interests in a number of different ways!

An experienced negotiator may charge £1,500 - £2,000 for the day. Yes, negotiations can last all day, often longer. But they would get the vendor, or save the vendor, hundreds of thousands (or more). If using a competent business broker or M&A firm, they'll provide the negotiating talent. Or business owners can contact me to recommend a negotiator.

8. Use a tax expert as well, can tax mitigatigation is not for AFTER doing the deal

What's better - getting a million and giving HMRC half a million in tax ...or getting £800K and paying only 10% in tax?

The important number is not the headline price. It is, after all, the amount the business owners gets to take home. Tax planning should therefore be an integral part of the planning even before putting the business up for sale. It should be something that's taken into account all the way through the exit preparation, the marketing, the negotiations.  

The seller's personal tax situation, and the deal setup that would leave them with the maximum amount post-tax, is what the negotiator should be briefed on before the negotiations even start.

An example

In 2018 a business I advised had built a large cash balance. The directors hadn't taken a dividend for the last couple of years because they didn't want to pay dividend tax with a marginal rate (at that time) of 38%. They had ended up with a bank balance of over £600,000 in a business that needed no more than £60,000 in the bank as working capital. If the owners had drawn this money out prior to sale, they would have had to pay a whacking great tax bill on it.

Through proper planning, the owners were able to add £540,000 (ie. £600K - £60K) to the sale price of the business with an understanding that the buyer would finance this additional £540,000 from the "excess" cash in the business. The vendors then got full Entrepreneurs' Relief on the £540,000 and paid just 10% in tax. But this is more complicated than it looks.

It took a lot of planning, applying to HMRC for advance clearance to withdraw the £540,000 as part of the sale price, sending HMRC several reminders and building the tax mitigation into the negotiations with the buyer and into the Heads of Terms and the contract of sale (because buyers don't want to take on a large cash balance and pay for it. It locks money up for them and they can't withdraw it except as dividends which, of course, are subject to a whacking great dividend tax).

Other planning

There are numerous other tax related issues that need planning. These include the basis for calculation of Corporation Tax due on the profits made in the business up to the day of the sale (which tax burden falls on the seller of the business, not the buyer).

A recent sale of a £10m company in the midlands fell through near the end because buyer and seller couldn't agree a method of calculating work-in-progress and stock - two figures necessary for determining the profit made in the business between the last final accounts and the "completion accounts" created at the point of company sale / handover.

Buyer and seller couldn't therefore agree on how the burden of the current year's Corporation Tax was to be split between both parties ...and the deal fell apart!

Conclusion

The single thing vendors can do to ensure maximum price on exit is to appoint the right advisers, to appoint them before they do anything, and certainly to appoint them before speaking with any potential acquirers. There are business brokers who cater for the lower market and, given selling larger businesses is a different kettle of fish, a whole range of different professionals who assist with mid-cap sales.

This is particularly important if a business owner has received an unsolicited offer for their business. Their first step should be not to speak with these prospective buyers but to appoint advisers to act on their behalf (and to raise competing offers ASAP).