Good Exit Planning: First and Foremost, A Valuation of the Company

/in , , /by Bob Altieri
With the baby boomer generation retirement rush beginning to take hold, many business owners lack sufficient information about the value of their business for retirement planning purposes and don’t foresee the deal killers that await them.  A Deal Killer is a condition that, if undetected and unresolved before the sale of a business, will kill the transaction. The purpose of pre-sale planning is to maximize sale proceeds (as well as to achieve other non-financial goals), and it includes efforts to neutralize these Deal Killers.
The most common and avoidable Deal Killers are:
  1. Owners’ long-held belief that they can automatically one day sell their businesses for enough money to satisfy their financial independence needs and wants.
  2. Owners’ failure to reconcile their need for value with the market’s perspective of value before going to market.
  3. Owners’ exclusive focus on top-line sale price.
Owners are usually optimistic about the value of their businesses. Many of them dwell on the efforts and sacrifices they made from the onset of the venture. As a former entrepreneur, I know this well; however, optimism can result in owners consistently and often dramatically overvaluing their businesses.
In addition to company valuation, owners must factor into the likely sales price such factors as deductions for IRS taxes on the sale, debts that the company owns, transaction fees (escrow) and advisor fees (legal, CPA, Broker, and etc.). Business owners who jump into the sale process blinded by sale price optimism, or without consideration of the reductions to sale price, spend considerable time, money and energy only to find their glass half empty, if not shattered altogether.
At Exit Strategies, our job is to incorporate an understanding of marketplace reality into an owner’s pre-sale planning. We know that successful exits can require years of value-building efforts, but owners who insist that their businesses are worth far more than buyers do, either don’t realize this or are unwilling to face reality.
It is critical to the ultimate success of your exit that you get help to understand likely sale price and after tax proceeds and address deal killers well before your planned departure date. For further information contact Bob Altieri.

Where’s the Seller Tsunami?

/in , /by Al Statz
The Wall Street Journal published an article this month titled “The Missing Boom in Small-Business Sales — An expected rush in sales of small firms by the baby boomer generation has yet to materialize.”
The article points out that despite predictions that a flood of private businesses would be coming up for sale as baby boomers reach retirement age, many of these owners are holding on longer than expected. We’re seeing the same thing here at Exit Strategies. We’re experiencing steadily rising deal flow, but not the massive seller tsunami that’s been predicted for the past ten years.
The article posits several reasons, all of which we agree with:
  • The recent recession hit retirement asset values hard, causing many owners to invest additional personal funds in their businesses; therefore postponing retirement for those who plan to live off of their assets in retirement
  • People are living longer and enjoy the challenge of working later in life
  • Younger people seem to be less interested in taking over the family business (particularly when good jobs are plentiful)
We are definitely seeing more interest in selling (and stronger demand for) companies valued over $2.0 million dollars. Owners of smaller businesses seem to be holding on longer, perhaps because they also have fewer retirement assets to rely on.
So, the tide of exiting baby boomer owners is rising, but the crest of the wave is still approaching.
Being personally prepared to sell is a key element of a successful business sale. Owners who are personally ready should seriously consider going to market now, while business performance is strong and market conditions are conducive. For help determining if the time is right for you and your company, feel free to contact Al Statz.

Event: Helping Business Owner Clients Achieve More Valuable Exits

/in , , /by Al Statz
When: September 22, 2015
Where: San Rafael, California
Host: CalCPA San Francisco-Marin Discussion Group
As baby boomer owners and shareholders of privately-held businesses reach retirement age and get serious about exiting ownership, they face many new questions and challenges and turn to their professional advisors, often their CPA, for solutions. Based on his experience helping over 100 companies successfully sell or transfer ownership to partners, management or the next generation, Exit Strategies’ founder Al Statz will discuss the following topics in this presentation to CalCPA members and guests:
  • What exit options do owners have?
  • What factors affect the value of a company?
  • Does the preferred exit option have value implications?
  • What is an exit plan comprised of?
  • Marketability and other considerations
  • Services CPA’s can provide to help clients optimize their exits

Simple Way to Avoid Stale Thinking and it’s Ugly Cousin Group-Think

/in , /by Al Statz

Al StatzAs a professional advisors we all have habits, standards, rules and regulations that direct much of our daily activities. It’s important that we constantly reexamine our preconceptions, processes and practices to avoid stale thinking. It’s easy to default to accepted dogma that might be hindering our work. This isn’t to say everyone needs to be on the absolute leading or bleeding edge of their profession. However, periodically challenging our thinking and methods helps stimulate us to better serve our clients.

At Exit Strategies we do this with monthly best practice calls and regular “Summit” meetings.

Asking “why” is a necessary first step. We also need continuing education and fresh perspectives from team members.  (If you are a sole practitioner, you can invite colleagues, competitors or allied professionals, who likely face similar issues, to come together to share ideas and best practices.) To make this a productive exercise, have a shared agenda among participants to create commitment. When one person dominates the agenda, individual engagement diminishes and the session becomes less effective for everyone involved.

At an Exit Strategies Summit meeting, we typically set aside a full day away from the office to cover 6 to 8 important issues, ranging from M&A best practices, business valuation models, recent court cases, new or existing service offerings, market research, industry trends, internal systems or processes, or lessons learned from specific client engagements. Beforehand, we vote on topics and each team member takes the lead on at least one topic. During the meeting, to avoid group-think, a flow of ideas is encouraged, with open debate and critical assessment. Sometimes we invite outside professionals for fresh perspectives. This collaborative and collegial process produces greater clarity and better solutions, and it re-energizes our team. Of course, turning ideas into reality is what matters most, so we create accountability with specific and measurable action items, deadlines and follow up.

Obviously Exit Strategies didn’t invent this, but I hope that sharing this practice inspires or reminds our friends, colleagues and current and future clients, to adopt a similar practice to avoid stale thinking and its ugly cousin group-think.  

For further information contact Al Statz. 

What is a Recapitalization Exit Strategy?

/in , /by Al Statz

One of the exit strategies available to company owners is called a recapitalization, or “recap”.

In a recapitalization, an investor (usually a private equity firm) purchases an equity interest in your company using a combination of cash and debt financing. They expect to grow the company and earn an attractive return on their cash investment when they sell the company at a higher price in 3-7 years. Their value creation strategy usually involves initiatives to accelerate growth, increase profit margins, mitigate business risks, and professionalize the business to make it more attractive to future buyers.

Why Recapitalize?

A recapitalization gives an owner significant liquidity now AND gives them a second larger bite of the apple when the PE firm is ready to exit and sells the company to another PE firm or strategic acquirer. A recapitalization can also facilitate:
  1. a buyout of only specific shareholders,
  2. the transfer of partial ownership to the next generation, and
  3. equity participation for remaining management.

When they recapitalize a business, PE firms usually acquire a majority (controlling) interest and don’t play a role in day-to-day management. They bring financial acumen, systems and growth capital, sit on the board, and participate as a strategic advisor.  They prefer to retain the existing management team, which often includes the owner. Owners who recapitalize and stay on can achieve material liquidity and maintain control over day-to-day operations. Alignment with the investor is of course very important.

Exit Strategies Group maintains relationships with Private Equity groups and other types of financial buyers across the country and is experienced in both sourcing potential equity partners and negotiating recapitalization transactions that fit our clients’ goals.

Al Statz is the founder and president of Exit Strategies Group. He is based in Sonoma County California. For more information on selling or recapitalizing your company, or to discuss your strategic exit options, contact Al at 707-781-8580 or alstatz@exitstrategiesgroup.com.

How Well Do You Know Your Exit Options?

/in , /by Exit Strategies

You have built a business that provides a strong income and comfortable lifestyle. However, if you are like most business owners you haven’t made the time to know the range of options you have to successfully exit the business and transfer your wealth. The tax, legal, valuation, deal structure, and insurance considerations are many. Even if you had the time, where do you begin?

Before you can evaluate any of these options, you must first decide what your goals are. Are there other owners to consider? If so, are their goals similar or different than yours? What personal and family issues do you want to consider? Are you strictly looking for the best price? Are you tax sensitive? Have charitable intent? Are you financially prepared? Mentally? The earlier you begin planning, the more options you will have at your disposal.

Once you have determined your goals, you can begin to narrow the list of exit options available to you. Do you intend on doing an internal transfer to a key employee or employees? Family member? Is an ESOP a viable alternative? Is your estate plan designed around your desired exit? Are contingencies planned for and protections in place?

Whether you plan to transfer your interest internally or to a third party, knowing how much your business is worth is a great starting point. Internal and external transfers can imply different valuation standards that can render very different values. You want to know these differences before you make a decision. A business valuation will also give you a good idea if the transfer can be financed.

What is your time horizon? More time is better, especially for external sales. Is the business saleable as is? Aspects of your operations may need improvement before you go to market. How do you select an M&A advisor?

The earlier you begin planning your exit, the more options you will have at your disposal.

Achieving a successful business transfer requires a process. An M&A broker/advisor can lead this process and guide and coordinate the professionals required to help you reach your goals. An owner can attempt to lead this process on their own, but it’s not easy. Your time is probably best spent running your business at peak performance. Still, it’s up to you to appoint a competent adviser to guide the process and ensure that your other professional advisors are on board and up to the task.

For a confidential conversation regarding your exit options, contact one of our senior advisors.  

Vaguely Right or Precisely Wrong about Cash Flow

/in , /by Al Statz

Al StatzWarren Buffet once quoted the economist John Maynard Keynes, “I would rather be vaguely right, than precisely wrong,” in describing how he determines the appropriate cash flow measure of a company.

Indeed, determining the value of a business is not a precise exercise.  However, neither is the process random guesswork. After assessing the facts and circumstances of the business, the appraiser’s goal is to find a value that represents what hypothetical or actual market participants could be expected to pay for the business or an equity interest therein.

When it comes to understanding financial performance, privately held businesses present several challenges not present in public companies. For beginners, private companies are not held to the same financial reporting standards. Hence, financial statement quality varies widely from business to business. Business appraisers and M&A advisors must look at the reported numbers and make a series of adjustments before applying valuation methods. Valuation analysts typically make four types of normalization adjustments to arrive at a true measure of cash flow (or some other economic benefit stream).

Four Types of Normalization Adjustments

  1. GAAP related — typically for comparison with industry peers
  2. Non-recurring and extraordinary items
  3. Non-operating assets, liabilities, income and expense
  4. Control-related — adjusting owner benefits to market or reasonable replacement values

Owners, investors, CPA’s, attorneys, lenders and other market participants are often surprised how much work goes into investigating and adjusting financial statements before business valuation methods can be applied. Often, the smaller and more closely held a business is, the more normalization work will be required.

“Often, the smaller and more closely held a business is, the more normalization work will be required.”

There are other areas where the need for investigation and professional judgement increases in small business valuation. Small private companies seldom have the same quality of systems, and usually have more reliance on few products, employees or customers management, which increases uncertainty and adds to the risk analysis. And they rarely have defensible growth projections. The growth rate and risk score affects the discount or capitalization rate used in the valuation. And using valuation simplistic formulas, “rules of thumb” or hearsay are almost sure to yield precisely wrong results. Whereas, an accredited and experienced appraiser using appropriate valuation analysis, professional judgement, objectivity and common sense will give you an opinion of value that more accurately reflects market reality.

Exit Strategies brings independence and over 100 years of combined professional expertise to every business valuation engagement. Contact Al Statz with any questions or for a free confidential consultation on a potential business valuation or M&A need.

Business Valuation: Step one in the sale process.

/in , , /by Louis Cionci

If you are considering selling your business, I would like to let you in on an M&A (merger and acquisition) professional’s insight. I have been involved in initiating and managing M&A transactions for over 15 years and have handled deals representing over $250 million in transaction value. Those transactions ranged from $2.6 mm to $90 mm. In addition, I was on a team that helped an international client acquire a $2.6 billion industry rival back in 2000.

Whether $2.6 million or $2.6 billion, these successful transactions started with a business valuation.  The sale or acquisition of a business is a multi-step process, and the first step in a successful transaction between a buyer and seller almost always begins with a professional business valuation. Steps that follow the valuation include, marketing the company, buyer due diligence, negotiating the deal, and the closing.
A business valuation is a critical step on both sides of the deal table. Normally, the seller will do the first valuation, to get an idea of their company’s market value and then decide upon a price range that would motivate them to sell. The seller will generally share their historical and projected financial information with a vetted buyer. The buyer can then apply their own specific investment requirements to the shared information. Both sides utilize their valuations to negotiate the deal.
In my experience, no matter the size of the deal, the first step in a successful M&A transaction is a business valuation.
 
For more information on business valuation for M&A transactions, Email Louis Cionci or call him at 707-778-2040.

Valuation: Theory, Practice and Reality

/in , /by Exit Strategies

I attended a luncheon last week where a private equity firm’s panelist claimed that business valuation is too theoretical and inappropriate in the transactional world.  I instinctively question broad-based statements like this, when I hear them; however I listened attentively. The panelist correctly asserted that most valuation firms focus on compliance and litigation work as opposed to transactions. However, his criticism of valuation work was illogical and inconsistent, and offered no better alternative.

To make his case he defined enterprise value in transactional terms as: what it would take to buy 100% (equity + debt) of the company excluding cash, in an arm’s length deal. Okay, so far this was sounding a lot like the willing buyer/willing seller concept of Fair Market Value.

He went on to discuss how firms are typically valued by valuation analysts. These were his assertions:

  1. The income approach, known as discounted cash flow (DCF), is too theoretical. I disagree. This approach seeks to price businesses by assigning a risk-based rate of return to the expected future income. Strategic buyers use the DCF approach whenever they expect non-linear growth in the business. In business valuation we determine value to a strategic buyer under the Investment Value standard. Risk assessment also very similar to what bankers and insurance people do, although evaluating the risk of a going concern involves qualitative assessments that are harder to quantify. Proper application of valuation theory, tempered by common sense can provide clear insight into fundamental value.
  2. Comparable transactions are the most important. This is consistent with business valuation theory, and I agree in concept. In reality, a lack of data and inconsistent reporting of private business transactions makes accurate comparisons difficult. Therefore, this approach is often used as a reality check against income approach results.
  3. The factors used to gauge a company’s debt capacity are very similar to analyzing equity value (like customer concentration, poor systems, etc.). Agreed. Again, it’s pricing the risk of the operation.  A bank won’t lend money to a risky firm, or if they do, terms and pricing will be more stringent. The income approach he decried as “too theoretical,” works the same way.

He went on to discuss the price ranges that he sees in transactions. Typically, he said, adjusted EV/EBITDA multiples range from 3.9 to 6.9. This range can be explained by varying degrees of profit margins, expected growth and risk, as well as potential synergistic benefits. But he gave no indication how to quantify these issues.

In the end, I suspect that the panelist just didn’t understand business valuation very well, and described the world as he sees it through a narrow lens.

Two concluding points:

First, when valuing your life’s work, all reasonable valuation approaches should be considered. One approach may be more appropriate than another. All approaches lend insight into value. It’s not an all or nothing exercise.

Second, don’t trust your business to someone who lacks valuation expertise, someone with a limited point of view, or someone who may have an agenda.

Exit Strategies brings independence and over 100 years of combined valuation and M&A transaction expertise to every engagement. Contact us for a free confidential consultation with one of our senior advisors.

How to Sell Your Business for More Than Fair Market Value

/in , /by Louis Cionci

If you are selling your business and you want the highest possible price, here is one way to get a premium over its Fair Market Value.

First, consider that the value or price an owner can expect to receive for their business is generally a function of: 1) free cash flow generated, 2) growth expectations, and 3) the risk involved in receiving the cash flows. These factors combine to determine the value for the business entity. Expressed another way, the value of a business is the present value of the risk adjusted future cash flows specific to the selling company.

Each company has a unique set of these factors. A Financial buyer is interested in how these factors measure up for the company on a stand-alone basis, and will determine a price that they are willing to pay for the business, or Fair Market Value, relative to their other business investment opportunities, including other businesses for sale. Most buyers are financial buyers.

But there may be another type of buyer looking to buy your business — a Strategic buyer.  This type of buyer has a complementary business, generally in the same industry or a related field, and expects to be able to combine the two companies to achieve synergistic economic benefits. Synergistic economic benefits can take many forms: reduction of expenses through economies of scale, new or complimentary products or services, industry risk diversification, increased market share, customer acquisition, defense of a market position, upstream or downstream vertical integration, increased sales of core products, less expensive than building from scratch, and others.

By combining the two companies, the buyer expects to produce an economic benefit that is greater than that available to the selling company on a stand-alone business. Therein lies your premium to fair market value. The seller is now more valuable by the amount of the expected synergy, to that particular strategic acquirer. The seller’s premium is some portion of the synergistic value. The strategic acquirer can pay a higher price than FMV because they see more value in the selling company. In addition, the strategic buyer is generally motivated to achieve the strategic benefit. This provides the seller with some leverage, and helps the process to achieve a successful completion, particularly when the seller’s M&A advisor brings multiple strategic buyers to the table.
 
Identifying, educating and motivating strategic buyers is one of the many facets of successful M&A brokerage work. For more information on strategic buyers or the M&A selling process, Email Louis Cionci or call 707-778-2040.