Do you have an exit plan?

Many “Baby Boomers” are either in retirement or thinking about the subject. The considerations for those who own businesses are quite different from an employees. The article below explores some of the things that business owners need to think about as they approach retirement.

Business owners usually want value for what they have created

Assuming you and your business survived the recent financial crisis, your exit is not as easy as that of an employee leaving or retiring from a business. In some cases family are involved in the business and the next generation will pick up the reins and drive the business forward. Then there is still the sticky item of getting payment for the business from the succeeding generation of the family.

If this is not the case you could just shut the doors, but that gets you nothing for all the hard work and pain involved in building the business. Surely after all the work your business is worth something?

Your expectation is probably to sell the business for a reasonable sum when you are ready and add the money to your retirement savings or pass it on to your children. The actual decision about when to sell may be something you’ve thought about in abstract terms and not planned well in advance. “When I’m ready, I’ll talk to a few people I know and probably get a business broker”.

The problem is that there are likely more Baby Boomers with businesses to sell than there are buyers. Not all businesses are going to be attractive for someone to buy.

Always have an exit plan

A good buddy of mine is a successful serial entrepreneur who has started and built a number of businesses from scratch. One of the things that I enjoy discussing with him is the exit plan for the current business. Usually he has determined a number of points at which to exit the business depending on business performance and growth rate. He always operates on the premise that all businesses are for sale…it just depends on the price. This has led to some early exits when people have offered him good value to get out of the business early.

When my friend sold his biggest business he worked on the exit over a 3 year period. From what he has shared with me the business exit process required nearly as much work as the start-up process. After the sale he spent over a year working for the purchasing business.

Carefully planned exits are not the norm

The key difference between my buddy and a lot of business owners is that the majority are very attached to their business. They have nurtured it over a big part of their lives and usually only think about selling the business when they have decided to retire or have health issues and don’t have family members who can take over the business.

There is not likely to have been enough work done to position the business for sale at this point. So the sale process can take a lot longer than anticipated and may not produce the results you were hoping for.

Some considerations in relation to selling your business

The information below is general in nature, does not constitute financial advice and is only intended to give a feel for some of the issues involved in selling a business. We strongly suggest getting dedicated help with your sale process to ensure you get advice that is appropriate for your individual circumstances.

How are businesses valued?

As a rough rule of thumb three times the average of the past three years’ EBIT (Earnings Before Interest and Tax) is a good starting point for a privately owned business. In addition you would likely retain debtors (to collect) and be able to sell your trading stock separately (often the business purchaser buys it for an additional amount). At the low end businesses have been transacted for almost nothing and at the high end for a particularly desirable private business the multiples can be much higher (7 or more) though this is unusual.

What size is your business?

A smaller business up to say $2m in value (3x EBIT) can be purchased by an individual. Anything bigger is more likely to be acquired by a business or a group of individuals pooling funds, though there are high net worth individuals who could afford a more expensive business. Generally, the bigger the business the smaller the pool of potential buyers.

Does your business make a profit?

As mentioned in the first question, the usual valuation of a business takes into account the prior three years earnings. If your business is not making money then it really comes down to what the business has that is of value. Intellectual property, assets or a market position (that is better to acquire than compete for) are some things that may have value. Unfortunately these are unlikely to value the business as highly as multiple of EBIT.

Is your business easy to understand or more complicated?

Simple, easy to understand businesses are typically easier to sell that ones that are complicated or require specialist knowledge. The more specialised or complicated the business the smaller the likely group of purchasers.

Do you have a well-documented business plan?

Often in a smaller business the plan is there, but only in the principal’s head. When buyers look at your business they are looking for future cash flow and what growth the business has. A well-documented business plan gives the buyer something solid to take into consideration in the purchase process. If there is no business plan the buyer will have to make their own assumptions on where the business is going, which could undervalue the business.

Who are your customers?

Do you only have a few large customers or do you have a large number of smaller customers? If most of your business is tied up with a few large customers the loss of any individual customer is a significant risk to the business (no matter how good the relationship) and is likely to lead to a discount on any offer price after due diligence. Better to have a large number of smaller customers with none bigger than 10% of your business.

How loyal are your customers? If you have customers who are highly loyal (possibly due to special products or services) this is likely to make your business more attractive and reward you with a higher value.

Is the business reliant on you as the main driver or do you have professional management in place?

In a small business the principal is almost always the main driver of the business. Once a business gets larger, the “professional management” issue raises its head. Once businesses get over ~$5million in revenue it is probably time to start involving some professional management, likely reporting to you the owner. As the business gets bigger the question of a professional CEO comes up. The problem with professional managers is the difficulty in finding good ones for a smaller business. Some buyers want to run the business “hands on”…others are looking for an investment with lower involvement.

Are you a significant player in your industry/geographic area or just one of the crowd?

If you are a major player in your industry (or niche market) you are more likely to attract a premium in your purchase price. A business that is one of the crowd is less likely to draw any form of premium.

Is your industry fragmented or is it dominated by a few large players?

If you are a small player in a market most made up of very large players your business may not be of high interest to a lot of buyers due to the predominance of big players in your market.

Is your business important to another business?

Is your business tied into a much larger business? Or does another business rely on your business to carry out its business? As an example: being a key part of a very large businesses distribution process. If you are important to the continued functioning of a larger business they may be a potential purchaser and likely to pay a higher price than other buyers.

How far ahead do you need to start work on your exit?

A reasonable time frame to start the process is three years before you want the transaction to happen. You may be lucky and get it away early or it could take longer. If you are important to the business, you also need to allow for a continuing involvement in the business for up to another year after the sale. It is common to have part of the sale value tied to an earn-out over the 12 months after the purchase. This is likely to involve your continued involvement in the business over that period.

Who does the selling?

For a smaller business, business brokers are usually involved in the transaction. Larger businesses use merchant bankers to run the sale process for them. In both cases the players specialise in selling businesses. Like real estate agents they charge a fee (usually a percentage of the price) and do the marketing of the business to prospective buyers. In all cases the involvement of accountants and lawyers are part of the process. In larger transactions other specialists are likely to be involved.

The above questions are only a few of the many that need to be considered in preparing your exit plan. Hopefully this gives you a feel for the type of things that you need to be thinking about well before you exit your business.

Make sure you have an exit plan!

It is easy to be surprised by events in the latter part of your business career. This can be life changing, sometimes not in the way that you want it to be. It is critical to have a plan together for how you are going to manage if things change.

Like my friend, you always need an exit plan! There is nothing like wanting out of your business and not being able to leave. It happens more frequently than you would think and can be distressing for you and your family. If you have friends who have sold their businesses, you can learn from their experiences. You will likely need professional help to get ready. Competitive Insights can help with business planning and some of the preparation for the sale process but you will need a business broker to do the sale process. As my friend puts it he is never happy paying for the professionals but he is always glad he has.

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