3 Things You MUST Know Before Listing Your Business for Sale

Making the decision to sell your business will likely be one of the biggest you'll ever make. Much like with real estate, timing plays an important role, as many buyers tend to shy away from purchasing when the economy is struggling.

Although interest rates have increased by nearly 5 basis points since last year, the U.S. economy continues to outperform most of the world. And while higher rates make it more expensive to borrow, many private equity groups (family offices, holding companies) are sitting on cash reserves and aren't impacted by rate hikes.

Too often, business owners list their business without performing a business valuation. Valuations do much more than show the financial performance of the company; they also provide some key insights that buyers, banks, and CPAs look for when a purchase is considered. For you, as the seller, knowing the answers to these components will help to get a buyer to say yes and avoid surprises during due diligence.

Here are three critical measures:

  • Industry performance comparison: A key indication of how valuable a business truly is is how well it performs relative to its competition. Going well beyond just revenues, expenses, and net profit, this analysis looks at AR & AP turnover, inventory turnover, and cash conversion cycle. Buyers want to know how the money is moving and to where. If your business is underperforming in these areas, simple fixes can be made to improve them. It may not seem important compared to profitability, but to a buyer new to your industry, it reveals quite a bit.
  • Seller proceeds/illustrative term sheet: Perhaps more important than what the listing price is is knowing how much you'll actually leave the closing table with when selling. Do you have an estimate of closing costs, brokers' fees, and other expenses associated with selling? What about income and capital gains taxes? Maybe you've been asked to provide some owner financing. What can you expect to receive in interest and total payments?While the specifics on taxes should ultimately be discussed with your CPA, knowing how different scenarios affect your payout is absolutely essential before agreeing to terms. Too many deals fall apart when these discussions happen after a Letter of Intent. Don't let that happen to you.
  • Debt service coverage ratio: This might sound like a "buyer's problem" and, for the most part, it is. However, if a buyer can't secure funding because of debt-service projections, then it becomes yours as well in a hurry. The SBA requires that a buyer's ratio be at least 1.25 and any seller's notes, unless put on standby, are included in this calculation.

Business valuations should take this factor into account. With changing interest rates, sale prices might model above this key number one day and below the next. Your business broker should be able to model scenarios to anticipate this and avoid any surprises during due diligence. As always, when considering seller financing, always consult with your attorney and CPA.

Taking the time to address these three areas of analysis prior to entering the business-for-sale market will provide peace of mind and a roadmap to get to the closing table.

For more information on business valuations, please email us at jholmes@tworld.com