How Should an Owner-Managed Business Prepare to Sell Their Company?
When selling your business as an owner-manager, the right preparation is absolutely critical. Taking the proper steps at an early stage can help to maximise the sale value, facilitate a smoother sales process and ensure you are legally protected, both during the sale and should any issues arise post-sale.
In this article, we provide general guidance on some of the key points owner-managers should consider when preparing to sell their business. However, it is important to note that this is not intended as specific advice for any individual business as each situation is unique. We strongly recommended to seek expert advice when you are first considering selling your business so you can take the right steps for your circumstances.
Be ready to communicate clearly why you are selling
The reason why you are selling is likely to be hugely important to potential buyers and your employees . It could also impact relationships with customers, suppliers and other key partners. It is therefore a good idea to think about how you are going to explain the reason for the sale and when different parties need to know.
Ensuring there is a clear, understandable narrative around the sale can increase confidence from buyers, so can boost the sale value you achieve. Communicating this to employees, customers and other key parties ahead of making the sale public can minimise any anxiety that could cause people to start considering whether it is time to move on, which can harm the value of your business.
Get the right advisors in place
There are a lot of different facets to business sales, so you should get the right experts on board as early as possible.
An experienced business broker can find buyers for you and help to secure the best possible deal. You will need an accountant to help prepare the businesses books, which any buyer will want to review. It is sensible to speak to a tax adviser, to make sure you understand the tax implications of the sale and that it can be structured in the most tax-efficient way.
Perhaps unsurprisingly, we strongly recommend speaking to a commercial lawyer with experience in similar business sales. They can assist with a range of issues, including reviewing your business’ contracts and agreements, making sure your paperwork is all up to scratch, preparing the contracts of sale and protecting you against any risks associated with any necessary indemnities and guarantees.
Decide how the sale will be structured
Typically, a business will be sold either by a share sale or an asset sale. Which makes the most sense will depend on the scenario and is likely to significantly affect the sale value.
In a share sale, the buyer purchases the company as an entire entity. This means they acquire all of its assets, liabilities and obligations. This is more likely to be attractive to buyers where the company is trading profitably, so acquiring it as a going concern is desirable.
In an asset sale, the buyer purchases the assets of a business, but does not buy the company itself. This is likely to be more attractive to buyers if the business is not particularly profitable or they do not wish to keep it running as a going concern for any other reason.
As a seller, a share sale is usually simpler and more tax-efficient, but the buyer will normally require you to give more comprehensive warranties and indemnities against any unexpected liabilities that might arise after the sale.
Establish the financial health of your business
The financial position of your business is absolutely one of the key things any potential buyer will want to know. While you (hopefully) know your turnover and profit figures, there are other key indicators a buyer is likely to want to know.
Firstly, it is prudent to be familiar with two key terms during an evaluation:
- EBITDA – this stands for Earnings Before Interest, Taxes, Depreciation and Amortisation. Essentially, this is the raw net profit of your business.
- SDE – this stands for Seller’s Discretionary Earnings, which refers to a financial metric used in business valuation, particularly for small and privately-owned businesses. It represents the total earnings generated by a business, including the owner’s salary and other discretionary expenses that may not necessarily be incurred by a new owner.
To calculate your Seller’s Discretionary Earnings (SDE), you should begin by considering your earnings before taxes and interest. From there, you can include any non-essential expenses, such as vehicle or travel costs, that are categorised as business expenses. Your SDE can include items such as employee outings, charitable donations, one-time purchases, and even your own salary.
When presenting your valuation to potential buyers, it is important to be ready to account for and assign value to significant expenses or purchases, as buyers may enquire about your discretionary cash flow. Lastly, deduct any existing debts or future payments, also known as liabilities, from the net income to arrive at a final SDE figure.
Have your business valued
For a reliable business valuation, you should work with a qualified business valuer or chartered accountant. They will provide a valuation that is based on your company’s financials, assets, position in the market and potential for future growth. Having this sort of solid basis for the sale price you are seeking will provide you with a stronger negotiating position when dealing with prospective buyers.
Organise your finances
Before embarking on the valuation process, it is crucial to organise your financial information. For both sellers and buyers, organising financial records is essential to calculate accurately the value of a small business and facilitate a smooth transition of ownership.
In addition to valuation purposes, having well-organised finances is important for the overall process of transferring business ownership. As a seller, it is important to gather the following documentation for a streamlined valuation process:
- Licences, deeds, and any proprietary documents related to the business
- Profit and loss statements for the past three years
- Tax filings and returns for the relevant periods
- A brief overview of your business or personal finances, providing a snapshot of your financial situation.
Research your industry
Having a comprehensive understanding of your industry is essential for business sellers as it enables you to determine a well-informed valuation that will align with your business assets and the current market conditions.
When selling an owner-managed business, conducting thorough industry research is vital for precise valuation, attracting buyers, risk management, effective negotiation and strategic transition planning. This research empowers you to make well-informed decisions and present your business in the most favourable way to potential buyers.
Sellers should also aim to be as well informed as possible about companies similar to their own in terms of size, business model and revenue, as this will help them to determine a clear valuation for their own business.
Define, streamline and document your processes
Having well-defined, efficient and clearly documented processes will make your business much more appealing. This can essentially form an ‘operation manual’, telling someone exactly how your business works and what anyone coming in needs to know to keep things running smoothly.
Review your legal compliance and operational risks
Having legal and operational risk experts review your business can help to surface any potential issues that would be uncovered by a buyer during due diligence.
Your contracts, leases, licences, intellectual property and processes should all be closely examined for any potential areas of risk. You can then take steps to address those risks before looking for buyers, helping to avoid any nasty surprises later on that could undermine a sale or reduce the price a buyer is willing to pay.
Secure key customer and supplier relationships
If you can, it makes sense to lock important customers and key suppliers into longer contracts ahead of a sale. This can give prospective buyers more certainty over the business’ financial position post-sale.
Think about confidentiality
When selling a business, you are going to have to share a lot of sensitive information with potential buyers, including financial details. It is standard practice to have prospective buyers sign a non-disclosure agreement (NDA) before sharing this information with them, so this is something you should discuss with your lawyer.
Get expert advice on selling your business
Longmores have guided a wide range of owner-managed businesses through sales and mergers, as well as acting for buyers in various scenarios. We can provide clear advice and hands-on support through every stage of a transaction, helping you to secure the best value and protect yourself during and after the sale.
To discuss how we can help with business sales, please contact our Partner and Head of Company Commercial Michael Budd, who will be happy to advise.
Please note the contents of this article are given for information only and must not be relied upon. Legal advice should always be sought in relation to specific circumstances.