Business owners often ask us, “What steps can I take today to maximize the value of my company when I sell?” The most obvious answer is to increase revenue and cash flow prior to selling. A less obvious answer is to minimize the risks that may be perceived by the future buyer of the company. There are a few steps that business owners contemplating a sale should take today to address concerns that may be voiced during a future sale.
1. Prepare audited financial statements. A buyer is most concerned with the financial performance of the selling company. Audited financial statements give the buyer comfort that the financial picture painted by management is accurate and that no material differences will be discovered during due diligence. The greater the buyer’s comfort with the financials, the more likely the buyer will pay an increased multiple that will withstand scrutiny during due diligence.
2. Treat inventory in accordance with GAAP. A privately held company is focused on maximizing its tax deductions. Often this results in aggressive treatment of inventory obsolescence and write-offs. However, during the sale process, the selling company wishes to be paid for all inventory. Buyers are unwilling to pay for inventory that has been written off or is not on the company’s books. Maximize shareholder value by investing in taxes prior to any sale.
3. Minimize certain discretionary expenses. One of the benefits of owning your own company is your discretion in crafting the company’s benefit plans and expense reimbursement policy to maximize the benefits to the shareholders. For example, a company may have a policy of contributing 15% of salary to the company’s profit sharing plan because a material portion of the contribution is allocated to the shareholder’s profit sharing account. It is difficult to attempt to convince a buyer that such contributions will not be required post-closing and therefore a portion of the prior contributions should be an adjustment to cash flow. From the buyer’s perspective, the rich contribution is part of the employee’s compensation package and should not be changed. These changes are better handled prior to any sale.
4. Allow sufficient time following a material change in the business to prove the results. To receive full credit for any positive change in the business, the selling company needs to provide quantitative proof of the change’s impact on the financial performance of the company. For example, if a manufacturing company has added an additional production line that will increase efficiency by 5%, the company may argue that prior period results should be adjusted to reflect such improvement. However, a buyer must see proof of the efficiency savings to be willing to make this adjustment. An obvious means of proving the efficiency is to present financials demonstrating the efficiency gains.
5. Recruit middle management. The introduction of a deep management team reduces the buyer’s reliance on any given member of the team. As a result, the buyer is more comfortable that the future success of the business is not dependent on a few key people.
6. Prepare a phase one environmental report if real estate is involved. In a transaction, real estate is generally more of a liability than an asset. Buyers are concerned with unknown liabilities and sellers are concerned with receiving adequate value for the asset. The preparation of a phase one environmental report allows the seller to be proactive in managing potential issues. To the extent any environmental cleanup is needed, the seller can have this work performed prior to the sale process. The expense of the cleanup is treated as non-recurring and is generally an adjustment to historical cash flow. If the seller waits to address environmental issues, the cleanup costs, if any, will be paid out of the proceeds of the sale.
7. Maximize the amount of unadjusted cash flow. Five million of EBITDA sells better than four million of EBITDA and one million of adjustments. During the sale process, most buyers are focused on management’s ability to duplicate past financial results in the future. Beyond that, the paramount issue is the company’s historical financials. Any steps the seller can take to increase the buyer’s comfort in the accuracy of the financials will increase the likelihood of a premium price.