By thinking about key issues early, you can maximize your exit value and avoid costly mistakes.
Five years out seems like a long time to be thinking about selling your business, and it is. But, by learning about the process early, you can maximize your valuation and increase the price buyers are willing to pay by millions of dollars.
It may seem like ample time to start planning, but five years out, you need to start thinking about your goals as an owner and how you are going to prepare your company for its eventual sale. By beginning to tweak your business to emphasize traits that buyers are looking for, you’ll maximize your eventual sale price. But many of these small changes take time.
When they are eventually evaluating your company, institutional buyers are going to care about the following items. These are applicable across industry.
You should start pulling levers to emphasize these traits. From my experience in private equity, the ideal company is one growing 20%+ per year profitably with zero customer churn and a lot of diverse customers. Obviously your business is going to differ from the ideal but that gives a baseline of what to strive for.
Whatever you do, do not sacrifice profitability for growth. The majority of private equity firms won’t even look at buying you if you aren’t profitable and it doesn’t make sense to cut an entire segment of buyers out if you’re serious about selling. Furthermore, buyers will often assign a multiple on your profitability to get a valuation for the company. A $10m revenue company with $1m in profitability will usually be valued less than a $7m revenue company with $2m in profitability.
At this point, it also makes sense to build a strategic plan that includes your goals for an eventual sale, a timeline for when you want to sell, and specific profitability and valuation targets if you have them. Setting specific goals now will help you evaluate offers in a few years time (and you’ll probably surprise yourself with how well you beat your goals!).
It’s also important to make sure your books are in order. Buyers assign a valuation premium to companies whose accounting they can trust. Waiting to perfect your accounting practices until you’re already in the sale process can be disastrous if you can’t prove how much money the business is making. Five years is far enough out that you don’t need to retroactively correct any previous mistakes; just make sure your go-forward accounting is buttoned up. Consider hiring a bookkeeper if you have the resources. At the very minimum, make sure your accountant is doing their job.
On the customer side, five years out is a great time to start clamping down on problem customers. Over the long term, small and problem customers will likely be the source of your churn and can have a detrimental effect on the valuation you ultimately get. Consider firing customers that you’ve outgrown or that are unprofitable, even if it temporarily decreases revenue. Five years is long enough to rebuild that revenue and the long-term value of having a loyal, high quality customer base is substantial.
Overall, five years out should be mostly business as usual. Start to plan for an eventual acquisition with incremental changes and focus on building the business. It’s still too early to reach out to interested buyers or start to run a formal process.
Congratulations, you’ve spent the last three years growing your company and now have a profitable, stable business. You’ve tweaked your customer base to reduce churn and you know what your goals are for your eventual sale process. Now is the time to start to do more specific research on the M&A process and have initial conversations with potential interested buyers.
Start to think about your specific method of transition. Do you want to sell to a private equity firm? A family office? A strategic buyer? Create an ESOP for your employees? (I’ve written another article on the difference between these here). Do your research on options. There isn’t a need to come to any conclusions now but having the background information will be useful in conversations down the road.
Over the years, you’ve probably had various buyers asking for your time to see if you’re interested in selling. Now is the time to start answering your phone and having conversations with those folks. The goal of those conversations should be two fold. First, ask them about their specific deal process and what they generally look for in the companies they buy. Second, ask them about what they are seeing in the industry in terms of valuation. They will likely low-ball you but it will give you an idea about industry trends. Build a list of the folks who have called you. This will prove useful when you’re ready to sell.
Try to learn more about M&A in your industry in general. If you know thought leaders in the industry, engage them in initial conversations. Attend industry-specific webinars on M&A. If you go to your yearly industry conference, engage the M&A professionals who are there and ask questions about the process. The more you can learn now, the easier the process will be in a year or two.
Also, now is the time to specifically define your goals with regards to a transaction. If you’re flexible on deal structure or timeline, that’s fine but the more specific you can be with your goals, the easier it will be to find a specific partner.
Great job so far! You’ve kept your business running and growing smoothly, you’ve learned about M&A trends in your industry, you have a good idea of what a typical sale process looks like, you’ve talked to several potential buyers and you have a great list of interested parties to contact. Now is the time for all that hard work to pay off!
First off, make sure your books accurately reflect your business. Do a self-audit to make sure revenue lines up with the correct time periods, you aren’t missing invoices, and there aren’t any off balance sheet assets or liabilities. The only time I’ve ever seen a private equity firm back away from an offer is when the books were so convoluted they couldn’t understand the business or they suspected fraud.
Six months out, you should finalize how you want to run your deal process. There are two basic options: hire an investment banker or broker or run the process yourself (read more here). In short, hiring an investment banker will probably give you peace of mind but will cost you hundreds of thousands of dollars. If you followed the steps above, you have more than enough information and know-how to engage financial sponsors yourself.
Regardless, step one is to take your list of folks who have called you over the last couple years and call them back. Let them know you’re thinking of selling your business and are interested in engaging with them before you hire a banker (telling them this will ensure fast responses). If you find a couple that you mesh well with, it certainly doesn’t hurt to explore what a potential sale would look like; if anything, you’ll avoid the 3%-10% that a banker would charge.
If no one has called you or you haven’t taken their calls, don’t fear; you have a bunch of great options. If you’re comfortable with representing your own business, you can reach out directly to many private equity firms or have a service do it for you for little-to-no cost.
If you want a more comprehensive experience and are willing to pay for it, hiring an investment banker to take care of the process might be a good option for you. They’ll walk you through the deal process and create marketing documents, provide you with connections, etc. However, make sure they have expertise in your specific industry. This option will cost you hundreds of thousands of dollars so do not take it lightly.
You’ve successfully made your business the best it can be in anticipation of a sale and are ready to begin the process of actually selling your business.
One last piece of advice: If you’ve taken the steps to make your company attractive, tell your story to buyers yourself and let Quiddity help you sell. We offer connections to hundreds of top-tier private equity firms completely free. Give us a try before you spend hundreds of thousands of dollars on a broker.
If you’re interested, check us out here.
Best of luck!