"John me, old china! Please get serious and let's put the company up for sale again," said Bill to his accountant.
"Bill, every year, you declare a loss and complain about how you don't want to pay too much taxes," repliedJohn. "Every year, you reduce your tax exposure and sometimes declare losses. You must understand that if your company is continually showing losses, then it is, in effect, losing money. I'll give you a heads up – this business that you want to sell will be of little value to a prospective buyer, save for the land and buildings," advised John.
They say that self-employed people avoid a 40-hour week to do a 60-hour week. It is also true that most business owners would be financially well off if they applied their skills under the employment of another person or corporate body. Why, then, do business owners choose the route of self-employment when it often leads to hard times and less money? There are many reasons, the main one being that business owners tend to be optimistic and believe that tomorrow is a brighter day and that eventually, they will earn more working for themselves than if they just got a job.
The reality is often very different as employers assume debt, employee disputes, tax charges, exchange rate fluctuations, etc. It is also not uncommon for an employee to earn significantly more than a business owner. Some benefits of being a business owner are intangible rather than financial, such as the flexibility to plan time away with family when it best suits one. However, every business owner aspires to create long-term value that will tide them through old age and retirement. Whether this pans out, in reality, is another matter.
My buddy client, no names mentioned, came to me and said, "Oh John, I'm no longer a spring chicken, and my wife is tired of this farming stuff. I want to sell the company now. Please do a valuation and let's put the business on the market." As most owner-managers know, there is a lot of self-financing in a start-up business, with borrowings from friends, family, and fools. Consequently, most small to medium-sized businesses have shareholder loans that would, if they were interest-bearing, choke the business. So, the numbers from a third-party perspective are sometimes unimpressive. Anyway, I did the valuation for my buddy, presented the figures to him as over a cold beer.
His response? "Get lost! I'm not selling my business for that!"
A couple of hours and a few beers later, I explained the business valuation and how it reconciled (or not) to his sentiments. Fortunately, there were a few prospective buyers in the queue and, yes, they did come to open the hood and kick the proverbial tires, but it all fell apart. The main reason they walked away was that "they didn't see the business surviving without the key influencer and owner-manager."
For business owners considering exiting by the sale of a business, there are a few factors to consider and plan:
1. Create robust business systems
As tight-fisted as André is, ABACUS360 documented procedures and allocated job roles to staff. Restructuring work and job roles are the hardest part of the business re-engineering process since the owner-manager "suffers" an apparent loss of control as he gives away functions and procedures to staff. André was required to delegate time-consuming low-value roles, such as paying bills and taking orders from customers. I recall his accountant calling me to say, "André is pissed off with me for asking him to account for the cash we gave him." André was always a good money manager, but –only on his terms. Transitioning him from managing and free-wheeling all transactions was the hardest part of our transition process. Jeepers! I almost resigned as his and had to bite my lower lip so many times. Today, André is up at 5 am (out of habit), but only goes to the farm office at 7:30 because his staff has taught him to "mind his business" and mind his lane. Truthfully, he is less stressed, although it took a long one year to get to this point.
2. Create a succession plan
André always hoped his sons would join him in the farming business, but just as I would like my son and daughter to carry the mantle after me – it's not going to happen! My son took the construction route, while my daughter is studying mechanical engineering. So, André has brought in a very able farmer from Zimbabwe to shadow him and hopefully take over the reins. Succession planning is complicated since nobody knows their employee's real aspirations are, and no job should shackle anyone.
So, the young Zimbabwean farmer is bringing in modern farming methods, and I have advised André to get a second person to help grow the business side of things, but – that's another matter.Succession planning can be expensive in the short-term and can also be costly for the long-run if the owner-manager doesn't have a worked-out plan as to what staff involvement will be going forward. The owner-manager needs to delegate roles and responsibilities to a point where they become an investor rather than an owner-manager, which essentially is employee status.
3. Strive for profitability
André had a tough time raising money from his bank in 2016 because the bank was critical of his financial performance, which seemed poles apart from his confidential banters on how the company was faring. André struggled for nine-months to get financing as the bank refused his loan requests because his accounts showed little hope of profitability in the immediate future. So, if the banks are skeptical of performance assurances, what do you expect from prospective investors or outright buyers? The culture of preparing financials solely for tax purposes is self-disparaging, in the long-run. Potential investors use signed financials and tax returns as the due-diligence starting point. Side stories about performance, etc. won't wash. There are several ways of reducing tax exposure and enabling owner-managers to obtain rewards for their efforts. Still, these decisions and choices need to be made early during the financial year, rather than at year-end.
4. Strengthen your balance sheet
André has two years of financial planning and fixing before his company can credibly go to market at a price that reflects his efforts to date. Investors will review the past three year's financial statements, and so far, we have worked to help him tidy up his balance sheet. Investors will also consider liquidity and efficiency ratios, which include current ratio, interval measure, average collection period, inventory turnover ratio. André's balance sheet must improve over the next three years, demonstrating that he is managing his business efficiently while improving liquidity.
These four steps are the best process for planning to sell a business as an exit strategy. Sometimes a sale is forced or arises from an unforeseen opportunity. Forced sales usually result in liquidated book valuations with no consideration of future cash flows. If a buyer appears from out of the blue, the business owner should perform a valuation to determine a fair selling price. The appropriate valuation method will consider expected future cash flows, growth potential, and risk. The overarching assumption being that the business remains a going concern and so the valuation is intrinsic rather than relative.Business owners are encouraged to perform an intrinsic valuation of their business so that they may fix factors that erode value and give perspective to an exit strategy.
André is in year two of a three-year plan to enhance value to his business. Hopefully, his dream of retirement in Xai-Xai, Mozambique will be realized soon.