WHO WILL WANT TO BUY YOUR BUSINESS?

Prospective purchasers of your business either exist within it, in the form of family members, junior partners, or a prospective management buy-out team; or outside in the shape of a financial purchaser backing a management buy-in team, or a trade purchaser looking to acquire your business to add to their existing interests.

Since you already know the people within your business, this is usually the easiest place to start when looking to sell.

Selling to internal parties has a number of advantages in that they already know the nature of the business, its markets, customers, suppliers and so on, and therefore their need to go through an expensive fact finding exercise is significantly reduced (albeit not completely eliminated as they will need to undertake a fair amount of work in order to provide sufficient due diligence information for their financial backers).

In addition, you may be comfortable with negotiating structured payment terms or a buy-out over time by way of some form of earn-out or percentage royalties with such an internal team that you would not be comfortable with were you to be dealing with an external party. Additionally, even if you do not believe there is much prospect of a successful management buy-out, you may consider it worthwhile to explore the possibility with management, prior to going to a full sale process as, if your management feel they have had the chance to consider making a bid, but of themselves decided not to, this can reduce any chance of antagonism towards a successful external purchaser, which can help confirm to the purchaser that they have a committed and positive management team looking to take the business forward (as opposed to one harbouring resentment that they were not allowed to attempt an MBO, or worse, had one rejected). This is obviously a matter of judgement as to the personalities and nature of the internal management team, as undoubtedly in some circumstances it could also be counter productive (eg the fact that an internal management team did not pursue an MBO opportunity may colour the view of an external interested party).

Management buy-outs may or may not be undertaken backed by a venture capitalist (VC). In either circumstances they tend not to provide the best possible price in the marketplace and, if not backed by a financial institution, will generally require a certain amount of seller finance where the sales proceeds are paid over time by way of some form of earn-out or profit share.

Almost all management buy-outs, whether backed by a VC house or not, will require the management team to borrow against the existing assets of the business in order to raise the purchase price and will often also require the management team to borrow against their own assets (such as their property) in order to raise equity to put into the business. In order to help the management team raise as much money for the purchase and working capital going forwards as possible, the management team should contact an experienced asset finance brokerage in order to explore how best to raise money against their personal and the business’s assets (try www.creativefinance.co.uk) and a checklist of the information needed to arrange the debt funding of a management buyout is at the end of this chapter.

Section 151 of the Companies Act prohibits a purchaser pledging the assets of the company as security for money to be raised to buy the company’s shares. This provision is designed to prevent asset stripping where a company with significant assets could in the past be bought by someone with money raised from financial institutions on the basis that as soon as they have bought the business, they will break it up, sell off the assets and use the proceeds to repay the money they have borrowed to buy the business. In practice the Act provides a mechanism whereby so long as certain procedures are met, a purchaser can borrow against the value of the assets being acquired in order to fund a business purchase and professional advisors will be required in order to prepare what is known as a ‘whitewash agreement’.

The Companies Act also imposes restrictions on the sale of substantial business assets from the business to the directors (with civil and criminal penalties designed to prevent directors looting the company’s assets without the knowledge of the shareholders). The effect of this is that if a director wishes to purchase either substantial assets (in effect anything with a value of over £100,000 or 10% of the balance sheet) then under Section 320 of the Companies Act, the transaction requires the approval in advance of the shareholders.

In some businesses, such as say professional partnerships, it is often the case that the partnership deed provides for dealing with the retirement of partners at a specified age or set of circumstances on the basis of which their partnership share is acquired by other or new partners coming into the business.

If the intention is simply to hand the business over to junior family members coming up through the ranks, then no formal selling process may be required, although obtaining a formal valuation of the business and negotiating some form of structured buy-out of the retiring or older partner’s interest so that authority is clearly handed over to the younger generation who are then free to manage the business as they see fit, is generally advisable. Situations where there has been no clear handover of power from one generation to the next (which are usually accompanied by the older generation retaining some form of paid interest in the business, as opposed to having had their share formally paid out), can lead to paralysis of the business as staff can be uncertain as to who is really in charge, and junior members of the family may be extremely reluctant to make any changes to the business for fear of doing something that may jeopardise the older member’s income for which they may subsequently be blamed. A prolonged stalemate of this sort can do serious damage to businesses and in the long run can eventually lead to their failure.

If the business is not operated as a partnership, then there may be some form of shareholders’ agreement specifying the basis on which an individual’s shares may be sold to the other shareholders (usually on the basis of a formal valuation).

Looking outside the immediate employees and shareholders of the business, obvious potential purchasers of a business are its competitors within that industry or other businesses looking to enter the industry.

When considering how much they are likely to pay, other businesses within the industry may have an apparent advantage in that they may be able to increase the sustainable profit level by stripping out the central sales, accounting and administrative overheads where these functions duplicate services they already have. In effect, therefore, all they would need to bolt on to their existing business would be the increased level of turnover obtained from your customer base, plus the extra cost of sales in delivering that turnover and any overheads such as a sales force that are directly needed to carry on obtaining that business, enabling them to spread their administrative overhead over a greater volume of business. Against this, a purchaser coming in from outside will probably need to retain a greater level of overheads because your overheads are not duplicated in their existing structure.

Similarly, a purchaser from your trade will have better knowledge of the customer base, nature of product, risks and likely margins than someone coming in from outside. They should therefore have greater certainty over what it is they are actually buying and therefore need to discount less for risk than someone coming in from outside the industry.

This logic usually leads owner managers to conclude that a sale to someone within the industry is the most likely route to achieving a sale. It may therefore come as a bit of a surprise to learn that, in fact, purchasers from outside the industry may well be prepared to pay more than purchasers from within it.

This is because players within your own industry, once they know the business is for sale, will often conclude that the inherent disruption you will go through as part of the sale will give them the opportunity to get in and pick up some of your customers in any event by increasing their own sales effort without having to go to the expense of purchasing your entire business. They will therefore often be less inclined to rush out and purchase a business than many owner managers assume.

Additionally, businesses looking to buy their way in to a new industry are often prepared to pay a significant premium in order to do so. Once they have sold themselves on the idea that there is money to be made in this particular line of activities, it tends to be a motivation to get on with it (even if this means paying slightly more than may be necessary).

Players from outside the industry looking to get in will also be prepared to pay a premium to avoid the inefficiencies of starting a business from scratch and to be able to buy in specialist know-how and contacts that would otherwise take them a significant time to acquire. Again, potential purchasers within the trade will believe they already have this knowledge and contacts and will therefore not place a value on avoiding this ‘learning curve’.

It is difficult to generalise but it is also the case that trade purchasers may well generally pay more than financial purchasers for any given business. Again this comes down to overheads, where a financial purchaser will need to retain the entire overhead structure of the existing business whilst a trade purchaser, even if not in a closely related business, will have some expectation of reducing some overheads by way of rationalisation of the two businesses and will generally also be expecting to gain some sales synergy from the cross-selling or the mutual benefits of merging the two organisations.

Finally, there is the sale of the business to the public, by way of a flotation where all the processes and documentation need to be undertaken in compliance with the relevant regulations. This activity requires a high degree of specialised professional advice and therefore lies beyond the scope of this book.

WHAT IF A BUYER COMES TO YOU ?

Sometimes you do not have to reach prospective purchasers, they reach you with an unsolicited approach, either directly or through an advisor. Companies looking to expand through acquisition will commonly engage firms of corporate finance advisors to draw up a list of potential targets that fit their criteria and to approach these businesses to see whether they are for sale.

On the face of it this may seem quite an attractive option to an owner manager who is starting to consider a sale on the grounds that it will avoid much of the hassle of going through a sales process. Whilst this is true, you should consider:

• The advisor with whom you are dealing is looking after their client’s interests (the buyer’s) not yours as seller.
• If you commit to becoming involved in this sort of process without undertaking a full sale process, you are by definition only dealing with one purchaser, and therefore it is difficult to see how you can ensure that you achieve the best available price since you have not tested the value in the marketplace.
• There is also the danger that you are being bounced into a sale without proper professional advice on the purchaser’s timetable and not yours, and without having taken the time to groom your business so as to achieve the best price in the negotiation. Against this must be set that you are dealing with a purchaser who is seriously interested in acquiring businesses in your sector.
• Bear in mind that the purchaser will be having similar discussions with other businesses in your sector and may therefore be able to run in effect a reverse Dutch auction where you and Joe down the road are competing to sell your businesses to the same party and may therefore be used to beat each other’s price down.

Treat with caution therefore any such approach, and consider very carefully the pros of having a very interested and active buyer against the cons of your dealing on their terms not yours, before deciding whether to commit to the process.

HOW DO YOU REACH PROSPECTIVE PURCHASERS?

You may seek to obtain an offer by word of mouth, contacting people known to you, usually within your industry and enquiring whether they might be interested in buying the business. Whilst you may be able to directly contact some interested parties within your industry with a high level of credibility quite quickly using this method, it does have the dangers of limiting the pool of prospective interested parties to those you know, without exploring the potential of sales to financial institutions or to trade parties outside your industry, and if unsuccessful can leave you with the problem of being seen as tainted goods in the marketplace.

You can of course advertise your business for sale. You can place your advertisement in your own trade press, the national press, or some of the specialist business press. You can also advertise openly or covertly and directly yourself or through an agent.

The appropriate approach will depend broadly upon the nature and size of your business. If for example you are selling say a small sub-post office or shop, you might well consider advertising directly yourself through a publication such as Dalton’s Weekly. You might also consider engaging an estate agent (preferably one that specialises in your field, eg Fleurets in the pub trade) to assist in selling the business who will act as both a broker to help negotiate the sale, but also as an advertising agent to ensure that the business for sale is publicised as part of the advertisements they run.

For a larger business you might consider advertising it for sale in say the national press (in which case you ought to use the business pages of the Sunday quality papers and the businesses for sale section of the Financial Times during the week). Most newspapers will offer a box number service that will enable you to maintain confidentiality of the name of the business for sale since all responses to the advert can be directed to a box number rather than the name of the business. This enables you to screen the replies received before deciding with which to proceed.

Additionally, there are now online listings of businesses for sale and business opportunities (such as www.equitymatch.co.uk and www.buyabiz.co.uk). You can use these in much the same way as you would use a Financial Times or other national press advertisement.

The limitation of the advertising approach is that it does not guarantee that the fact that your business is for sale is brought directly to the attention of people who may well be specifically interested in buying it.

The final method of reaching prospective purchasers and the one that I would recommend for any business of a reasonable size is to proactively identify potential interested parties and approach them with news that the business is for sale. This can of course be combined with a normal advertising approach in order to get the best of both worlds. As almost the first part of the selling process, your corporate finance advisor will generally discuss with you whether you have a list in mind of potential interested parties which will generally comprise suppliers, customers and competitors. Using this list as a basis, your advisor will then seek to expand it by searching databases to identify businesses of a relevant size and type within the same industry who operate in different areas who might wish to consider expanding in your locality, potential purchasers from outside your industry who might be interested in moving into it, and if your business has the right profile, potential financial purchasers who might be willing to back an MBI (a management buy-in to your business where a venture capitalist provides the funds for an external team of managers to buy your business in order to take it forwards). Your advisor will then prepare an initial approach letter, a sample format of which is set out below.

If you are concerned about the costs of engaging an estate agent or a corporate finance advisor to sell your business you might consider advertising it yourself in the appropriate media using a box number, and considering the responses you receive before deciding whether to engage a professional. So long as you can ensure that confidentiality is maintained, you have thereby not compromised your sales process and may indeed have generated a number of potential enquiries that your professional advisor can either follow up or use to suggest other prospective interested parties to approach.

Whichever method you choose, the important thing is to put together a structured plan as to how you are going to approach selling. After all to sell your particular products or services you will have had a marketing plan to target the appropriate prospective clients, have considered what it is they might want to know about your products in order to make them want to purchase, have approached them, provided them with the information, and looked to close the sale to get the deal done. The general principles of selling your business are going to be much the same.

Sample document – atypical initial approach letter

Here is an example of a typical approach letter by which your advisors will seek to generate interest in your business from potential purchases. An example of a confidentiality letter is given in Chapter 8.

Text supplied by Horwath Corporate Finance

WHAT ARE YOU GOING TO TELL PROSPECTIVE PURCHASERS?

You would not expect to sell your own products without a brochure or to achieve a sales appointment without having used some kind of mailshot, advertising, or sales promotion. Similarly you are going to have to actively market your business in a way that will stand out from the numerous proposals that any potentially active purchaser will be receiving.

You therefore need to make it as easy as possible for your potential buyers to decide they want to buy your business.

You do this by preparing a pack that sets out a description of the business and sufficient relevant information that can be read in no more than half an hour and that gives the reader all the necessary information to decide whether or not they wish to pursue this opportunity.

This sales pack (also known sometimes as an ‘information memorandum’, or technically, when issuing shares, as a prospectus) is such a crucial document it needs to be prepared and polished before contacting any interested parties.

It goes without saying that since this is the document on which interested parties will decide whether they wish to purchase the business, and also principally on which they will decide what price they are prepared to pay, it has to be accurate and true as the buyers will rely on it to make their offer. You therefore need to fully disclose all material facts as discovery of anything significant later on in the process, either before an offer is made or during due diligence, will hugely undermine the buyer’s confidence in you and at worst will damage their trust in your honesty which may lead to a complete collapse in negotiations. The balance here is between presenting your company positively, and in a way that will attract the interests of buyers, while taking the opportunity to present the main weaknesses and risks of the business in their best light but from your point of view.

In addition, the sales pack needs to provide sufficient financial information to allow the buyer to properly assess the potential interest they have in the business. Given that their interest will be in sustainable profits going forwards, this obviously needs to reflect the work that your advisors will have done to establish the ‘underlying’ levels of sustainable profits, together with all relevant information the buyer needs to consider the overall financial situation. In addition to helping the buyer to screen whether your opportunity is of interest, giving all this information upfront will enable you to screen whether the buyer is really interested in your business. If you fail to provide sufficient information you may well find you are wasting time by providing the further information the buyer actually needs in order to decide that the deal is not for them.

CONTENTS OF A SALES PACK

The key aspects of any sales pack are detailed below.

Business background

• Summary of the current nature of the business and apparent opportunities.
• Summary of the current and projected operating results.
• Summary of the current balance sheet.
• Summary of the ownership structure.
• Summary of the reasons for sale.
• If seeking investment, how much investment is required, what it is to be used for, what return the investor can expect and in what timetable.
• Risks facing the business and steps taken to address them by management (say in the form of a strengths, weaknesses, opportunities and threats, or SWOT analysis).

Market

• Summary of products.
• Summary of markets and trends.
• Summary of customers.
• Summary of competitors.
• Summary of sale trends by product/market.
• Key competitive strengths.
• Assessment of competitors by product/market segment.
• Product/market segment growth and profitability.
• Branding.
• Sales staff.

Operations

• Product lines.
• Intellectual property.
• Suppliers and products.
• Management (including an organisation chart).
• Research and development.
• Opportunities identified (internally such as improved efficiency, and externally, such as new potential markets and products).

Assets

• Description of land and property.
• Description of plant and equipment.
• Description of data systems.

Appendices

• Current balance sheet, profit and loss account, forecasts.
• Product information and brochures.
• Summary CVs for key management.
• Employee details (giving number of employees, length of service, and age, which allows calculation of potential redundancy costs).
• List of trademarks and patents.
• Detailed lists of land and buildings, and major items of plant and equipment.

Any forecast or financial information provided should have any key assumptions made set out clearly and concisely. Financial information provided in the body of the report should be kept as simple as possible, with the detail available in the appendices. Any information in the appendices should tie up clearly and easily with information provided in the body of the report and be clearly cross-referenced.

The result must be a sales document that is easy to read and follow, giving a well structured account of the positive aspects of the business that does not drown the reader in detail.

Management buy-out financial information checklist

To raise money for a management buy-out by borrowing against the assets of the company you wish to purchase, use the following checklist to gather together all the information that an asset finance broker (such as Creative Finance www.creativefinance.co.uk) will require to arrange borrowings on your behalf.

Tick box when information collated