What You NEED to Know If You Want to Sell Your Business Someday
4 Steps To Finding Your “Sell-By” Date
Most business owners think selling their business is a sprint, but the reality is, it takes a long time to sell a company.
Just imagine… the sound of the starter gun sends blood flowing as you leap forward out of the blocks. Within five seconds you’re at top speed and within a dozen your eye is searching for the next hand to place the baton. Then you feel the baton passed and your brain tells you the pain is over. You start an easy jog and you smile, knowing you did your best and now the heavy lifting is on someone else’s shoulders.
That’s probably how most people think of starting and selling a business: as something akin to a 4 x 100m relay race. You start from scratch, build something valuable, measuring time in months instead of years, and sprint into the waiting arms of some great “strategic” buyer as they obligingly acquire your business for millions. They hand over the cheque and you ride off into the sunset.
But unfortunately, the process of selling your business looks more like an exhausting 100-mile ultra-marathon than a 100m sprint. It takes years and a lot of planning to make a clean break from your company – which means it pays to start planning sooner rather than later.
Here’s how to backdate your exit:
Step 1: Pick your eject date
The first step is to figure out when you want to be completely out of your business. This is the day you walk out of the building and never come back. Maybe you have a dream to sail around the world with your kids while they’re still young. Perhaps you want to go and live in Tuscany for a few years with your own private vineyard!
Whatever your goal, the first step is writing down when you want out and jotting some notes as to why that date is important to you, what you will do after you sell, with whom, and why.
Step 2: Estimate the length of your earn-out
When you sell your business, chances are good you’ll get paid in two or more stages. You’ll get the first payment when the deal closes and the second at some point in the future — if you hit certain goals set by the buyer. The length of your so-called earn-out will depend on the kind of business you’re in.
The average earn-out these days is three years. If you’re in a professional services business, your earn-out could be as long as five years. If you’re in a manufacturing or technology business, you might get away with a one-year transition period.
Estimate: + 1-5 years
Step 3: Calculate the length of the sale process
The next step is to figure out how long it will take you to negotiate the sale of your company. This process involves hiring an intermediary (a mergers and acquisitions professional, investment banker or business broker), putting together a marketing package for your business, shopping it to potential acquirers, hosting management meetings, negotiating letters of intent, and then going through (potentially) a 60- to 90-day due diligence period. From the day you hire an intermediary to the day the funds transfer hits your account, the entire process usually takes six to 12 months. To be safe, budget one year.
Estimate: + 1 year
Step 4: Create your “strategy-stable” operating window
What do I mean by “strategy-stable”? Let me explain. Next you need to budget some time to operate your business without making any major strategic changes. A buyer is going to want to see how your business has been performing under its current strategy so they can accurately predict how it will perform under their ownership. Ideally, you’re able to give them three years of operating results during which you didn’t make any major changes to your business model.
If you have been running your business over the last three years without making any strategic shifts, you won’t need to budget any time here. On the other hand, if you plan on making some major strategic changes to prepare your business for sale, add three years from the time you make the changes.
Estimate: + 3 years
Figuring out when to sell
The final step is to figure out when you need to start the process. Let’s say you want to be in Tuscany by age 50. You budget for a three-year earn-out, which means you need to close the deal by age 47. Subtract one year from that date to account for the length of time it takes to negotiate a deal, so you now need to hire your intermediary by age 46. Then let’s say you’re still tweaking your business model – experimenting with different target markets, channels and models. In this case, you need to lock in on one strategy by age 43 so that a buyer can look at three years of operating results.
It certainly would be nice to make a clean, crisp break from your business after an all-out sprint, but for the vast majority of businesses, the process of selling a company is a muddy, emotional, multi-year effort. So the sooner you start getting your business ready, the better.
Six Power Ratios to Start Tracking Now
Doctors in the developing world measure their progress not by the aggregate number of children who die in childbirth, but by the infant mortality rate – a ratio of the number of births to deaths.
Similarly, cricketers measure their run rate by the number of runs they make per over, not just the total number of runs.
Buyers also like tracking ratios, and the more ratios you can provide a potential buyer, the more comfortable they will become with the idea of buying your business.
Better than the blunt measuring stick of an aggregate number, a ratio expresses the relationship between two numbers, which gives them their power.
If you’re planning to sell your company one day, here’s a list of six ratios to start tracking in your business now:
1. Employees per square foot or square metre
By calculating the number of square feet of office space you rent, and dividing it by the number of employees you have, you can judge how efficiently you have designed your space. Commercial real estate agents use a general rule of 14–23sq m (or 150-250 squ ft) of usable office space per employee.
2. Ratio of promoters and detractors
Fred Reichheld and his colleagues at Bain & Company and Satmetrix developed the Net Promoter Score® methodology.1 It is based on asking customers a single question that is predictive of both repurchase and referral.
Here’s how it works: survey your customers and ask them the question, “On a scale of 0 to 10, how likely are you to recommend to a friend or colleague?”
Figure out what percentage of the people surveyed give you a 9 or 10, and label that your ratio of “promoters.”
Calculate your ratio of detractors by figuring out the percentage of people surveyed who gave you a score of 0 to 6.
Then calculate your Net Promoter Score (NPS) by subtracting your percentage of detractors from your percentage of promoters.
In the US., the average company has a Net Promoter Score of between 10% and 15%. It’s very likely no different here in Australia. Reichheld found companies with an above-average NPS grow faster than average-scoring businesses.
3. Sales per square metre or square foot
By measuring your annual sales per square metre, you can get a sense of how efficiently you are translating your real estate into sales. Most industry associations have a benchmark. For example, annual sales per square metre for a respectable retailer might be $3000. With real estate usually ranking just behind payroll as a business’ largest expense, the more sales you can generate per square metre of real estate, the more profitable you are likely to be.
4. Revenue per employee
Payroll is usually the number one expense for most businesses, which explains why maximizing your revenue per employee can translate quickly to the bottom line. As a global example, Google, for instance, enjoyed revenue per employee of more than one million dollars in 2015, whereas a more traditional people-dependent company may struggle to be more than $100,000 per employee.
5. Customers per account manager
How many customers do you ask your account managers to manage? Finding a balance can be tricky. Some bankers are forced to juggle more than 400 accounts, and therefore do not know each of their customers, whereas some high-end wealth managers may have just 50 clients to stay in contact with. It’s hard to say what the right ratio is because it is so highly dependent on your industry. Slowly increase your ratio of customers per account manager until you see the first signs of deterioration, e.g. slowing sales, drop in customer satisfaction. That’s when you know you have probably pushed it a little too far.
6. Prospects per visitor
What proportion of your website’s visitors “opt-in” by giving you permission to e-mail them in the future?
Dr. Karl Blanks and Ben Jesson are the co-founders of Conversion Rate Experts, which advises companies like Google, Apple and Sony on how to convert more of their website traffic into customers.
Dr. Blanks and Mr. Jesson state that there is no such thing as a typical opt-in rate, because so much depends on the source of traffic. They recommend that, rather than benchmarking yourself against a competitor, you benchmark against yourself by carrying out tests to beat your site’s current opt-in rate.
Buyers have a healthy appetite for data. The more data you can give them – in the ratio format, which they’re used to looking at – the more attractive your business will be in their eyes.
Four Traps To Avoid When Selling Your Company
Business owners have been known to refer to due diligence as “the entrepreneur’s proctology exam.” It’s a crude analogy but a good representation of what it feels like when a stranger pokes, prods, and looks inside every inch of your business.
Most professional acquirers will have a checklist of questions they need answered if they’re considering buying your company. They’ll want answers to questions like:
• When does your lease expire and what are the terms?
• Do you have consistent, signed, up-to-date contracts with your customers and employees?
• Are your ideas, products and processes protected by patent or trademark?
• What kind of technology do you use, and are your software licenses up to date?
• What are the loan covenants on your credit agreements?
• How are your receivables? Do you have any late payers or deadbeat customers?
• Does your business require a licence to operate, and if so, is your paperwork in order?
• Do you have any litigation pending?
In addition to these objective questions, they’ll also try to get a subjective sense of your business. In particular, they will try to determine just how integral you are personally to the success of your business.
Subjectively assessing how dependent the business is on you requires the buyer to do some investigative work. It’s more art than science and often requires a potential buyer to use a number of tricks of the trade, such as:
Trick #1: Juggling calendars
By asking to make a last-minute change to your meeting time, an acquirer gets clues as to how personally involved you are in serving customers.
If you can’t accommodate the change request, the acquirer may probe to find out why and try to determine what part of the business is so dependent on you that you have to be there.
Trick #2: Checking to see if your business is vision-impaired
An acquirer may ask you to explain your vision for the business, which is a question you should be well prepared to answer. However, he or she may ask the same question of your employees and key managers. If your staff members offer inconsistent answers, the acquirer may take it as a sign that the future of the business is in your head.
Trick #3: Asking your customers why they do business with you
A potential acquirer may ask to talk to some of your customers. He or she will expect you to select your most passionate and loyal customers and, therefore, will expect to hear good things. However, the customers may be asked a question like ‘Why do you do business with these guys?’ The acquirer is trying to figure out where your customers’ loyalties lie. If your customers answer by describing the benefits of your product, service or company in general, that’s good. If they respond by explaining how much they like you personally, that’s bad.
Trick #4: Mystery shopping
Acquirers often conduct their first bit of research behind your back before you even know they are interested in buying your business. They may pose as a customer, visit your website, or come into your company to understand what it feels like to be one of your customers.
Make sure the experience your company offers a stranger is tight and consistent, and try to avoid being personally involved in finding or serving brand-new customers. If any potential acquirers see you personally as the key to wooing new customers, they’ll be concerned that business will dry up when you leave.
Why Fire Trucks Always Back In
Have you ever noticed that fire trucks always back into the fire station?
Why don’t they just pull into their parking spot front-first like the rest of us?
Backing in at the end of a shift saves them time when they have to get to a fire. They back in to be ready; whether the call comes in 5 minutes or 5 days, they are prepared to pull out as quickly as possible.
Like the firemen, you, as a business owner, need to be ready when you get the call from someone who wants to buy your business. And these days, owners are getting that call more often.
The proportion of owners getting an offer is an important statistic, because it measures one half of the equation of a business sale. For a transaction to take place, there must be both a willing seller and a willing buyer.
Companies are becoming more acquisitive because they have access to more cash than they know what to do with. Interest rates are next-to-nothing, and after the liquidity crisis of 2008, companies have been socking away profits on their balance sheet for a rainy day.
This increase in acquisitiveness among buyers has important implications for you as a business owner. Chief among them is that you need to have a sellable asset when opportunity strikes.
Statistically speaking, the two most common reasons you are likely to sell your business are:
1. A health scare;
2. An unsolicited offer to buy your business.
As unsolicited offers increase, so too does the need for you to be ready if an opportunity comes your way. Unlike when the owner is in control of when he/she decides to list a property or sell their business, the hallmark of an unsolicited offer is the fact that the owner doesn’t know when it is going happen; which means you need to operate your business as if an offer were always around the corner.
Companies that are sloppily put together with shoddy bookkeeping or too much customer concentration, or that are run by a Hub & Spoke manager who is the centre of everything that happens in the business, will end up being passed over for turnkey operations.
The time is now for you to get your company ready to showcase when opportunity comes knocking.
1 Net Promoter, Net Promoter Score, and NPS are trademarks of Satmetrix Systems, Inc., Bain & Company, Inc., and Fred Reichheld.
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