MacRo LTD Blog

In Case You Missed It: Considerations Before Selling a Small Business

When it’s time to hang up the shingle, what do you do with your business and commercial real estate commitments?

Well, it’s been a good ride … or maybe not such a good one, but it’s time to move on from that owner/operator small retail or service business you or your family started decades ago. You and your partner want to hang up the shingle on those 80-hour, 7-day work weeks you’ve been putting in all these years.

What is next on your horizon is exciting, be it retirement or pursuing the next opportunity!

So many questions are starting to run through your mind:

  1. What is this business worth?
  2. Would anyone be willing to pay me for what I have created?
  3. If no one wants it, what do I do with my inventory?
  4. What about my clients? They have been so loyal.
  5. Is the reputation I’ve built up over the years worth anything?
  6. What about my commercial lease?
  7. Should I sell the building the business is in?

And this is just the tip of the iceberg for those who reach this point in their careers.

Where do you start?

As a commercial real estate broker, small business people often seek out my help in identifying the value of one of their largest assets. Yes, that would be real estate that they own, or maybe it is the remaining years they have left on a commercial lease to which they are committed with extremely favorable (below market) terms for them as a tenant.

While that is where our conversation may begin, very often our first meeting shifts to the bigger picture — their decision to move on.

There are many components to transitioning out of a small business. Many of which could have a hidden value that business owner may never have thought about.

Identify your assets

Sure your real estate has some value, and it may even be that long term lease you signed years ago does as well. But consider the following:

  1. Business inventory
  2. Customer lists
  3. Owner’s reputation
  4. Business goodwill
  5. Profitability
  6. Business owner’s compensation
  7. Skilled staff/employees
  8. Location (real estate)

Each one of the above can bring value to the table when a business owner starts considering what it is that he and/or she is selling.

Sometimes if you’re lucky (not really, the real word is “smart”), all of the above along with the real estate component have value in their own right. But more often than not, amongst those eight categories, some add value and others may have negative value.

At the end of the day, it is a consistent and growing annual profit that gauges whether the whole is greater than the sum of its parts.

But it is just as important to consider the value of the components separately, because sometimes, especially when profits are inconsistent or nonexistent, the sum of those parts may exceed the value of the whole.

Valuing your business

Let’s assume that your business actually turns a profit after fair compensation is paid to all who run the operation. In this case profit is defined as EBITDA, meaning earnings before interest, taxes, depreciation, and amortization.

There are any number of articles to be found on the web about how to value a profitable business. Without delving too deeply into all the different methods of how a buyer will value a profitable business, consider these articles offered by Inc., Entrepreneur, and Business Sale Center.

When the whole does exceed the sum of its parts, a business has real value, and, according to the Inc. article by Edward Powers, now the Managing Director at HarbourVest Partners, a savvy business buyer will consider the following five key numbers to arrive at a fair market price:

  1. Multiple of EBITDA: What the future stream of cash flows from your company will be worth
  2. Growth in revenue: A conservative scenario based upon historical growth
  3. EBITDA margin: The profit margin noted above divided by your gross revenue
  4. Amount of leverage: The greater the profit margin, the more the opportunity the buyer has to finance the purchase price. So the fewer real dollars that the buyer has to put into the purchase, the better the price that can be paid.
  5. Ownership: Do you want to retain a share of the ownership? If the profits are strong enough, with leverage, you may find it is a worthy investment to keep a percentage of the business.

Now, if you define the term profit as the amount of net revenue you generate to pay your salary, then the above may still apply to a minor degree. Sometimes even in a less than profitable venture, the customer base, skillset of valued employees and/or the product produced can be integrated into another business at a figure that is exponentially better than face value.

Above and beyond all of the aforesaid, it is critical to grab a hold of your emotions and ask them to sit in the corner as you go through the process of taking a reality check.

For example, I have seen, more times than I want to recall, situations where the owners of a small business or piece of commercial real estate throw out all the accepted methods of evaluation and base their sales price on a figure that they “want” in order to allow them to follow their dreams into the next chapter of their lives … and nine times out of ten, those figures are completely unrealistic.

Your goal is to …

Speaking of emotions, let’s look at them as part of a potential business transaction. In the world of commercial real estate decisions, to buy and sell often do not involve any emotion – one wants to buy or lease a new location for his/her business for the purpose of improving profits (because that’s the bottom line!). The larger and more successful the business is, the more cut and dry those decisions are likely to be, because when all is said and done, the executives are accountable to their investors or stockholders. Decisions based upon emotions can be irrational … and could cost someone their livelihood.

It is important to note that the nature of many small businesses is rooted in a burning desire that, at its origin, may not have made any sense logically or economically. But here you are years later making a living off that crazy idea. Then again, things may have panned out to where the business has become the ball and chain, that is a financial trap, from which you feel you cannot escape … which of course can stir many emotions.

The decision to leave your creation behind is vital. For instance, you must ask if it is important that your business carry on as if you never left with the same name and staff. Do you wish to stay involved in some lesser capacity? Or is it that once you close the door on this chapter of your life, you don’t care about such things? In the case of the former two, such a caveat may cost the proprietor real money.

Wash that car before you put on the lot!

If the goal is to create as much value as possible in the small business, it may require the execution of some long overdue actions a few years before putting the business on the market.

The owners may want to take another look at their expenses and question if dollars are being spent efficiently. Is there deadwood within the organization? Are the products and/or services properly priced?

Now, one may think that such basic practices are part of the proprietor’s regular routine, but you would be surprised. Many small business owners forget the benefit that the fresh set of eyes from a third party can have on evaluating income and expenses.

All too often a small business owner who wears too many hats can get so caught up in serving their customers, carrying ineffective employees, product promotion or community involvement to the point that they lose sight of the bottom line … and the big picture.

Who will want your business?

The target market for finding the right party to assist you in your fulfilling your exit strategy all depends upon what you have to offer. The more profitable your business, the more suitors you will have. Consider the following options:

  1. Sell the business to family, staff or a new owner
  2. Close the business and liquidate its assets
  3. Merge your operations with another business
  4. Retain an ownership interest of some degree as an investor
  5. Stay involved, but lessen your role to that of a consultant, etc.

There’s a lot to consider when planning for an exit from your small business. Selecting the right path that will help you fulfill your goals for the next chapter in your life requires that you look deeply into all available options, which typically means seeking assistance from professionals and close confidants.

No one wants to leave anything on the table that they didn’t know was there in the first place; so turn over every stone and get the assistance you need.

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Rocky Mackintosh, President, MacRo, Ltd., a Land and Commercial Real Estate firm based in Frederick, Maryland. He has been an active member of the Frederick, Maryland community for over four decades. He has served as chairman of the board of Frederick Memorial Hospital and as a member of the Frederick County Charter Board from 2010 to 2012.  He currently serves as chairman of the board of Frederick Mutual Insurance Company. Established in 1843, it is one of the longest enduring businesses in Frederick County.

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