Exit Planning Exchange

By Jack Beauregard

An estimated seven million baby-boomer business owners will exit their companies over the next 20 years — and many of them are your clients.  How can CPAs take advantage of this growing wave so that, instead of  losing your clients, you can actually develop new business opportunities from these transitions?  When you are ready to exit from your own company, how can you transition most successfully for both your maximum financial outcome as well as your personal satisfaction?  The process of personal transition planning can successfully answer these questions. Transition planning will benefit your business-owner clients.  CPAs who work with clients through the transition planning process can open up new business opportunities for themselves. CPAs thinking about leaving their own businesses can benefit personally from engaging in their own transition planning.

The Time Factor

A major reason why owners fail to make successful business transitions is because of costly misconceptions about time. Many owners believe that it is too early for them to plan what they are going to do with their businesses or with their lives after leaving their businesses.   Another common misconception is the belief that they do not have the time to make a plan for exiting their companies. Owners often think it will take no time to sell their businesses, which causes them to walk into a business brokerage or M&A firm and announce that they want to sell their companies immediately.  The fact is that if owners fail to take the time to plan, they have created a plan to fail.  Overnight transactions are not based in reality, since owners will need time to meet with professional advisors such as lawyers, financial planners, etc. with expertise in the exiting process. It also takes time to create a strategic game plan, so the owner can get the company into the best business and financial shape possible to realize the maximum amount of money.

What Transition Planning Can Do For Your Clients — And For You

A transaction does not happen until an owner makes a decision to transition out of his company.  Just as a successful business reflects well thought-out ideas about growing one’s business, owners also need to take the time to think about and decide “How do I want to leave my company?” In fact, 75 percent of baby-boomer owners who have already exited their companies report regretting leaving because they did not make well thought-out exit decisions, were not aware of all their options and did not develop a planfor their lives after they had left their companies.  Qualitative issues are as important as quantitative considerations when transitioning out of a business.  Often, psychological and emotional issues hold business owners back from thinking about leaving their companies or beginning the actual planning process.  Owners who engage in transition planning are able to deal successfully with both the “hard” and “soft” issues involved in transitioning out of a business. As part of the process, they also work with a team of experienced advisors — including a CPA and other professionals — to develop and implement the best financial and business strategies for exiting and passing on their businesses successfully.   A CPA who is part of this team opens up new billable hours by preparing a business plan, cash flow projection and preliminary estimate of value as part of the transition process. You are also in a position to get in “on the ground floor” with the new owner, as well as make new contacts and develop new business leads through working with the lawyers, financial advisors, wealth management consultants and other professionals on the transition team.  Finally, as reported in the Wall Street Journal on February 16, 2010,  Americans in the 55 to 64 age group have posted the highest rate of entrepreneurial activity for the last 10 years, so a CPA’s next new client may be a business formed by the former owner of an existing client.

Seventy-eight percent of baby-boomer business owners do not currently have plans for exiting their companies. If this includes your clients, you will be doing both them and yourself a favor by encouraging them to start thinking now not only about what they wantto do with their businesses but also what they want to do with the rest of their lives after leaving their companies.

The Head Issues

Owners have created their companies and worked hard to make them grow.  An owner who has put so much time and energy into building the company wants to ensure that costly mistakes aren’t made at this stage. By applying the power of planning, owners can be clear about both their business and personal objectives for leaving their companies in the next five to 10 years, develop clear, concise strategies to maximize return, reduce risk and maintain their sanity in the process.An owner who does not engage in transition planning can experience “owner’s indecision”, which can divert time and attention away from running the company, lead to loss of sales revenue and hamper the efforts of business intermediaries who are representing the owner in trying to sell the company.  Lack of planning and the owner’s indecision can also reduce a company’s profits, cause an upward capital cycle to be missed and lead to loss of business value.

The Heart Issues

Selling or transitioning out of one’s business is fraught with emotional anxiety. In order for owners to transition successfully, they need to do an objective appraisal of how psychologically prepared they are to exit their companies, clarify their goals and be aware of what is motivating them to leave.  Owners need to deal successfully with the complexities involved in making the major life transition of leaving their companies.  They especially need to avoid the debilitating distress of exit remorse and the depressing effects of post-transaction stress disorder,which can cause them to experience boredom, desperation and even an increased chance of dying prematurely after leaving their companies.

The Identity Factor

It’s hard for manyowners to leave their companies because the business is their “baby.” For many owners, their lives are identified with being a business owner, and they think they will lose their personal identity once theyno longer own a business.  They may view their lives after leaving their companies as irrelevant, feel they will lose status in their communities and dread the day they call up other business owners they used to know, only to be given the “bum’s rush” because they are no longer “players.”

The Fear Factor

Unacknowledged fear is often responsible for owners procrastinating about what to do with their companies. Fear can also cause them to suddenly walk away from the sale of the business due to emotional misgivings.  An owner can suddenly experience seller’s remorse and unexpectedly cut off the transaction process, which can incur legal and financial costs, reduce the chance of selling the company in the future and increase employee turnover.

The Death Factor

Many owners view the prospect of leaving their businesses as a kind of death, which prevents them from even thinking about creating an exit strategy.  However, not having a plan for post-ownership life can cause owners to want to die at their desks — and that is sometimes where they end their lives.

Looking Ahead to the Rest of Your Life

Personal transition planning is essential for owners who have no interest in a post-ownership life that consists of sitting on the porch in a rocking chair or playing golf 24/7.   Running a business is intellectually stimulating, which is one reason why owners need to create a game plan for keeping their minds active after leaving their companies.  Owners also need to determine if they want to spend their post-ownership lives working part-time, starting a new business, doing volunteer work or any combination of these.

Owners who engage in personal transition planning are able to answer the crucial question of “What’s next?”  Creating a strategic lifestyle game plan allows them to know where they want to live, how they are going to replace their social contacts, and  how they are going to take care of themselves physically in their post-ownership lives. They also will have dealt with the issue of finding new common interests with their spouse, so they will not experience a divorce or have each partner go a separate way at this stage in life. Finally, owners who have engaged in transition planning have created tactical plans for how they will practically implement each of their lifestyle decisions.  Personal transition planning helps owners become aware of and effectively deal with the various fears associated with transitioning out of a business, so they can successfully navigate the uncharted waters of leaving their companies. Transition planning changes an owner’s perception of what it will be like to leave the company — transforming it from an “ending” to a “new beginning”.  Keep in mind that at some point in the future, you too can benefit from transition planning when you are ready to begin thinking about exiting your own business and considering what you want to do with the rest of your life.

Jack Beauregard is the CEO of theSuccessful Transition Planning Institute and co-founder with Kevin Long, CPA, Esq.of Apollo Transition Advisors. Beauregard can be reached at jack@ thenexttransition.com or 617.576.5728, www.successfultransitionplanning.com.

By Laura Kevghas and Donald Richards

Top Five Buyer Blunders and How to Avoid Them

Many of the past Viewpoints we’ve published have advised sellers on how to secure a great deal in the M&A market. In this issue, we take a seat on the other side of the conferencetable to highlight five common and sometimes critical buyer mistakes that can be fatal to a transaction.

Some of these mistakes or misunderstandings can cause a seller to mistrust a prospective buyer. Others lead a buyer to present an offer that doesn’t meet the seller’s needs or interests.  In any case, they can result in a deal that’s in serious jeopardy.

Why This Matters:

Most buyer mistakes are avoidable. Being aware of how things can go wrong will help you improve your chances of sealing the deal.

1. KNOW the Real Decision-Maker(s)

Things can get off track right from the start if you don’t take the time up front to clarify key and hidden Decision-Makers in the seller’s world. John Kenny, Executive Vice President of Corporate Development for Iron Mountain, states that one of the most important factors that needs to be uncovered early on is whether the people that you’re dealing with on the seller side are the people who can actually approve a transaction. “I’ve seen a lot of cycles wasted and deals just never get done,” he said, “because you’re talking to someone who isn’t authorized to make a decision, or the board isn’t aligned with the sale.”

Although unfortunate, it is not unheard of for someone on the seller side to overstate how much authority they have to get a deal done. Mirus once had a principal of a seller represent himself as the sole decision-maker, only to have the partner committee turn down the letter of intent the principal had negotiated because his partners did not want to sell the company at any price!

Exaggeration of authority may be difficult to ascertain, and supports the idea of asking probing questions up front . Confirming as many deal-related details as possible early in the relationship helps streamline the deal process and keep it from derailing.

2. DON’T Focus on Price Alone

Some buyers assume getting the best price possible is the only thing that matters to a seller. In reality, many sellers have other goals that are important to them. Not taking time to uncover these objectives can be a big mistake.  John Kenny also advises learning as much as possible about the complete dynamics of a seller’s situation in advance. “One of the first questions to ask is why the asset is for sale,” he adds,“…and also understand whether it’s a distress situation and whether it’s been shopped for a while. Are they shooting for the whole market, or targeting you specifically?”

Mirus represented a client recently who wanted to ensure that his staff, many of whom had helped him grow the business for more than twenty years, had bright futures with the company post-acquisition. One finalist in the auction process,who didn’t believe this was a real objective of the seller, was dropped from the process despite a high proposed purchase price, when they indicated that they planned to cut employees and close facilities after the close of the sale.

Similarly, many entrepreneurs want to know that the company brand and culture they’ve spent years building–and which they believe support their company’s success–are going tobe maintained. Factors like these are often especially important when a family owned business goes on the market.

“Seller motivations are important, because if the seller cares about their brand, or their people, or their staff’s ongoing employment; and these factors don’t match up with integration into the new company, then you might as well stop–because you won’t be the preferred buyer,” adds Kenny.

3. Romance the Seller

Sellers want to believe a prospective buyer is really pursuing them and truly cares about the business the seller has built.  This is especially true if the seller is planning to stay involved with the business, but it can also be true even if the seller is planning to exit.

“You need to distinguish the different situations,” said attorney Les Fagen, a partner in the Venture Capital practice group at Cooley Godward Kronish’s Boston office. “If it’s a family-owned or founder-owned business, not spending time ‘romancing’ the seller can definitely be a problem.”

Taking time to get to know the seller, and letting the seller get to know you, are essential to building the type of personal bond that will help move a deal forward. Making sure that there are enough face-to-face meetings, spending time getting to know sellers and their key players, listening closely and asking good questions, and helping the seller learn about you are examples of the types of things a buyer can do to help a seller feel “wooed” and special.  At the end of the day, relationships buy companies.

4. BUILDING A Win-Win DEAL

Some buyers focus on winning during every negotiation with the seller, whether it’s related to the purchase and sale agreement, employment agreements or post-closing integration. Every purchase and sale agreement has numerous points that involve a give and take between buyers and sellers. Sellers can get fed up and walk away, simply due to the perception that a buyer is trying to shift all possible risks to the seller’s side.

“Being too aggressive in negotiating the indemnities in the purchase agreement is one of the more common problems,” Les Fagen elaborate(s) . “The seller wants certain limitations on liability, and the buyer wants all these protections in the document. Not wanting to intelligently assume risk on a buyer’s part is probably one of the most common reasons that deals fall apart.”

5. Organization

A seller can quickly lose confidence when a buyer doesn’t appear competent or knowledgeable in terms of how they approach the sales process. “One of the key success factors for an acquisition is earning the seller’s trust, that you will indeed be able to close the transaction,” pointed out Fagen. “The seller wants to know that the buyer has the ability, the wherewithal, and the determination to close and close promptly. I’ve seen a number of deals fall apart because the buyer took too long and didn’t keep the process moving forward.”

The due diligence process is seen by many sellers as a proxy for how they will work with the buyer post-closing.  A smooth due diligence process comforts the seller and his/her management team that the buyer’s company is also well run, and that integration and post-closing activities will be smooth and well-managed.

Planning for Success

Buying and selling a business can be challenging for those on both sides of the table. If you’re on the buyer’s side, understanding as much as you can about your seller in advance will help you anticipate and avoid the common mistakes discussed here. Through good planning, excellent listening and communication skills, understanding your seller’s motivations, and knowing your seller’s key influencers; you can become a successful buyer, and complete profitable transactions.

Laura Kevghas is a principal and Donald Richards is a partner at Mirus Capital Advisors, Inc., with a collective history of more than 150 buy-side transactions. Mirus is a middle-market investment bank that specializes in advising companies on strategic mergers and acquisitions. By combining a proven process, industry and  transactional expertise, creative thought, and personalized service, Mirus has completed hundreds of transactions for both public and private companies. Mirus is a registered broker-dealer and FINRA/SIPC Member. For more information, visit www.merger.com.

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By Laura Kevghas

The phone rings unexpectedly one day, and on the other end is a CEO wondering if you would be willing to sit down and talk about selling your business. You may or may not discuss a purchase price. You may or may not commit to even a meeting, let alone an exchange of information. But nonetheless, that single unexpected phone call can touch off one of the most significant, emotional and time-consuming events in your life as a business owner: deciding whether to sell your company. The way you respond, both initially and in the weeks that follow, can have an impact on your company, your employees, and the value you can realize from the sale of your business.

For this article we asked experts in accounting, law and business consulting for advice on what to do when you receive this kind of phone call. Their suggestions – on everything from evaluating pricing, to managing proprietary information, to establishing a team of advisors, to performing due diligence on the buyer – can help you navigate the complexities of your unsolicited offer, and make the most of your opportunities, whether you decide to sell or not.

Why This Matters:

• Planning ahead can make the unexpected offer manageable
• Contemplating selling your business is the most significant and emotional decision you’ll ever make
• Even considering an offer can affect your company, your employees and your family

Top ten rules for evaluating unsolicited offers

Though every company – and every deal – is different, we have found that there are a number of simple principles that can simplify the process of responding to an unsolicited offer and help you make the right decisions. Here are ten things to keep in mind when someone offers to buy your business:

Rule #1: Don’t wait until the offer comes to plan your response

“Unsolicited offers can come at any time,” says Tom Sherwin, founder of the consulting firm CEO Resources,Inc. “Ideally, CEOs should have a strategic plan in place before they get an offer.” That plan doesn’t have to be complicated, he adds. CEOs simply have to know whether they plan to continue to manage the business over the next three to five years, or whether they would be open to the possibility of a sale.

Linda Swerling, founder of Level II Solutions, adds that business owners should consider their personal, as well as financial, goals. “How long were they planning to work? What was their exit strategy for the business? All these things need to be written down,” she says.

Sherwin says that he regularly meets with CEO’s who maintain that they have no interest in selling theircompanies; yet it’s often merely a question of price. “We play a game of ‘what if’ scenarios, usually over lunch,” he says. “What if someone offered you 20% more than you think your company is worth? What about 50%? You end up constructing a game plan. Say, for instance, that you would consider offers above 25% of some benchmark. At 50% you would actively pursue a deal. And at 100% above the benchmark, you schedule a closing. Then you put that game plan away until the time comes.”

Rule #2: Know what your company is worth

Of course, you can’t evaluate an offer without having a very good idea what your company is worth. Public companies learn their value every day when the market closes, but for private, closely held companies, it may be worth spending the money  required to get a good valuation at least every three to five years, Sherwin suggests.

Amy Mastrobattista, an attorney with the Boston law firm Ruberto, Israel & Weiner, says that the first stop should be your CPA, who can walk you through the most appropriate valuation techniques for your company and industry. “It’s also not a bad idea to develop a relationship with an investment banker far in advance of any planned exit,” she adds. “They can incorporate their knowledge of market conditions, recent transactions and prevailing multiples in your industry to give you a more accurate view of your company’s value.”

“To truly understand your company’s worth, though, you need accurate and timely financial information,” asserts Swerling. “Your current performance relative to last month,the year-earlier period and budget all influence the value of your company.”

The integrity of your financial data is important, not just in understanding the value of your business, but in presenting it to outsiders, comments Margery Piercey, a CPA with the accounting firm Wolf & Company. “First impressions are important when you put numbers in front of a potential buyer.  And it can have an immediate impact onvalue if your financial statements aren’t in order. You reallyneed to make sure that your numbers are presented in sucha way that you’re going to be maximizing value, by ensuring that your financial statements are in compliance with GAAP and industry-specific reporting norms, and that you’ve identified any owner-related or other expenses that won’t continue post-closing.”

Rule #3: Protect your company’s proprietar y informat ion

Very early on, potential buyers will often request extensive proprietary information about your company.  It’s important to provide information in stages – very little early in the process, and further information in pieces, only as you become comfortable that a transaction with this potential buyer is desired and likely.

However, Mastrobattista points out that “Before you share any information at all with a prospective purchaser, you need to have a good confidentiality agreement inplace. This is the case even if the potential acquirer is not a competitor. You don’t want your confidential business information to be used for any improper purpose, even if youthink it’s innocuous.”

Piercey concurs. “Usually in the early stages of getting to know your potential buyer, you are going to be disclosing a good deal of information,” she says. “It’s important that your attorney has put a strong confidentiality agreement in place to make sure you’re properly protecting trade secrets, customer lists, and other things that contribute to the value of your company. That way, if the deal doesn’t go through, you haven’t given away some of these things of value.”

Rule #4: Keep it quiet

These negotiations should, in most cases, be kept confidentialfor as long as possible. “The impact on the employees of even considering a sale of a business can be very unsettling and actually can reduce the value of the business,” says Piercey.

“Control of information is critical,” adds Mastrobattista. “Rumors about your deal can affect not just employees, but customers, vendors and lenders. If the transaction falls through, it can even have a negative impact on your company’s reputation, since people may assume there was something wrong with your business.”

Mastrobattista advises CEOs to think carefully about who within the company needs to know the details of a transaction and to limit the access to this information to a small group of top managers for as long as possible.

Rule #5: Put together a team of expert s

“Acquisitions take up a good deal of time – incremental time over what the CEO is already spending on the business,”says Piercey. “Moreover, they require experience and insight that most CEOs don’t have. As a result, it is critical that the CEO bring in people who are experienced in transactions: investment bankers, accountants, lawyers and tax advisors.”

“You’re only going to sell your business once, and it’s a steep learning curve,” cautions Sherwin. “Why would you try to do that yourself?” He advises seeking out experienced transaction professionals, people who specialize in M&A and work on multiple transactions every year. He recommend stalking to other CEOs who have sold their businesses for referrals to investment bankers in your market.

Mastrobattista adds that you can often find these people by asking your current team of advisors. Your regular accountant, for instance, canusually recommend a taxspecialist experienced in M&Atransactions to augment his or her expertise. Your general counsel may know an M&A lawyer. “The best place to find good people is from good people,” Mastrobattista says.“Talk to your trusted sources for business referrals and evaluate independently.”

Rule #6: Scrutinize deal structure and provisions carefully

Price is one key factor in a deal, but it’s not the only one.“You and your team should look closely at the structure of the transaction,” says Mastrobattista. “Is it cash? Is it notes? Is it stock? Are there hold-backs? Are there earn-outs?” There are tax implications to all of these different purchase price methods that a good tax advisor will help you evaluate. Each structure has different risk implications as well, with payment in seller notes or earn-outs increasing the risk that you won’t receive the value you expected from the transaction.

Rule #7: Think about other possible acquirers

“Just because one person is interested in buying your business doesn’t mean you have to sell it to them,” says Sherwin, adding that there may be multiple offers out there, in addition to the unsolicited one.  For CEOs who are interestedin pursuing a sale, he recommends widening the circle of potential buyers, not just approaching known competitors, but a larger circle of complementary, often larger potential buyers.

Unearthing these buyers may require an investment banker’s help, Sherwin adds, and Mastrobattista concurs that their insight can be invaluable. “You need to look at the state of your company and of the market as a whole when you think about soliciting other offers,” she says.

Deciding to widen the circle of potential buyers carries with it the risk that the buyer who gave you the unsolicited offer may not wait for you to test the market. This is when an investment banker can be particularly helpful to determine if the offer on the table is pre-emptive enough to be worth accepting to the exclusion of other potential buyers.

Mastrobattista adds that bankers can tell you more about the market’s appetite for deals like yours, but that ultimately, the transaction should be done on your timetable. “There’s nothing worse than rushing a deal through, not understanding all the implications of price and market conditions, and then getting bitten in the end.”

Rule #8: Check out the buyer carefully

CEO’s should also scrutinize their potential buyers carefully.  Sherwin says he is always astonished when a company owner agrees to a transaction without first verifying that the buyer can pay. “There are a lot of people out there who can’t close,” says Sherwin. Particularly in today’s tight credit climate, you want to know that the buyer has the financial capacity to close the transaction.

Rule #9: Plan your post-transaction role car efully

You sell your company, and what then? Every one of our experts maintains that you should think carefully about what, if any, role you play in the acquired company.

If the transaction is structured to include an earn-out, you may wish to continue to run the business through the earn-out period to ensure that the maximum incentive payment is earned.

However, Swerling suggests that CEO’s consider the implications of their shift from owners to employees, if they continue in the business. “You’ve been managing this business for years or decades. You’ve been doing everything your way, maybe with the support of some hand-picked managers. Now it’s not yours anymore, and the company you built will change,” she says.

Rule #10: Don’t be afraid to walk awa y

Given the intense and emotional nature of negotiating a sale, our final rule is perhaps the hardest to follow. If a transaction turns out not to be in the best interest of you or your company, you need to be willing to pull the plug.  Not every deal is a good one.  Sometimes even attractive transactions can turn sour over the course of negotiations, or as market conditions change. Even if you’ve spent months working on a transaction, it may still be better, at a certain point, to simply walk away.

Unsolicited doesn’t have to mean unanticipated

Unsolicited offers happen more often than you think – and they can be a welcome wake-up call to business owners caught in the day-to-day details of running a company. Yet they shouldn’t take you completely by surprise. Sound preparation for an unsolicited offer is good strategic planning.

By developing a strategy that says whether, when and for how much you would consider selling, by obtaining accurate valuations of your business on a regular basis, and by developing relationships with seasoned M&A advisors now, you can make sure that you maximize whatever opportunities come your way in the future.

Laura Kevghas is a principal at Mirus Capital Advisors, Inc. Founded in 1987, Mirus Capital Advisors is a middlemarketinvestment bank that specializes in merger advisory, capital-raising services, fairness opinions andvaluations to entrepreneurs, corporations and professional investors. By combining a proven process, industry andtransactional expertise, and personalized service, Mirus has completed hundreds of transactions for both publicand private companies. Our affiliate Mirus Securities, Inc. is a registered broker-dealer and FINRA/SIPC member.Additional information about the firm is available on our website www.merger.com.

By Joseph C. Marrow

Choosing the best exit strategy for a company is a daunting task.  The goal for business owners is to maximize the value of the enterprise for themselves, their employees and their stockholders.  Some popular exit strategies include a sale to the highest bidder or a strategic partner, a public offering in the United States or abroad, or a sale of an interest in the business to a private equity investor.  To determine the best alternative, it is necessary to weigh several factors.  Is the business best positioned for a sale (based on the industry or the scope and size of the enterprise) or do the public markets or a private equity investor present an opportunity to brand and grow the business?  Do the business owners desire to remain with the company or is the preference for a clean break?  Is it a buyers or sellers market?  Are the capital markets open to new issuances?  These are some of the questions that should be assessed when making a determination how to proceed.  The best advice is to plan ahead.  Even if you have no immediate plans to pursue an exit, you should understand the markets and think strategically to best position your business for a liquidity event down the road.

Planning for an exit event is critical for you and your business.  What steps should you be taking in the planning process?  As counsel to a variety of business at different stages, we are often asked to weigh in on strategic alternatives.  Having worked with business owners over the years in planning for and effectuating liquidity events, several common themes have emerged.

1.  FOCUS ON EXECUTION

Above all else, keep focused on the execution of your business plan.  Planning for and executing a liquidity event can be an extremely time consuming and distracting process.  Don’t let it be!  If you remain steadfast in the achievement of your business objectives, execute on your plan, dedicate yourself to attracting real customers and revenues, your exit event will take care of itself.  The primary focus of the business owner should always be on the success of the enterprise, not the consummation of the exit.

2.  BE BOUGHT, NOT SOLD

One common mistake business owners make in the pursuit of an exit strategy is to lose sight of the short-term needs of the business.  For example, a business may have some short-term capital needs to address to attract, retain and grow its customer base.  The business owner, believing an exit event is at hand, may elect to forego the short-term expense in light of an impending transaction.  A failure to address short-term cash needs, however, could have long-term repercussions.  Several factors dictate that it is better to spend the money now.  Transactions can often disappear as easily as they arise or a transaction can take significantly longer than expected.  Equally important, the long-term success of the business may be tied to the transaction.  Often times earn-outs, bonuses under employment contracts or other consideration depend on the financial performance of the seller’s business post-liquidity event.  For these reasons, sellers should continue to run their businesses in the ordinary course and meet short-term capital needs to achieve long-term objectives.  Saving a few dollars now could certainly cost the seller many dollars in the long run.

3.  SURROUND YOURSELF WITH EXCELLENT ADVISORS

Unless you have some transactional experience, a liquidity event poses many challenges to a business owner.  The nature of the transaction (M&A or IPO), the specific terms of the transaction and continuing obligations after the sale, employment issues and tax and accounting considerations present a litany of issues to consider.  It is neither necessary nor advisable to go through the process alone.  Seasoned professionals are available to guide the seller through the process.  Very early on, you should engage an experienced attorney, accountant and other advisors (such as an investment banker) to assist you.  Lean on your advisors.  It is not uncommon to hear the CEO of a company explain that he or she has achieved great success because he or she has surrounded himself or herself with smart people.  If you choose carefully, the advisors will have a great deal of experience to draw from and will be able to provide excellent guidance recommending exit alternatives, structuring the transaction, avoiding pitfalls, preparing the company for a liquidity event and completing the transaction.  Many business owners raise concerns regarding the costs involved in engaging service professionals, however, most business owners that have experienced a liquidity event will attest that the right professionals add to, rather than detract from the value of a particular transaction.  In addition, the better the advisors, the more time a business owner can devote to the matter at hand – the day-to-day operations of the business.

4.  CHOOSE CORRECT EXIT STRATEGY

There are several options when considering exit alternatives.  For many, a sale of the business is the logical choice.  Others may opt to raise money through the public markets or to sell a piece of the company to private equity investors.  Recently, the public markets, in particular, have not been an attractive option.  While many are familiar with the perceived downsides to going public (compliance costs, personal liability exposure of officers and directors and short-term financial performance pressures), there can be legitimate reasons to test the public markets (creating a national brand, providing liquidity to employees and investors or using the publicly-traded stock as currency in a roll-up strategy).  Still others have used the public offering route to attract buyers.  In addition, private equity can provide a much needed capital infusion to a company.  A business that accepts private equity investment should note that with the investment comes a fairly short-term liquidity horizon – 5 to 7 years to position the company for sale or to go public.  Once again, professional advisors can be extremely helpful in vetting the available options and guiding a business through the process.

Choosing and pursuing an exit strategy is both exciting and intimidating.  A business owner contemplating a liquidity event is faced with a myriad of issues.  Selecting the correct route to follow is not always easy.  Moreover, above all else, in pursuing a liquidity path, make sure your number one priority is the continued health and prosperity of the ongoing business.

For more information, please contact Joseph Marrow at jmarrow@mbbp.com.

By William S. Andronico and Craig Eaton

As the U.S. emerges from the recession that has plagued the economy during the past 18 months, private equity firms that have been entrenched in their investments are beginning to evaluate exit options in the hopes of earning what is now a long overdue return on their investments. However, there is still a lot of uncertainty on the horizon and as a result, transactions are being subjected to deeper scrutiny as buyers seek out companies with a compelling growth story that can withstand today’s prolonged due diligence process.

In this market, there is no guarantee that any exit will be as timely or profitable as fund investors would hope or require, but market ready businesses can still be sold quickly and at a solid multiple. The key to success? Strategically preparing for an exit. Not only will exit readiness enable the efficient execution of a sale, but it will also maximize its value.

How Important Is Exit Readiness?

As credit markets have tightened, it has become even more critical that companies looking to sell anticipate risks and issues that might arise and potentially disrupt, or lower the value of a deal. Buyers will undoubtedly uncover any hidden problems during the buy-side due diligence process; therefore, it’s important that the seller is aware of any “hidden gems” and has that knowledge available when negotiating sale price.

In addition, there is an ever-present “need for speed” during any transaction, particularly given the drain on management’s time and energy associated with preparing for and executing a sale. In order to quickly and effectively execute a transaction, it’s critical that the seller is fully prepared to exit when the business is taken to market. If not, the seller risks exposing the company to the buyer, prolonging the deal and ultimately lowering the sale price.

Sell-side Due Diligence: Readying For An Exit

Sell-side due diligence is a valuable component of any exit strategy, particularly in today’s uncertain economic environment. Sophisticated bidders have advisors on hand to find any problems within the business and therefore, it’s important that the seller has taken an in-depth look at the company in advance to prevent any unwanted surprises. Sell-side due diligence allows the seller to proactively address any risk areas of the deal and can even expedite the transaction process. Well executed sell-side due diligence includes a thorough assessment of the financial health of the company, as well as an evaluation of all operational, technological and human resource issues. A thorough sell-side due diligence partner assists with five critical phases of the deal:

1. Pre-sale planning. The seller and its due diligence partner must identify any potential issues in order to avoid broken deals or decreased valuations. Pre-sale planning includes performing due diligence and preparing an analysis of the business positioning, providing support and insight for the information memorandum and assessing the baseline valuations range, among other activities.
2. Data room and management presentations. It’s critical to develop financial data and schedules on a basis of accounting consistent with the information memorandum.
3. Negotiation and execution. Sell-side due diligence enables the seller to anticipate the purchaser’s challenges to valuation, support negotiations from a fact-based position of strength and avoid any delays to the transaction process.
4. Operational separation. The seller and its due diligence partner must proactively identify any stand-alone issues including commercial and customer risks, and analyze the cost of those issues.
5. Post-closing issues. Once the deal is closed, the information garnered via thorough sell-side due diligence can help with purchase price adjustments and other post-closing issues that might arise.

Sell-side due diligence allows sellers to counter transactional risks by taking a proactive approach to mitigate potential deal breaking issues. Before moving forward with a potential deal, sellers should:

• Evaluate the financial health of the company by assessing the quality of earnings and identifying any non-recurring charges or credits to maximize the company’s value;
• Develop realistic budgets and forecasts;
• Assess trends in revenues and EBITDA to identify key business drivers;
• Appraise the quality of assets to be sold and liabilities that would be assumed;
• Evaluate trends in required working capital and develop a target working capital level in advance of the purchase agreement;
• Appraise the impacts of fixed versus variable costs, capital expenditure requirements and the importance of certain administrative activities;
• Identify internal management and operational weaknesses, as well as any potential transitional issues;
• Identify tax risks including federal, state and sales tax obligations;
• Determine the optimal tax structure of the seller before the deal and for the deal, and evaluate the impact on potential buyers;
• Consider related party activities and the related transfer pricing or intercompany activities;
• Define key terms and expectations in purchase agreements;
• Mind the GAAP (Generally Accepted Accounting Principles)

Tax Pitfalls and Opportunities

Whether the exit involves an IPO, a strategic/financial acquisition, or another exit option, tax matters can and do drive valuation, specifically when valuable tax assets such as net operating losses and tax credits exist. Two primary areas that require attention are the deal structure and the optimization of the underlying tax assets residing within the target.

From the seller’s perspective, it is essential to:

• Negotiate whether the sale will be an asset sale or a sale of stock. From a tax standpoint, a stock sale will generally benefit the seller and therefore, if it is an asset sale, it’s important to get a premium on the asset sale to put the seller in the same after-tax cash position.
• Consider state tax exposures prior to sale and to mitigate any concerns that might arise. For example, the seller should look at how to structure the sale from a state income tax perspective, evaluating ways to allocate income to low-tax states.
• Look at items such as tax accounting methods that might trigger income on an asset or stock sale, and evaluate how to mitigate the impact on the sale.
• Look for the possibility of tax-free reorganizations, particularly if dealing with a public strategic buyer.

An agreement between the parties related to taxes on a pre- and post- transaction basis should be drafted. Issues related to taxes such as documentation related to basis, net operating losses and credits come up several years after transactions are completed and it is important to identify the responsibilities of both the seller and buyer. This includes taxes triggered through change-of-control payments.

The choice of entity and whether the sale is structured as the sale of stock, a straight asset sale or a deemed asset sale can have many variables that should be considered prior to sale.

Looking Ahead…

As markets and exit multiples continue to stabilize and investor demand for liquidity continues, private equity firms are seizing the opportunity for potential exit strategies – looking to maximize the return on their investments. However, planning how to exit an investment is just as important as completing the transaction. Companies should be sure they’ve considered all options and invest proactively in presale diligence to expedite the sale process, maintain control and credibility, and enhance exit value.

By William S. Andronico

By Michael Oleksak

In the early days of my consulting practice, I met with the owner of a small manufacturing business. The owner had just learned he had inoperable cancer and confided that he would be dead in about six months. He did not have a succession plan but hoped his daughter, who was then 22 years old, would take over the business.  The owner wasn’t sure because he had not discussed this plan with his daughter yet.  Ultimately, the business owner turned to his accountant, who was also a close family friend, to oversee the transfer of the company to his daughter while the accountant stayed on as advisor. Because it was cancer, the owner had time to draw up a will and organize his estate.

His succession plan for the company, however, started with hoping his daughter would take over its management. His exit strategy had been determined by his health.

Prepare for Sudden Changes in Management or Ownership

Imagine you were this business owner’s commercial banker. Your small-business borrower drops this situation in your lap. Your first reaction is disbelief: This middle-aged man looks healthy. Then you become sad because you know and like this person.  But when you hear the owner’s succession plan is to hope he can leave the company to his young daughter, you wonder: “What experience does this just-out-of college daughter have?  Have I even met her?” This leads to more questions.

• How will employees react?
• How will customers react?
• How will you as a lender react?
• What is the future of this company?
• Will it stay financially healthy enough to repay the loan?

No question, the lender’s risk just went up. Should the interest rate rise as well? Is there a change of ownership clause in the loan agreement?  The owner’s terminal illness is not his fault. It is, however, his responsibility to prepare for eventualities like his own untimely death. His family, employees and company rely on his leadership and foresight to anticipate future issues.

By the same token, it is the commercial lender’s duty to ask tough questions to protect the bank’s position. Even if there is a change of ownership clause, you as the lender are in the same boat as your borrower. You want the company to succeed so the loan will be repaid or taken over at some point by another lender. No other lender will want to step in now unless the conditions can be improved with a defined succession plan along with increased collateral or financial support.

Understand the Owner/Manager’s Exit Strategy

Commercial lenders should address this risk by understanding the exit strategy of every owner/manager in their loan portfolios (if these owners even have an exit strategy).  The exit strategy will have a big influence on the strength of your credit as well as on the viability of your relationship with the company.

The exit strategy can lead to a conversation about whether the owner has a will and a succession plan. If the owner has not made a will, this could mean that ownership of the company’s shares is undecided or that the shares could land in the hands of under-prepared family members in case of the owner’s sudden death.

Case in point: Miami Dolphins owner Joe Robbie, a successful real estate attorney, did no estate planning before his death. His heirs had to sell the Dolphins franchise and Joe Robbie Stadium at fire-sale prices to pay estate taxes. The family fractured over the crisis, and Robbie’s legacy is not his successful real estate development career but the poor planning that harmed his family.

As a lender, you need to ask about an owner’s succession plan and whether the firm has the management depth and clear operational assignments to survive a surprising end to the owner’s life or incapacitation. A lender who asks these questions can prompt a business owner to develop a strategy and address shortcomings, thereby alleviating the lender’s concerns about unforeseen occurrences.

What are the possible outcomes for an owner-managed business besides the dire circumstances just addressed? Let’s look at two, both with different implications for the commercial lender: internal transfer and external transfer.

Internal Transfer

An internal ownership transfer could be (1) a sale to the management team, known as a management buyout; (2) a sale to employees via a tax-advantaged employee stock ownership plan (ESOP); or (3) a gifting of shares, usually to the next generation of the family, also with significant tax benefits. If the internal transfers are for less than 50 percent of the ownership shares of the company, the owner may stay in control of decisions and finances by controlling the voting stock.

Influence on relationship with lender. With an internal transfer, the lender should already be familiar with management if there is a change. With a management buyout, the lender should know the individuals taking over and must make a decision about whether the new team can lead the company despite the increased debt to finance the transaction. If not, the bank will ask to be paid out of the loan.

With an ESOP, the transaction will often be for less than the control of the company, a way for the owner to share with loyal employees by giving them an equity stake. A lender’s decision making should be the same, however, given greater debt on the books to finance the purchase. Gifting of company shares may be done in stages, so the current owner or management team may still be in control.

In all of these scenarios, what role will the current commercial lender play? No outside financing source will know the debt-service capability of the company better than the current lender, making it likely that the current lender will be the first invited to stay on to provide loans and services, including financing an internal transaction or ongoing operations.

All these scenarios could be subject to a change of ownership clause in the loan agreement, allowing the lender to opt out if not satisfied with the new ownership structure.

External Transfer

An external transfer would be a sale, either to a strategic buyer (such as a competitor) or to a financial buyer (such as a private equity investor). Because the external transfer will likely be for at least a majority of the shares, the owner will likely be out of the picture in a few years.

Influence on relationship with lender

With external transfers, it is likely that the private equity group or strategic buyer will have its own stable of lenders. By keeping the lines of communication open with the company and the prospective financing team, as well as expressing interest in taking at least a piece of the financing, however, the current lender may well have a role in the new loan or be kept on to provide some services.

Exit Strategy: Not Always Obvious

Commercial lenders are not often thought of as trusted advisors to a company’s business owners. Trusted advisors are generally the company’s CPA, attorney, and, sometimes, the owner’s investment advisor. The fault is not with the banker. Decades ago, the relationship was closer. However, successful lawsuits for lender liability cases have influenced lenders’ behavior. As such, lenders never want their actions to be interpreted by judges as having exerted undue influence over a borrower’s business decisions. Lender liability can result in big financial penalties against the lender.

For this reason, commercial lenders are often out of the loop when it comes to a critical factor influencing the strength and viability of their borrowers: the owner’s exit strategy. Much conversation between a bank and the owner-manager of a business focuses on the owner’s managerial role. It can be hard to get an owner to talk about ownership issues because these often require a discussion of personal and family issues. However, the owner’s exit strategy can have a huge influence on the health of the company and on the bank’s relationship with the company.

A good commercial banker provides numerous services to the owner-managed business, generating considerable fees for the lending institution. Apart from the fees and interest from the loan, the relationship probably also provides income for the bank from cash management services, trade services, account fees and balances.

Sometimes, when the lender is successful in engaging the owner in discussions of exit strategy, the loan and services may be lost anyway. Recently, a 12-store retail chain in the Northeast was sold to a large national retailer. Over the previous year, the lender had actively reviewed all the options facing the owner and the second-generation owners of the family business. In the end, the acquiror will pay out the family members for their shares, and the acquiror’s bank at the corporate level will take over the financing and services. Even with this outcome, the former lender had a good understanding of risk throughout the life of the loan and was able to anticipate some form of upcoming change.

Sources of Strategic Information

The lending officer typically meets regularly with the borrower’s chief financial officer, treasurer, vice president of finance, or controller to discuss the quarter’s results and trends. The lender can use these meetings to ask about ownership issues, including whether the owner has a will, who the beneficiary is regarding the company’s ownership, if there is a succession plan and whether or not there is an exit strategy. If the lending officer is aware of upcoming changes in ownership, the lender can protect the bank’s position as the preferred commercial lender.

The lender can help focus the owner-manager on the future by asking probing and thought-provoking questions about the owner’s will, succession plan and exit strategy. If the owner is reluctant to discuss these issues, the lender should take this as a signal that such plans may not exist.

If there is a board of directors, or board of advisors, the lender should ask these questions:

• Where will the business be in five years?

• Does the owner want to own the business in five years?

• Does the owner want to be managing the business in five years?

• Does the owner have a will?

• Who is currently the beneficiary regarding ownership of the company?

• Is there a succession plan if the owner gets hit by a bus on the way to work?

• Does the owner simply envision the spouse or other relative taking over if something happens?

Owners Want Their Businesses to Live On

Given the personal nature of these questions and their implied reminder of the owner’s mortality, these can be difficult topics to discuss openly. But the commercial lender is a key stakeholder in a business, and asking such questions protects the bank’s interest and capital.

Ultimately, most owners would like their businesses to carry on and thrive even after they are no longer active participants in it.

Creating and sharing details of a will, succession plan and exit strategy with their lender can help build toward a longer, successful existence for the business.

Michael Oleksak was a lender for 17 years at Bank of Boston. He is a principal at Trek Consulting LLC, Woburn, Massachusetts and co-founder of the Exit Planning Exchange. He works with small and medium-sized businesses to increase value and prepare for exit. Contact him at oleksak@ trekconsulting.com.  www.trekconsulting.com

© Copyright 2010 Michael Oleksak. All rights reserved.

By Michael Oleksak

Over the next several decades, millions of U.S. businesses will be sold, merged, recapitalized, gifted, closed, or liquidated. In any of these events, both the owner and the company’s value will benefit from advance exit planning. Financial executives, whether internal or external, play a key role in educating company owners on the basics of exit planning.

If you are the lead financial officer of a privately-held business, such as CFO or VP Finance, part of your fiduciary duty is to protect the company from the risk of an unplanned change of ownership, through sudden death, of both the shares and the operation of the business.  You also play an important role in increasing the company’s value by strengthening it for the possibility of a future transition or transaction.

Whether you are an internal or external financial advisor, you should make the business owner aware of three things every owner must have: a will, a succession plan, and an exit strategy.

The will protects the ownership of the firm in case a tragedy or sudden death affects the owner.  With a will, the shares will stay out of probate court and land in the hands of the person or people chosen by the owner, thereby ensuring some sense of business continuity.

The succession plan will help with the orderly transition of the operation of the business if the owner is suddenly incapacitated.  The exercise of preparing a succession plan will also help establish whether internal management is strong enough to handle running the company without the owner.

The exit strategy will be the catalyst to determine whether the company is ready for some other entity to assume ownership. Are the books and records, processes and systems, management and employees, business model, brand, public image and reputation desirable enough for someone else to pay to acquire it? If the answer is yes, the next question is would the acquirer be external or internal?

Exit Options

The owner’s external exit options are sale to a strategic buyer or sale to a financial buyer or private equity group. Internal transfer options include a management buy-out, a sale of shares through the Employee Stock Option Plan (ESOP), or gifting of shares, usually to the next generation of the owner’s family. Each of these five exit options has a different valuation range, with external transfers generally having higher values. The owner will also relinquish control of the firm after the external transaction, giving up the ability to subsidize his or her lifestyle through internal expenses. The external exit option also eliminates the owner’s control over his or her legacy, so the owner must determine his or her financial and emotional readiness to exit the business.

If the owner is emotionally ready to leave the business, but needs the highest financial return, as the financial advisor you can recommend that a sale to a third party strategic or third-party financial buyer should be considered. Under these arrangements, it’s important to calculate investment banking and legal fees, as well as taxes, because all will be subtracted from the amount of the check the owner will cash at the end of the day. Due diligence by the third party buyer will be thorough. If there are family members working in the business, their employment may be at risk if the current owner is not calling the shots.  The owner may be required to bridge any financing or value gap with seller notes or earn-outs over time.

A management buyout (MBO) creates a different risk to analyze: is the management team capable of continuing to generate enough cash to pay out the owner over time? Some industries lend themselves to MBO’s better than others, such as construction. Such a deal will require outside financing from a bank or another source, and management may be required to pledge personal assets to support a bank loan. Seller notes will also likely be part of the financing. After the buyout, the owner may still be involved and may retain some financial expense benefits under the deal. The further in advance this option is considered, the better the owner can prepare the team for the execution.

An ESOP is a tax-advantaged, though administratively complex, way for the owner to take some money off the table by selling shares to employees and management. Under a buyout or transfer through an ESOP, the owner will likely remain in control if less than 50% is sold, and will continue to have some personal expenses paid by the company.

Gifting is also a tax-advantaged way to transfer ownership, usually to (hopefully capable) family members. The owner can stay in control and have expenses paid for by the firm. This option will cause complications in relationships, especially as you get deeper into the second and third generations of the family.  Capable outside consultants with experience in family business issues should be considered to help smooth out issues.

All the options that financial executives can suggest for exit strategies carry different valuation ranges, with external transfers having higher valuation ranges (and higher tax impacts). However, a clear awareness of each will help the owner and the company mitigate risk and prepare for the future.

Published in Financial Executive

Michael Oleksak was a commercial lender for 17 years at Bank of Boston. He is a principal at Trek Consulting LLC, Woburn, Massachusetts and co-founder of the Exit Planning Exchange. He works with small and medium-sized businesses to improve performance and value and to prepare for exit.

Contact him at oleksak@ trekconsulting.com - www.trekconsulting.com

© Copyright 2010 Michael Oleksak. All rights reserved.

by Sarah Richmond

The media is filled with reports of the red hot merger-and-acquisition market. In the technology sector in particular, the volume and transaction value of 2007 M&A deals are both forecast to approach levels not seen since 2000. And despite improvements in the IPO market in recent years, M&A remains the liquidity event of choice for venture-backed companies.

These trends bode well for entrepreneurs hoping for a sale to a strategic buyer. However, for many of these aspiring sellers, a deal will never be concluded even though their business’s fundamentals are solid and buyer interest is strong. These “M&A casualties” occur because too often entrepreneurs do not exercise sufficient planning, realism and creativity.

An early mistake that sellers make is not having a realistic picture of how much their business is really worth. Much as many parents overestimate the intelligence and beauty of their own children, many founders overestimate the value of their own company, causing them to expect an unrealistic price. If you are a seller thinking about your exit, finding comparables in the marketplace will help you arrive at a realistic valuation. Much of this type of data is available online, and there are also outside advisers who can assist you.

Even realists sometimes find that their expectations are out of sync with a buyer’s willingness to pay, so thinking of creative solutions that can bridge the gap is important. One solution that is frequently employed is an earnout, which defers some of the sale price to future payments, which are contingent on sales targets, product developments or other milestones. An earnout satisfies the seller’s desire to be compensated for the expected future value of its assets, while also satisfying the buyer’s desire not to overpay for value that has not yet been realized at the time of the sale. However, sellers should be mindful that earnouts are only successful for the seller when very careful attention is paid to the structuring of the earnout when negotiating the deal.

The due diligence process is another contributor to deal failure. Major problems result when a seller fails to disclose important information about the company, and this information is later ferreted out by the buyer or its attorneys in their due diligence review. This can result in a purchase price reduction midstream, or even the suspension of negotiations. At the very least, because the “trust factor” has been impaired, the buyer will now feel the need to dig deeper and spend more time on due diligence than they otherwise would have.

Entrepreneurs can help smooth the way by doing their own due diligence on their company before the negotiations even begin. This will provide an opportunity to fix problems in advance, and even if this is not possible, at least it allows the seller to frame the issue for the buyer with the appropriate context, while retaining the buyer’s trust.

Many things outside the entrepreneur’s control can kill a deal midstream, and reducing the time-span of the due diligence period minimizes the likelihood of these events occurring. Priorities at the acquiring company may change during the process, making the acquisition seem less compelling. In addition, market conditions can change at any time, and a drawn-out process is the seller’s enemy.

Lastly, the acquisition period is an intense and distracting time for the entrepreneur and the company’s senior management team. Since a significant amount of time and effort is typically required to negotiate the deal documents and coordinate the due diligence review, many of the seller’s key people may not be able to focus as tightly on their day-to-day responsibilities. If this impairs the business’s performance leading up to the closing, the buyer will get nervous and the acquisition itself may be jeopardized. Management should be sure to keep its eye on the ball and continue to focus on running the company despite the distractions of the deal.

Deals fall through for a number of reasons. Anticipating the types of things that can go wrong, and working to address them with creative solutions, will contribute to ultimate deal success.

Sarah C. Richmond is a partner at Gesmer Updegrove LLP, a Boston law firm focused on entrepreneurial companies and their investors. She can be reached at sarah.richmond@gesmer.com.