Expect M&A to Recover in 2024

/in , /by Al Statz

Global M&A deal value nearly reached a 10-year low in Q3 2023 (Q2 2020 excepted). Deal count and total deal values both declined, as shown in this graph produced by Pitchbook. And these declines were evident across almost all most industry sectors and among all types of acquirers and sellers.

However, several factors are pointing to a recovery in M&A activity in 2024. The global total of $1.4 trillion in unspent PE dry powder is just 9.7% shy of its all-time high, and an even larger cash pile is on the books of corporations, positioned for new deals. There is also pressure building on the valuation front. Public markets are looking expensive again relative to private markets. Lower private-market valuations may spur rich public strategic buyers to scoop up private targets.  Also, a halt in interest rate hikes or reversal would put less upward pressure on borrowing costs, which have been a major headwind for dealmaking this year.

If you’re contemplating a sale, we would be happy to discuss current market conditions and whether the time is right to achieve your goals.

Al Statz is the founder and President of Exit Strategies Group, Inc. For further information on this subject or to discuss an M&A, exit planning or business valuation question or need, Email Al or call him at 707-781-8580. 

North American M&A Activity

/in , /by Ignacio Ochoa

As business owners continue to toggle with the idea of selling their business, they often ask us, when is the perfect time to sell? Are current market conditions going to give me the return I am looking for? The graphic above shows M&A activity over the past decade. As you can see, the amount of deals performed each year have remained flat for most of this time period. Instead of attempting to time the market based on deal value or deal count, we always encourage our clients to focus on their company’s health and growth while our team of accredited advisors does the heavy lifting of preparing a swift and successful approach to the market.

For advice on exit planning or selling a business, contact Al Statz, CEO of Exit Strategies Group, Inc., at alstatz@exitstrategiesgroup.com. Exit Strategies Group is a partner in the Cornerstone International Alliance.

M&A Glossary: Multiple

/in , /by Exit Strategies

A multiple is a way to measure how much a company is worth. If a company has $2 million in EBITDA and it sells for $10 million, we say it sold at a “5 multiple.” Multiples are used as a valuation tool by analyzing the multiple similar companies obtained in a sale.

For example, if a similar business sold in your industry for 6x EBITDA, valuation analysts will use that as an indicator in predicting what your company could sell for in the open market.

Do you have friends who’ve shared their multiple with you? Convinced your business will earn the same? Be sure you’re not comparing apples to oranges. We can help.

For advice on exit planning or selling a business, contact Al Statz, CEO of Exit Strategies Group, Inc., at alstatz@exitstrategiesgroup.com. Exit Strategies Group is a partner in the Cornerstone International Alliance.

How to avoid being surprised by your business valuation

/in , /by Exit Strategies

A significant number of business owners do not know how much their business is worth. That can be a source of conflict in the face of unfortunate events such as a divorce or a partnership separation. But it can be even more painful when the business owner plans to retire, only to find out the business isn’t worth as much as they expected.

 

These owners may have harbored lofty expectations based on personal attachment, historical performance, or their own inexperienced assessments, only to face a stark reality when confronted with a lower-than-expected valuation. It’s difficult news that can lead to dashed retirement dreams.

 

Maybe the owner has to work years longer than expected to build the business to the valuation they want and need. Worse yet, some business owners cling to their misplaced expectations, resisting calls from spouses or business partners to sell. Over time, distractions, frustrations, or external factors beyond their control can lead to declining business performance, and the business no longer becomes salable at all.

 

Let’s explore some of the reasons why business owners may experience such unwelcome surprises and shed light on the factors that can impact a business’s worth:

 

1. Emotional attachment: Business owners often have a personal and emotional attachment to their business, which skews their perception of its worth. Unfortunately the time, effort, and resources you’ve put into building a company do not always translate into transferrable value.

 

2. Lack of financial documentation: Another common problem that catches business owners off guard is a lack of proper financial documentation.

This happens frequently in bars, restaurants, and other cash-based operations. Sometimes owners make the mistake of not reporting income in order to save on taxes. But every dollar saved in annual taxes can cost three or four times (or more) as much in lost business value at the time of sale.

Even so, this is a problem even larger, non-cash businesses can deal with. If a business owner has not maintained accurate and up-to-date financial records—tracked according to standard accounting practices—it can be challenging to show the company’s true financial performance.

 

3. Overreliance on historical performance: Business owners might assume that historical financial performance automatically translates to current value. And it’s true that buyers will tune into the last 12 months’ financials. However, buyers are also looking at future earning potential.

They take various factors into account, including your company’s gross profit and EBITDA margins. Are your margins shrinking or growing? What about the market and the competitive landscape? If the business’s historical performance is not indicative of its current or future potential, the valuation might be lower than expected.

 

4. Concentration of risk: A business heavily reliant on a few key customers, suppliers, or employees poses a risk to potential buyers. If the value of the business is significantly tied to specific individuals or relationships that may not transfer upon a sale, that will impact the valuation.

 

5. Industry and market factors: External factors, such as changes in the industry or market conditions, can influence the value of a business. If the industry is experiencing a decline, changing trends, or disruptive technological advancements, the value of the business may be lower than anticipated.

 

6. Unrealistic growth projections: Business owners sometimes have overly optimistic growth projections that are not supported by market data or a realistic assessment of the business’s potential. If growth projections are unrealistic or lack substantiation, it can negatively impact the valuation.

It’s not good enough, for example, to say, “We don’t do any marketing. All you have to do is market the business and sales will grow.” Such a claim linked to a “hockey stick projection” (i.e., flat growth followed by a sharp increase) can hurt your credibility with buyers.

 

7. Lack of professional guidance: Without proper guidance from business advisors, such as an M&A advisor or valuation expert, owners may not fully understand the factors that impact what their business is worth. Seeking professional advice can help an owner manage expectations or, better yet, adjust business strategy toward supporting their valuation goals.

 

Each business is unique, and the factors affecting a valuation can vary. It’s generally a good idea to keep tabs on what your business is worth over the years. Consider getting an affordable estimate of value every two to three years so you know where your business stands. You don’t want to be caught off guard by any negative surprises at retirement time.

For advice on exit planning or selling a business, contact Al Statz, CEO of Exit Strategies Group, Inc., at alstatz@exitstrategiesgroup.com. Exit Strategies Group is a partner in the Cornerstone International Alliance.

Address Culture Conflict Before a Sale

/in , /by Exit Strategies

As an owner, one way to maximize value in your business is to demonstrate that you’re not the smartest person in the room. In an ideal state, you work yourself out of a job, moving on to an advisory role while your management team runs day-to-day operations.

With that said, it’s equally important that your goals and values are in sync with your managers’.  When selling a business, you want to show buyers a positive work culture in which team members work well together and make each other better.

Over the years, we’ve seen gifted people who are very good at doing their technical jobs, but who are either poor managers or don’t get along with ownership. As an owner, that’s a tough position to be in. Do you accept the conflict if the business is continuing to make money, or do you replace management in hopes of finding a better personality fit?

If you find yourself in that scenario, you have a couple of options. You can replace management, you can try to fix the culture issues, or you can go into a sale process being upfront about team dynamics.

The first option, replacing management, could be difficult as the talent market tightens. Moreover, you should try to complete any key staff changes at least a year before you go to market. (Keep this is mind if your management team is nearing retirement as well. You don’t want to lose all your key leaders right at the time you yourself want to exit the business.)

The second option is to address the cultural issues with your existing team. You might start by looking at your own leadership style by working with an executive coach. Or, bring in a consultant like SM Advisors or Initiative One to address team issues. Some outside perspective and consensus-building can go a long way toward building a shared vision.

Finally, you can go to market, acknowledging that team dynamics are a weak spot for your business. It’s very tough to hide in-fighting—conflict almost always come out during the sale process.

In this scenario, you might actively partner with management employees, positioning the sale as an opportunity to find new ownership that better fits their vision for the business. This is a wise route if management would be particularly hard to replace. Key employees who feel shortchanged or undervalued can chase away buyers, holding your deal hostage in exchange for a bigger salary, bonus structure, or even equity.

Alternately, you can work with potential buyers to pinpoint personality misfits that a buyer could better fill with their own people. If your team is dysfunctional but profitable, some buyers will see that as an opportunity to grow even more, once team dynamics have been addressed.

For advice on exit planning or selling a business, contact Al Statz, CEO of Exit Strategies Group, Inc., at alstatz@exitstrategiesgroup.com. Exit Strategies Group is a partner in the Cornerstone International Alliance.

Selling Your Business to an Existing ESOP is a Win-Win

/in , /by Adam Wiskind

While selling your business to a newly formed Employee Stock Ownership Plan (ESOP) is an intriguing and rewarding exit path, forming an ESOP can be complex and expensive, and is not appropriate for all businesses. But, what if you could sell your business to an existing ESOP company, allowing you to secure your financial future, secure the future success and legacy of your company, and benefit your employees? This is a real possibility for many business owners, including one of my recent clients.

Before delving into these two options, I want to point out that an Employee Stock Ownership Plan is a retirement plan that allows employees to become partial owners of the company. Instead of traditional retirement benefits like a 401(k), employees receive the benefit of shares of the company’s stock over time, typically at no cost to them.

Why consider an ESOP for your company?

1. Preserve Your Legacy

For an owner, one of the most significant advantages of selling to an ESOP is the ability to preserve the legacy of the business. Your employees, who are already familiar with your company’s culture and values, can carry on the traditions, values and vision you’ve built over the years. While selling to an existing ESOP company does not guarantee to maintain the cultural continuity of your company, there is evidence that ESOPs maintain more stable employment and survive recessions better than other companies. ESOPs provide the opportunity to create an enduring legacy for you and your employees.

2. Maintain a Motivated and Committed Workforce

Employees who become owners through an ESOP often become more engaged and motivated. They have a personal stake in the company’s success, which can lead to increased productivity and a stronger commitment to the business’s long-term success. Employees gain a valuable retirement benefit, fostering loyalty and attracting top talent to the business.

3. Enjoy Tax Benefits

There can be substantial tax advantages for both the business owner and the company when selling to an ESOP. Depending on the structure of the sale, the owner may be able to defer or even eliminate capital gains taxes on the sale of their company even if it’s to an existing ESOP company.

Form an ESOP or sell to an existing ESOP?

While selling to an ESOP can offer numerous benefits to an owner, forming an ESOP is expensive, time consuming and importantly requires having an experienced management team in the company able to administer it. Sometimes, selling your business to an existing ESOP company is a better strategy. Here are six compelling reasons to consider this option over forming a new own ESOP:

  1. Variety of buyer candidates: According to the National Center for Employee Ownership (NCEO) there are roughly 6500 ESOP companies covering a wide array of industry verticals from technical services to manufacturing, construction, wholesale trade and others. About 2% of these are ESOP holding companies which own a variety of companies. There is likely to be acquisitive ESOPs in your industry.
  2. Immediate Implementation: Creating an ESOP from scratch requires time and resources, including legal, financial, and administrative efforts. Selling to an existing ESOP allows you to skip this lengthy set-up process and immediately transition ownership to a well-established ESOP.
  3. Reduced Administrative Burden: Managing an ESOP involves ongoing administrative responsibilities, such as record-keeping, annual valuations, and compliance with regulatory requirements. Setting up an ESOP requires having management in place that can manage the administration. When you sell to an existing ESOP, these responsibilities are shouldered by the existing ESOP trustees and administrators, saving you time and effort.
  4. Experienced Management: Established ESOPs typically have experienced leadership in place, including trustees and administrators who understand the intricacies of ESOP operations. This can provide peace of mind and ensure a smoother transition for your employees.
  5. Easier Valuation Process: Determining the fair market value of your business can be complex and contentious. Selling to an existing ESOP often involves a more straightforward valuation process because the ESOP trustees are already well-versed in this aspect of managing an ESOP.
  6. Immediate Employee Buy-In: Employees that are working for a company that is being sold to an existing, functioning ESOP are more likely to be receptive to the transition and readily embrace the ESOP model, fostering a positive and motivated workforce from day one.

Selling your business to an existing ESOP can be a win-win scenario for many small business owners and their employees, especially those who lack the resources or infrastructure to form their own ESOP. The benefits include a quicker implementation process, reduced administrative burdens, a simplified valuation process, and immediate employee buy-in. These factors can make the transition smoother and more efficient, benefiting both you as the business owner and your employees.

We can help you to sell your business to an ESOP. If you’d like to have a confidential, no commitment discussion on your exit plans or have related questions, please contact Adam Wiskind, Senior M&A Advisor at (707) 781-8744 or awiskind@exitstrategiesgroup.com.

Top 8 Reasons why Buyers Walk Away from an Acquisition

/in , /by Exit Strategies

Deciding to pursue a merger or acquisition can be a complicated process fraught with risk. Even when the financials look good and the potential rewards seem great, there are several reasons why a buyer might decide to walk away from a deal. Understanding these reasons can help sellers prepare for negotiations and improve the likelihood of a successful outcome.

Here are eight common reasons why M&A buyers might decide not to proceed with a deal:

  1. Big Surprises in Due Diligence:  During due diligence, the buyer may discover that the target company is not what they expected. This could be due to operational issues, poor recordkeeping, inadequate systems, or other concerns. If the buyer believes that these problems make the investment too risky, they may walk away. That’s why it’s important to “go ugly early.” In other words, put all the negatives on the table right away, to reduce the chance of surprises ruining a deal later on.
  2. Financial Concerns:  When evaluating an opportunity, buyers are looking at a company’s financial health and future earnings potential. If, during due diligence, they find significant financial issues, such as declining revenue, over-aggressive addbacks to prop up EBITDA, or inaccurate financial statements, the buyer may abort the deal process.
  3. Cultural Red Flags:  An acquisition involves the integration of people and organizational cultures. Buyers and sellers should have had culture discussions before the letter of intent stage. But sometimes new information reveals itself as the parties work together. If the buyer perceives significant cultural misalignment, they may walk away to avoid potential integration challenges or disruption to their own corporate culture.
  4. Liability Concerns:  As part of due diligence, buyers look at a range of risk factors. They don’t want to face an unexpected lawsuit or deal with the aftermath of someone else’s improper corporate conduct. Concerns here include ethical and legal issues, including non-discrimination and employment practices, regulatory requirements, and contracts, as well as tax liabilities.
  5. Environmental Issues:  Many transactions will include an environmental site analysis. Even if you aren’t selling the real estate with the business, the buyers may want assurances that the business hasn’t been the source of any unknown leaks or contamination. Unfortunately, environmental events do occur, and some sellers find themselves tied up in years of environmental remediation issues before they are able to alleviate buyer worries and put their business back on the market.
  6. Strategic Shifts:  Changes in a buyer’s strategic priorities can prompt them to walk away from an acquisition. Sometimes a buyer’s board of directors or investors don’t approve the deal. Something as simple as the buyer losing a key executive who championed the deal can sideline an otherwise healthy transaction. We’ve seen it happen!
  7. Unresolved Negotiation Issues:  Negotiating an M&A deal requires reaching consensus on a wide range of deal terms, including price, payment terms, contractual obligations, warranties, working capital, and other deal-specific issues. If the buyer and seller cannot resolve key negotiation points, it can lead to deal termination. Resolving these issues can be a critical point of failure for many deals. That’s why it’s a good idea to work with an experienced M&A advisor and attorney who knows what’s normal and customary for your industry and won’t obstruct your deal with overzealous demands or omit critical deal terms. You want an attorney who will protect your interests, but you also want a proven deal maker, not a deal breaker. This is also why you want the buyer to outline as many deal terms as possible in the letter of intent (LOI). At the LOI stage, you still have other buyers at the table, giving you more leverage and options.
  8. External factors:  Finally, some deals get foiled by external factors outside everyone’s control. For example, COVID-19 killed or delayed many deals. The dot.com and housing busts, 9-11, political shifts, supply chain disruptions, strikes, rising interest rates—these are just some of the many external events that have delayed deals or stopped them in their tracks.

It is important to note that walking away from an M&A deal can be costly for both the buyer and the seller. The buyer loses the money they have spent on due diligence, and the seller may lose the opportunity to sell their company. However, in some cases, walking away is the best option for both parties.

Before entering into an LOI with a buyer, your advisors can help you check their refences and deal history. You want a buyer with a track record of completing deals and staying true to commitments.

For advice on exit planning or selling a business, contact Al Statz, CEO of Exit Strategies Group, Inc., at alstatz@exitstrategiesgroup.com. Exit Strategies Group is a partner in the Cornerstone International Alliance.

20 Exit Planning Questions that Every Business Owner Should Ask Themselves

/in , /by Al Statz

Eventually every business owner will retire and hand over the keys, and in my experience, the farther ahead owners plan for their exit the happier they’ll be with their exit.

While there are many things to consider when planning an exit, particularly for owner-operators of businesses, here is a list of twenty questions that business owners should be able to answer with clarity and confidence.

Twenty Questions that Every Business Owner Should Ask

  1. When do I want to retire? And what will I do when I retire?
  2. What must my company be worth when I sell, to fund my desired retirement lifestyle or next business venture?
  3. What is my company worth today?
  4. Is there a gap between what my business is worth and what I need? If so, what can I do to close that gap?
  5. How marketable is my business?
  6. Do I want a role in the company post sale? What role and for how long?
  7. What should I be doing to demonstrate to buyers that my company will continue to prosper when I leave?
  8. What are the potential benefits and risks of retaining a minority equity stake in the company?
  9. What will my taxes be on a sale? And do I have the best entity structure to maximize my after-tax proceeds?  If I don’t, what can be changed and when?
  10. Do I understand the pros and cons of selling to family, managers, a private equity group, a consolidator, a competitor?
  11. What should I do if I want to sell to my key managers? And is my company an ESOP candidate?
  12. What should I do if I want to sell to my children?
  13. Which of our key employees should we have non-compete agreements or retention bonus agreements with?
  14. What language should we have in our contracts with customers and suppliers to facilitate a change of ownership?
  15. What is considered high customer concentration in my industry and should I be taking steps now to diversify?
  16. What is considered good financial performance in my industry and how does my company compare?
  17. Should our financials be Audited or Reviewed? For how many years before the sale?
  18. Should we have a Quality of Earnings analysis done before going to market?
  19. In a sale, how does it matter if our liability insurance policy is claims made vs occurrence? What is tail insurance?
  20. Beyond money, what are my priorities and preferences in a sale?

For those seeking professional assistance, engaging an M&A advisory firm is a great way to set your business up for post-sale success. At Exit Strategies Group, we can estimate the probable selling price or fair market value of your business. We can evaluate your business for factors that are boosting or detracting from its value and marketability, and we can work with you to improve these factors over time. And when you are ready to sell, we can maximize your value and ensure a smooth and successful transition through our structured M&A sale process.

Al Statz is the founder and President of Exit Strategies Group, Inc. For further information on this subject or to discuss an M&A, exit planning or business valuation question or need, Email Al or call him at 707-781-8580. 

M&A Glossary: Virtual Deal Room

/in /by Exit Strategies

A deal room is a secure, virtual space where buyers and sellers can share and exchange confidential information related to a potential transaction. Information is typically stored and accessed through a secure online platform that allows users to view, download, and upload documents and other information as needed.  

 

The use of a deal room is essential in M&A transactions because it allows buyers to perform their due diligence in a secure and confidential manner. By limiting access to sensitive information and tracking who has viewed or downloaded content, deal rooms help to minimize the risk of information leaks or other security breaches.  

For advice on exit planning or selling a business, contact Al Statz, CEO of Exit Strategies Group, Inc., at alstatz@exitstrategiesgroup.com. Exit Strategies Group is a partner in the Cornerstone International Alliance.

Questions to ask when hiring an M&A advisor

/in , /by Exit Strategies

When it comes time to sell your company, the right M&A firm or investment bank can make all the difference. From preparing a stellar offering memorandum, to running a well-organized process, to generating multiple offers, to negotiating the best possible deal for you, your advisor needs to bring the right mix of transactional skill, processes, resources, and chemistry to the table. This article presents several questions that you should be asking as you search for the right M&A advisor.  

Why do you want to represent my business?

  • In today’s market, a successful investment banker will turn away more opportunities than they accept. They need to know they’re a good fit for you and your business. And they need to be confident that they can successfully sell your business and meet your goals.  

What’s your fee structure?

  • M&A advisor fees usually vary with the size and complexity of the transaction. The 2022-2023 M&A Fee Guide from FIRMEX helps pull the curtain back on M&A fees, revealing what’s normal and customary for the industry.  
  • The bulk of the advisor’s fee should be earned as a success fee, when a deal closes. The most common success fee structure, used by 40% of survey respondents, was the Lehman formula in which the fee percentage decreases as the deal gets bigger. Roughly a third charge a fixed percentage, and 18% used an accelerator formula which gives the advisor a higher percentage on deals that exceed a benchmark price. According to the FIRMEX report, the most common fee for a $5 million deal is between 6.1 to 8%. For deals over $150 million, the most common fee is between 1.1% and 2%. 
  • Most investment bankers (81%) also charge an upfront retainer. According to the FIRMEX report, lump-sum retainer fees generally fall in the $26,000 to $50,000 range, while monthly fees fall between $5,000 to $10,000 a month.  
  • When evaluating advisors, consider whether their fees are similar to the above. If fees are significantly higher or lower, proceed with caution. The right fee arrangement aligns the advisor’s incentives with your own.  

What is your experience in selling businesses like mine?

  • Consider deal size and industry experience. Do they work on deals of similar size to yours?  Also, no advisor can be well-versed in every industry, but they may have partners with strong experience in your space. 

Who have you worked with in the past?

  • Ask to speak with a few past clients directly. Do they feel they got good value in exchange for the advisor’s fee? Was the advisor transparent and forthcoming with status updates? Did they do what they said they’d do? 

How many people will work on my deal?

  • An investment bank will typically have a team of people assisting with marketing, research, and managing the details of due diligence. Expect a mix of senior advisors with experience and contacts as well as more junior analysts to help manage the workload.  

How many other deals will you be representing?

  • Arguably, a lead advisor with a full team behind them could successfully represent four or five engagements at a time. Advisors with less junior staff generally handle two or three. Much beyond that, and they could lose focus or be unavailable to you at critical times.  

What is your success rate and why have deals failed in the past?

  • No investment bank closes every one of their transactions. There are many reasons deals fall apart, including unforeseen market changes, inaccurate business records, and shareholder conflicts, just to name a few. A successful advisor will be able to identify a lot of pitfalls ahead of time and may not take on higher risk deals. Asking this question can help you get a sense of how confident they are in their ability to sell your business, as well as how they handle bumps in the road.   

On average, how many offers do you get per deal?

  • You’re looking for an investment bank who can bring multiple buyers to the table at the same time. This creates an auction-like environment and gives you options to choose a buyer that’s the best fit for your goals. 

What’s your average over benchmark?

  • In the lower middle market, deals are marketed without a published asking price so as not to create an artificial ceiling on deal value. A benchmark is a private target price set between the seller and the advisor based on an objective assessment of the business and the market. An advisor who outperforms benchmark is doing the necessary work to obtain the maximum value the market will bear.  

How will you ensure the confidentiality of my business information?

  • Ask if you’ll be able to review marketing materials and buyer lists before information is released. Talk about other steps, including non-disclosure agreements, secure online deal rooms, buyer financial disclosures, and other tools that will be used to protect confidentiality and vet buyer inquiries throughout the sale process.  

Asking the above questions will help you gain a better understanding of an advisor’s qualifications, experience, and approach, and determine if they are the right fit for you. 

For advice on exit planning or selling a business, contact Al Statz, CEO of Exit Strategies Group, Inc., at alstatz@exitstrategiesgroup.com. Exit Strategies Group is a partner in the Cornerstone International Alliance.