Business Valuation 101 for Testing Laboratories

/in , /by Adam Wiskind

Testing laboratories operating in the agriculture, food production, environmental, manufacturing and construction industries provide essential and recurring services to their customers. As such they can be attractive to investors looking for steady growth, recession-resistant acquisition opportunities. If you own a testing laboratory and are thinking about an exit, you’ll likely want to know its value. Business valuation can help lab owners to plan for their future and to understand how to improve their company’s financial health.

Valuation is the process of analyzing value drivers such as market conditions, business model, customer base, competitive landscape, and financial performance. In this article, we discuss the basics of business valuation and explore some key drivers for testing laboratories that can help you to understand the value of your laboratory business.

Different Valuation Approaches

There are three fundamental approaches to determine value: Asset, Income and Market. Most valuations triangulate the analysis results using each approach.

  1. Asset – based on the fair market value (adjusted from book value) of a company’s underlying assets and liabilities and the identification of intangible assets.

  2. Income – based on present value of the expected future benefit stream (cash flow) adjusted for risk.

  3. Market – based on a principle of substitution where value is based on a multiple of an operating metric (earnings) derived from the publicly available value of companies with similar characteristics.

The fundamentals that drive value in testing laboratories are the same as for any small business, strong cash flow, consistent growth and known and controllable risks. Cash flow is measured by EBITDA, which is net operational income less interest expense, state and federal taxes, depreciation and amortization. EBITDA can be used to analyze and compare profitability between companies and industries because it eliminates the effects of financing and accounting decisions. The more consistently profitable a business is, the more valuable it will be. A well-executed valuation does not just consider historical performance but will analyze future growth prospects and risks for the business.

Value Drivers for Testing Laboratories

Within the testing industry, we’ve identified some drivers that commonly result in strong business performance and enhance value:

  • Provide in-demand services: Demand for testing is typically driven by third party government agencies, vendors or customers requiring verifiable evidence of reliability, safety or regulatory compliance. It is important to keep testing procedures relevant to changing demands and compliant with regulations. Laboratories that understand the sources of industry demand and position their services accordingly will be more valuable.
  • Recommendation/accreditation from authoritative source: Quality and consistency of service is vital to testing laboratories. Obtaining laboratory and quality systems accreditation like ISO will help to improve service delivery and demonstrate to the marketplace that the laboratory can provide a high level of service.
  • Contracts: Maintaining long-term vendor and customer relationships creates a more stable business and a pedestal to plan for the future. One approach to encourage these relationships is to establish vendor contracts that provide consistent pricing and terms and customer contracts that provide recurring revenue. Businesses with these contracts in place are more valuable.
  • Access to highly skilled workforce: Companies need to employ highly qualified and highly skilled scientists and support staff who are knowledgeable not just in test protocols, but how test results are utilized by the industries that they are servicing. Businesses with a committed and capable management team are better positioned to perform after a business owner exits.
  • Prompt, consistent delivery to market: The ability to deliver results in a timely manner is important due to the results-oriented nature of this industry. To remain competitive, laboratories need to be located close to clients for quick delivery of test results and utilize processes, equipment and technology that produces efficient and accurate test results.

Exit Strategies Group helps business owners to value and exit their testing laboratories. 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.

Avoiding costly M&A delays and deal failure

/in , /by Al Statz

No matter how motivated the buyer and seller, selling a business is always a challenge. There’s a lot that can go wrong, and deals can fall through at any time.

Delays are one of the biggest problems contributing to deal failure. The longer the process drags on, the more likely it is that a) someone gets fed up and moves on or b) something big will happen, economically or geopolitically, that disrupts the deal.

Here are three top delays that can be readily avoided when selling your business:

Messy financials.

Disorganized or simply non-standardized financials can cause significant slowdowns. If your bookkeeping doesn’t align with accepted practices, buyers will spend considerable time and money verifying your numbers.

Buyers don’t like making that investment only to find out your EBITDA is 20% less than stated. At this point, they generally expect to “retrade” the deal, adjusting their price or terms. This can lead to contentious negotiations or complete deal failure.

In the three years before a sale, it’s best to have your financial statements audited by your CPA firm. If you haven’t done that, you can have a Quality of Earnings report completed by a reputable third-party firm, separate from your standard CPA. Either approach will give buyers confidence, create transparency in your numbers, and allow the process to move ahead faster.

Surprise discoveries.

When selling your business, we say “go ugly early.” If you have skeletons in your closet, a customer that’s threatening to walk, ineligible workers on payroll… we need to disclose that to buyers sooner rather than later.

When surprise conditions are revealed too late in negotiations, it makes buyers wonder, “What else are they hiding?” Unexpected revelations can trigger additional due diligence, causing buyers to view your business as a source of risk and suspicion.

Inexperienced deal teams.

When it’s time to sell your business, you want a proven deal team in your corner – including an investment banker, a tax specialist, and an M&A attorney. Your regular CPA and attorney have their own roles to play, but you also need M&A specialists who understand what’s standard and customary in deal terms.

Inexperienced advisors tend to be both slow and overzealous. They work overtime to figure out what they don’t already know, and they tend to ask for unreasonable concessions which slow down negotiations.

Experienced M&A advisors can keep the process moving forward at an appropriate pace and minimize the impact of any complicating factors that arise. The old adage of “time kills all deals” holds true in M&A. The longer it takes to get to that closing table, the more expensive and tenuous the deal gets.

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.

Deal Killers: Undisclosed Liabilities

/in , /by Al Statz

We have a saying: “Go ugly early.” When you’re selling a business, put issues on the table right away. Whether you have ineligible employees on your payroll, you just lost a client, or litigation is pending—be up front.

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.

Deal Killers: Loss of Key Employees

/in , /by Al Statz

If you have certain employees who are critical to operations and would be hard to replace, take steps to secure them before a sale.

Noncompete contracts can be one way to reduce employee defections. Take a look at your employee agreements, too, and ensure you have appropriate non-disclosure and “no raid” covenants.

Give careful consideration to “stay bonuses” as well. Provide an incentive for employees to stay for a period of time post-closing. Talk with your advisors and buyers about other incentives, such as stock options, which can minimize defections.

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.

Deal Killers: An Ineligible Workforce

/in , /by Al Statz

If you run a business and you know you have ineligible workers on your team, you must disclose that in a transition. In limited cases, you may find a buyer who is willing to accept the problem and address talent issues after an acquisition.

Unfortunately, if you’re selling your business to a strategic buyer (e.g. another company), you’ll find that the appetite for an undocumented workforce is generally low. Larger organizations don’t usually want to take on the kind of liability and risk that brings.

You may still find a strategic buyer, but expect price reductions and other adjustments to the deal structure.

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.

Operation clean sweep: Preparing your business for sale

/in , /by Exit Strategies

You’ve decided to sell. Now how can you get the most for your business?

Real estate principles apply, so you’ll want to clean house and maximize your curb appeal. But that’s not all that goes into a successful business sale. You need to “clean up your act,” so to speak, and address some operational issues that may not have been a priority for you over the years.

Clean up your financials.

Many business owners run their monthly financials in QuickBooks or similar software. These financials may not be reconciled on a monthly basis which means you’re often correcting entries throughout the year.

Buyers need to rely on the numbers presented, so check your accuracy and correct errors so there are no surprises during the due diligence period. We see companies with placeholder or oddball accounts too – things like “See Accountant” or “Undeposited Funds.” These accounts should be reviewed and cleared out before presenting your financials to potential buyers.

Trim your working capital.

Working capital is always a negotiating point when selling your business.

A small business may be sold with no working capital beyond inventory. But for a lower middle market business (those with values greater than $5 million), buyers expect you to sell the business with enough working capital to operate.

There are different definitions of working capital depending on your specific scenario, but the most basic definition is Account Receivables(A/R) + Inventory – Account Payables (A/P). You’re generally better off when you can minimize working capital because it means you’ll take home more out of the business at the end of the day.

Look at your aged accounts receivable, and either try to collect on older balances or write them off. Send out invoices in a timely manner and work with customers, as appropriate, to bring those payments in faster.

Review accounts payable as well. Are you paying bills faster than you need to? It’s not uncommon to see long-standing business owners in a comfortable cash position get complacent about how they’re managing their working capital – paying bills quickly and collecting slowly. Think about how you can make the best use of other people’s money without jeopardizing relationships. It will pay off when it comes time to sell.

Clear out excess inventory.

We also see a fair number of businesses operating with excess inventory. When demand is strong and credit is cheap, many businesses use that credit to buy inventory. After all, the more inventory you have, the more flexibility you have in production, and the more responsive you can be to customer demand.

If you’re planning ahead, think about right-sizing your inventory in the last couple of years before you sell (good business information systems can help). Too much inventory inflates your working capital. If you don’t get disciplined about inventory, you can always try to tell buyers, “Yeah, you don’t really need that much.” We can make that argument, but it’s a fight to get an adjustment.

Inventory issues aren’t just about “excess” either. Sometimes the real problem is “dated.” if you’ve been squirreling away excess inventory for years, beware. Buyers may not pay for outdated inventories that you thought you might sell someday. Make sure your inventory is in salable condition and has value to a buyer.

Close out legal issues.

Check for outstanding judgments or legal issues that haven’t been resolved or taken off the county records. Your attorney can help perform a search and satisfy these issues, so they don’t slow down your business closing.

Pay attention to employee issues, as well. Do your best to resolve any pending suits, settlements, or workers comp matters.

Spruce up fixed assets.

Finally, take a critical look around. Is your signage in good shape? Are the shop and yard clean? Are you portraying a professional appearance with your buildings, vehicles, and equipment? Mess and disorganization can chase a buyer away.

Aging assets can also be a problem if they’re critical to the business. If a buyer thinks they will need to replace essential vehicles or equipment after closing, then this will definitely be reflected in their offer to purchase.

Then again, tread carefully when considering other major, non-essential purchases before the sale of your business. You need to run your business as if you are not selling it. However, making major investments right before you sell (to save tax dollars, for example), is usually not a smart move as in most cases you won’t recoup your money back out of your investment.

By Charles Dallas, Cornerstone International Alliance, GreenBay, Wisconsin

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 sell your business to a competitor

/in , /by Al Statz

When you’re ready to retire, or exit your business, you may think selling to a competitor is your only option.

But competitors are seldom your best buyer. They’re rarely willing to pay top value because they’re already established in the market. They can’t see that your “secret sauce” is any better than theirs, so they try to strip away a lot of the goodwill other buyers might pay.

Plus, selling to a direct competitor can be dangerous. If you enter into discussions with a competitor and the deal doesn’t go through, they can damage your business down the road.

Selling to a competitor takes special care and due diligence, so keep these best practices in mind:

Bring other buyers to the table first.

When marketing your business, your advisors should use a tiered outreach strategy that contacts competitors last.

In the pool of potential buyers, your competitors can make decisions the fastest. And if they’re not the end buyer, we want to give them as little time as possible to react.

Maintain control.

When you run a full process that brings in multiple offers, you retain more leverage. Results are better when you’re the one setting the pace for offers, management presentations, and negotiations.

Lock down confidentiality.

Have an experienced M&A attorney draft a non-disclosure agreement (NDA). This will help protect your business if the deal fails in negotiations.

Beyond an NDA, your advisors can also set up a secure deal room online. This allows you to track which would-be buyers have accessed your information. Additional protections can lock-out printing and revoke access at the touch of a button.

Vet intent.

Before revealing information to any potential buyer, your advisors will gauge their intent. Typically that means requiring the buyer to share some background and financial information of their own. “Tire kickers” usually aren’t willing to share their own confidential information, so this helps ensure a competitor has real interest and wherewithal to make an acquisition.

Know what to say when.

When selling your business, there comes a point in the process when you’ll have to reveal sensitive information. Your advisors can provide coaching so you know what’s appropriate and necessary to reveal early on and which information (like customer lists and proprietary trade secrets) should remain under wraps until late in due diligence.

Selling a business is already rife with potential pitfalls and complications. Adding a competitor into the mix only amps up the risk. Seek professional counsel from experienced business intermediaries who can help protect you and your business value.

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.

Why 75% of Small Businesses Won’t Sell

/in , /by Al Statz

Tom West is considered by many to be the founder of modern-day business brokerage. A few years back, he calculated the percent of small businesses on the market that actually sell. For small businesses, those with sales of $10 million or less, he figured fewer than 25% actually transition to a new owner.

That failure rate is shocking, and all too accurate. A lot of factors drive down the 25% success rate, but here are five I that I often hear about:

For Sale By Owner

You don’t know what you don’t know. Selling your business is not the time to learn on the job, as you only get one chance to do this right. There are too many opportunities to make mistakes and hurt the value of your business.

Expectations Too High

One owner decided his company was worth $100,000 for every year he worked, or $2.5 million. In reality, it was worth under $1 million.

A reputable advisor won’t take on an engagement if they don’t believe they can meet a seller’s goals. But some business brokers are happy to tie up a seller and let their business linger on the market — hoping the seller will lower their expectations.

Inflexible Deal Structure

Most small business sellers don’t receive all cash at close. These deals often require some seller financing support, like equity roll-over, a seller note, or an earn out. If you’re inflexible on terms, your chances of transferring ownership decline.

Seller Burnout

After retirement, burnout is the leading reason that owner-operators sell. They’re already out of energy when they put their business up for sale. Often, revenues slide and the business loses value (or closes its doors) before a buyer is found. Owners who are self aware enough to recognize the signs of burnout are ahead of the game.

Wrong Advisors

Too often business owners want their usual attorney to represent them in a business sale. But because this person has little or no M&A experience, they tend to get ultraconservative.

These advisors don’t want to risk. We’ve seen buyers walk from a deal because the seller’s attorney was unreasonable. Worse yet, on rare occasion, a seller’s attorney will purposely sabotage a deal in order to retain a client or avoid making a mistake that could trigger their errors and omissions insurance.

Honestly, there are probably a thousand reasons why deals don’t get done, but I’d be willing to bet that these five issues are at the heart of most deal failures.

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.

Deal Killers: The I-Do-Everything Seller

/in , /by Al Statz

Some sellers come down with a dangerous case of “Look how great I am” when they meet potential buyers.  They say things like, “I did this. That was my idea. I’m in charge of that. Or, I’m the one driving growth.”

And if you have a valuable business that’s attracting buyers – you built something great! But…

When it comes time to sell your business, you should be the least important part of the equation. Unless you’re sticking around well after the sale, your knowledge and experience means very little to a buyer. In fact, the less important you are to the future success of your business, the better.

What does matter? The quality of the management team and the employee leaders you leave behind.

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.

Why boomer business owners should watch M&A cycles

/in , , /by Al Statz

Approximately 20% of private business owners are over the age of 65. Another 30% are between the ages of 55 and 64, according to estimates from the Census Bureau Annual Business Survey.

If we’re going by age trends alone, that suggests roughly half of America’s businesses will transition ownership in the next five to 10 years. This will be the largest transfer of wealth the nation has ever seen in such a short period of time.

Right now we’re in a strong seller’s market. Despite the economic uncertainty, rising interest rates and world turmoil, mergers and acquisitions has not cooled down much. It’s economics 101, supply and demand, and there are just more buyers than sellers on the market.

Between private equity and corporate balance sheets, there is more than $8.5 trillion in “dry powder” waiting to be invested in corporate growth and acquisitions. That’s at least $6.84 trillion in cash and short-term investments on corporate balance sheets, and $1.8 trillion in uncommitted capital in private equity funds, according to reports from S&P Global.

Corporations have added 20% to their balance sheets since 2019, and private equity continues to up the ante with record fundraising year over year. All that cash drives up demand and increases value for business sellers.

At some point, though, supply and demand could flip. Right now, experts estimate 10,000 baby boomers are retiring daily. By some estimates, roughly 15% of them own businesses. That’s 1500 additional businesses looking for new ownership every day – and only a small fraction of those will get passed along to a second generation.

By the tail end of this cycle, we could end up in a buyers’ market with more boomers selling their businesses than buying.  Business owners who get ahead of the trend will be in the best position to take advantage of positive market conditions.

Take these steps to increase your chances of a successful sale:

Plan:

It’s tough to maximize value when you’re burned out, so aim to sell while you’re still energized by the business. The average sale takes nine months to a year, not including post-sale transition time.

Instead of planning your retirement around a certain age, you can often reap greater rewards by timing a sale around your business value. Get a regular valuation so you know what your business is worth in the current market.

If age is still your primary deciding factor, begin planning several years in advance. With enough time, your advisors can provide leadership, cash flow and tax positioning strategies that will help you net the most out of a sale.

Prepare emotionally:

Don’t underestimate the emotional impact of selling your business. Leaving an ownership role is hard, especially if you’ve built your business from the ground up.

Many baby boomers struggle to step away when the time comes. Decide how you will define the next chapter in your life. It’s important to have something you’re “retiring to” instead of just something you are “retiring from.”

Seek advice from mentors and peers who have made a similar transition. Talk through what it means to give up your identity as a business owner. For many, it’s easier to make that transition if they already have other strong plans and commitments.

Make selling part of your succession plan:

Don’t have next generation leaders ready to take over the business? Leadership team not prepared to buy you out? Consider how selling your business can play a role in your succession plan.

When selling to private equity, for example, you can often arrange for family members or other key managers to receive an ownership stake in the business. This can be a great way to set your next generation leadership up for success, with strong connections and financial backing behind them.

These arrangements can protect you both financially and emotionally – without the specter of money and debt hanging between you and your family.

Consider staying on after a sale:

Sellers can often negotiate a full-time or part-time advisory role and phase into retirement. Employment contracts can make your business more attractive (and more valuable) to private equity buyers who need experienced leaders in place to maintain operations while they fuel new growth.

The long-predicted seller tsunami is coming. Business was strong before the pandemic, but the crisis put everyone in a short-term holding pattern. With recession fears ahead, people are taking this opportunity to go out on a high note – while they still can.

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.