Hiring the right team is one of the most important decisions you will make when considering the sale of a company, especially for owners of businesses in the low to middle market. There are many options and so many groups that make the decision confusing when evaluating what type of advisor you need or who will really serve your interest best. The low to middle market market is serviced by many deal makers that include: M&A advisors, business brokers, and investment bankers. There are several factors you should consider and clearly understand the differences between these merger & acquisition professionals.
Business brokers typically serve smaller companies that will likely sell to an individual buyer (vs. a corporate or institutional buyer). The types of businesses they usually service are hair salons, franchises, gas stations, dry cleaners, convenience stores, small service businesses, single location restaurants, etc.. The professional agreement terms that are used are very similar to selling a house. It is rare that a business broker will charge an upfront fee. However, it is very common that they will require that the preparation of marketing materials and historical and forecasted financials be all done by the business owner. If you are a buyer, you should know that most, if not all, the preparation is done by the seller. This creates a much bigger transaction risk for both the buyer and seller – it is more likely that the books will not be prepared in agreement with GAAP accounting standards and/or it is highly unlikely that they are audited financials. The typical transaction is the sale of the company’s assets using template or standard legal forms. These forms often omit key sections that minimize post-transaction liabilities.
The process that is used for listing the company for sale is very similar to that of listing a house for sale. Market information is available and collected about the business for sale and the company is advertised on websites and marketed with an asking price. The business broker, while they may have a larger organization, usually work alone on developing the listing information and get the business “ready” for the selling process. Depending on the geographical region your business is located a business broker may post the business ad on several local online outlets. Many professionals call this the “post and pray” strategy. Overall, the process of selling your business with a broker is “passive” as opposed to strategic.
A buyer will have several financing options. Two of the most common options include: SBA loans and a seller note (note that it isn’t uncommon to see a combination of the two). The companies that business brokers sell companies are typically owner-operated and the valuation is typically based on “seller’s discretionary earnings” (cash flow to the owner/operator). In almost all cases the business is sold for the “rule of thumb” financial multiple this is because it is less common that a buyer would be strategic and have the desire or need to pay a premium.
M&A advisors and investment bankers are similar in their offerings, though there are certainly some differences. M&A advisors bridge the transaction market gap between the smaller businesses that are sold by business brokers (typically less than $2 million transaction value or less than $1 million in EBITDA) and medium to larger size businesses that are clearly led by investment bankers (where the deal size is greater than $100 million or EBITDA is greater than $30 million). The larger transactions typically take on a more complex structure and the regulatory bodies require the servicing professionals to carry certain licenses. However, depending on the transaction structure, some lower middle market transactions do not require the advisor to be licensed under the securities laws. You will find that most M&A advisors are not licensed. This is very much a grey area and subject interpretation of certain foggy facts that will hopefully be addressed by the SEC and congress in the months to come. If not carefully navigated this can create additional transaction risk to both the advisor and the transacting parties.
Investment bankers typically offer a broader range of services and work with larger companies; however, in the last 5 to 10 years it is more common to see investment banking firms servicing clients in the middle market. Investment banks provide several services that business brokers do not. Some of these services include: fairness opinions, public offerings, a much broader line of financial services, etc… All of these require formal licensing as a broker-dealer. Additionally, investment banks are usually staffed with various professionals that provide a wider range of experience, licenses and other certifications. The depth of experience and wide array in skill set allows the bank to handle more complex transactions and provide these technical services.
In general, investment bankers are purely transaction driven and have a minimum fee expectations (which tend to create a floor in the size clients that they serve). Interestingly, we are starting to see some firms offering a value creation model. Under this model the fee structure is “aligned”. The approach that these investment banking firms take is to structure their fee so that is aligns with the success of the transaction: i.e. if the firm is able to put more value on the table then they get to participate a little more in that value. This is the very reason why larger companies seek a professional groups and are willing to pay retaining fees. It takes real work to put together a marketable book, prepare management for due diligence, carefully target potential acquirers and navigate sensitive negotiations. When done correctly the increase in transaction value more than covers the increase in fee and owners are able to maximize proceeds from the sale of their company. This isn’t unique to investment banks. M&A advisors tend to be somewhat consultative and might work with clients in the pre-selling strategy and planning phases as they consider their exit or liquidity alternatives.
Both Investment Bankers and M&A advisors run a proactive process to sell a company that is structured and usually focused on creating a competitive and timed market for the seller with the goal of optimizing the value and reaching the seller’s objectives. As mentioned before, the process a business broker takes is much more passive. The proactively managed process of M&A advisors and investment bankers tend to add a lot more value. Investment bankers and M&A advisors typically buy and sell companies to/for institutional companies, family offices, other mid to large size companies, private equity funds and occasionally the high wealth individual. The transactions at this size and stage of the market tend to be much more complex. The required level of sophistication, deal experience and understanding in corporate finance is not found at the lower-end of the spectrum. It is often that these professional provide non-transactional value. In many cases, these groups have worked with companies in similar industries or comparables sizes. They have seen common challenges and growth strategies that work. A polished professional may enlighten management with operational changes that could improve the company prior to a sale.
Hopefully, the information above has allowed you to whittle down your choice to one. There are many questions you can ask to determine which group will be the best fit. However, here are 3 simple questions you can ask yourself to help determine if you should use a Business Broker, M&A Advisor or Investment Banker:
1. What is the size of transaction I expect when selling my company? (It is important to have realistic expectations and a basic understanding of the value you have in your company. Most industries and businesses have an average valuation multiple in the range of 2.5x to 3.5x EBITDA. Simply, take your EBITDA x by industry average multiple to get a range on your transaction value. If your business falls under the $1 million dollar threshold then you should probably consult a broker or list your company yourself on a business classified site. If you are close to $1 million or north then you will likely get more value if you team up with an experienced M&A advisor.)
2. Who might buy my business? (If the best candidate to buy your business is a local entrepreneur or businessman then you should look for a local business broker. If your business seems like a fit for a national or international private equity firm, larger corporation, or family office then a M&A advisor or Investment Banker is likely best for the job. In the end, you want to make sure that the professional you choose will have the ability to create the best market possible. When this is done right you have a greater chance for a premium multiple leading to a higher valuation.)
3. How much help will I need/want in selling my company? (Thoughtful planning and preparation on your end will lead to increased success on the backend. If you need very little help to prepare financials, marketing material then a Business Broker might make the most sense. If your business is complex and/or you will need help forecasting financials you should choose a M&A Advisor or Investment Banker. In the end, you will want to make sure the buyer understands the value of your company.)
Do you really need an advisor? The short answer is “absolutely not.” Many entrepreneurs got to their station by being Mavericks–rogue and bold independent personalities who took risks and ventured out beyond their immediate realm of understanding. Because this is the case, many business owners feel they are capable of learning just about anything when it comes to business sales, marketing and even M&A. However, the intent of this article is not to tell you that you can’t or even shouldn’t act as your own corporate M&A advisor. The intent is to open your eyes to a few of the reasons it may be wise to utilize a certified and professional brokerage firm when selling your business.
Deciding whether or not it is the right time to sell, or whether you should accept an offer, is a hard decision to make. However, once the decision to sell has been made, you will be faced with an even more daunting, and substantially more important question. Should you handle the sale yourself or should you hire a sell-side M&A consultant?
Many business owners make the mistake of choosing the first. More often than not, there are two leading factors behind such a decision; the perception it will save them time and more commonly money. I used the word perception intentionally, as both these presumptions are generally incorrect. Our recommendation is that even if a potential buyer approaches you, you shouldn’t attempt to navigate a sale yourself. What you may lose in cash outlay to pay a sell-side professional, you more often than not will gain back in other ways. We explain more on this below.
Consultants enhance value
When you are entering into a sale negotiation, one of the most imperative factors you need to ensure is that your company, the business you have poured your blood sweat and tears into, is valued correctly and more importantly fairly. An accurate and fair business valuation will help you establish the best sale price. Best is a relative word, as both the buyer and seller want the best sale price. In our view, the best price sits where both parties are happy. There are several common factors used to arrive at this price, most have been covered off in previous blogs. These include, but are not limited to; EBITDA, assets, liquidity, WACC, growth etc. More so, every industry and even location needs to be examined as they all require a slightly different approach. If you are not an expert at fixing a car engine you seek out a mechanic, why would you go alone at valuation? Valuation is a skill which analysts spend their entire working career mastering. More so, as stated several times in my previous blogs, valuation is an art, not science. There is no specific manual for your company. My previous firm had detailed valuations of over 100 listed companies, and every valuation model was structured slightly different. If you aren’t experienced in evaluating and negotiating deal points, such as working capital, excluded assets or discount rates, you’re potentially, and most likely underestimating your valuation. This is more commonly the case if your potential buyer has hired a consultant as you are now in negotiations with an expert.
Murky waters can be navigated by most experienced business people. If you are in the position of selling your business, you are more likely than not, experienced in business and an expert in your field. What hiring a consultant does is make the process more efficient. Ensuring that the sale process is efficient is almost as important a factor to that of arriving at a correct and fair sale price. Experienced advisors and consultants know the common pitfalls, where time is wasted and where deals are likely to fall over. Knowledge of this can not only ensure the deal actually progresses but can ensure that the sale goes ahead quickly. The faster the deal is signed, the less time your buyer has to change their mind. Although everything in your life revolves around your business, your potential buyer has a lot of fish in the sea. More so, who wants to spend a year, or surprisingly commonly more, of your life trying to get through an M&A deal?
Some common pitfalls
This list is not exhaustive, and not designed to replace a consultant. We are simply providing a list of common mistakes that might trip you up. If your advisor has not covered these off with you, double check they have investigated them.
1) Concentrating on one possible buyer. If being approached by someone triggers your desire to sell your business, the prudent response is to now look to the market. Usually, the business owner knows someone that is interested and focuses here rather than confidentially connecting with a large pool of potential acquirers. This can hamstring you as your only prospect could change their mind, or offer you something you are not happy with.
2) Sloppy marketing. What surprises me is that companies with large marketing budgets for customers try to save on marketing material when they decide to sell. Isn’t this the reason you go into business in the first place? You need to spend money here, developing unique and targeted marketing materials for various types of buyers.
3) Due Diligence. We covered this off in detail: “The Diligence Dilemma”. Failing to help your potential buyer through the in-depth requirements of due diligence can lead to a failed deal. From my experience, the most important step missed here is communication.
Business owners’ negotiating a deal often find themselves in the midst of a difficult sale process and ultimately experience the deal falling apart. There is generally no second chance with that buyer, and a failed deal gives negative signals to the market. However, not executing the deal is not the only way to fail. The deal may go ahead but at a very low multiple. We often see a final purchase price well below what was justified and wonder why owners sold themselves so short.
Do you have a year to focus on this, or is your time better spent drumming up business? Rather than stepping away from your business to navigate the sale process, that you most likely know very little about, hiring an experienced consultant allows you to focus on the most important thing that will drive value into your sale, your business. Consistent sales growth is your most important asset, and a dip in sales whilst you focus on the deal will ultimately lead to less cash. When it’s the correct time to sell your business you will know, it will feel right. When you do decide to sell your business, then make the smart choice and hire an experienced sell-side consultant.
Is Business Brokerage Part of Your Core Competency?
Perhaps you have owned several businesses and have gone through the process of buying and selling businesses previously. This would mean that brokering a deal such as what you may be attempting in the future is “old hat” for you. You’ve had the experience and know enough to do some damage. This may be true for a select few business owners, but these type of individuals seem to be few and far between. For most, their business has been their obsession and they may not have had time to develop greater competencies above and beyond their particular business.
If this is the case, using a merger and acquisition professional is probably going to be a very good idea.
Can you get top dollar for your business?
Business owners often know what it has taken to build their business. And after they have gone through an extensive business valuation process, they know what their business is worth on paper. Even if the owner was able to put together a meaningful prospectus herself, it doesn’t mean that the she will be able to get top dollar. It is interesting that sometimes business owners–because of pride issues–are unwilling to have help putting their business on the market for sale. This is perhaps going to be the best decision you ever make. Think for a minute about the fees for selling the business. There is generally a required monthly “retainer” which is paid out regularly until the business is sold. There is also a commission fee structure which can range anywhere from 2% to 5% of the closing price of the business, depending on the type, size and nature of the transaction itself. With these fees associated with brokering the deal, many company shy away thinking to themselves, “I’ll just save some money.” This is generally unwise.
Most broker firms, at least the reputable ones, can generally get more out of your company than you initially could, making up the difference in the sale of the business. This also does not take into account the fact that you were not required to put in the time yourself to put the business up for sale (i.e. building the marketing and financial materials, contacting potential buyers, and marketing the business in a myriad of other ways). Contacting a merger specialist is not only in your best interest for stress reduction, but also for return on investment.
Do you have the time?
Even if you know the ropes and have the wherewithal to be able to sell your business to the right industry-leader looking to acquire a company just like yours, do you really have the time to do so? Most, if not all, entrepreneurs are very driven, motivated and busy individuals whose lives are consumed by tasks, projects, meetings and strategy implementation. Any good operator knows how to focus on his/her own core competencies and outsource the rest. In the end, trying to go-it-alone can prove “penny wise and pound foolish.”
So you can certainly sell your own business. It is a definite possibility. However, when you do so, keep the aforementioned questions in mind. If you answered “no” to all of the three questions, it may be wise to reach out to a certified M&A professional. If you feel you have the time, energy and knowledge to make it happen on your own, then go for it. Not many business owners do, but for those who are able, selling your own business, without the need of a broker, can be a great idea. For those who don’t, it may be wise just to suck it up and call a broker.
Would you take an Uber, fly in a plane or go under the knife for gall bladder surgery with someone who failed to hold a current license, relevant to the task at hand? Regardless of the profession, there is a certain level of discipline and at least a baseline of industry expertise and understanding that come from knowing someone has jumped through the requisite hoops. More importantly, however, is the knowledge that your issuance of securities in a capital raise or buy/sell-side transaction is well above board from the all-seeing-eye of the SEC. There are a number of inherent risks for buyers, sellers and the intermediaries if no FINRA licensing exists. Regulation is certainly changing here and we are still in a state of “flux,” but when it comes to reliance on applicable law, you can never be too careful.
An unlicensed broker shoulders ] much of the risk associated with not being licensed to perform transactions that involve the sale of securities. A typical business broker may work under the guise of at least one of the following assumptions:
While many truly “main street” brokers work on companies small enough that the SEC typically turns a blind eye, there are many deals that should have included the requisite FINRA licensing to ensure both the seller and intermediary are protected from potential liability.
The real risk in nearly any transaction falls on the shoulders of the intermediary. An unlicensed intermediary is exposed to the potential of not getting paid on a stock deal if the seller is wry enough in his/her contract drafting and process. In addition, there is always the potential that a deal could be “unwound” or “reversed” citing the unlicensed broker as one of the reasons for a deal going sideways. While both of these situations are rare, they do occur. You can follow the updates via the SEC website. E&O insurance can only provide a proverbial parachute for so much of the transaction, especially when we are talking about lack of appropriate licensing.
Issuers themselves are not immune to the risks associated with working with an unlicensed intermediary in securities transactions. Company buyers and sellers run the risk of increased liability exposure in securities transactions. This is especially true as it relates to raising debt or equity securities. The SEC is especially stringent on capital raising activities, especially as it relates to retail and even accredited investors. Intermediaries are required to “trust, but verify.” The same should go for anyone looking to raise capital from an investment bank.
While the JOBS Act has graciously carved-out options for M&A Advisors doing deals sub-$100M and for limited representatives utilizing equity crowdfunding portals, risk still remains that many of these groups have not yet applied even the relaxed scrutiny of the JOBS Act. Many are relying on the SEC’s no-action letter for merger and acquisition advisors until further details are forthcoming. To my understanding, the no-action letter remains in force, but the risks of working with unlicensed brokers still remain, particularly with capital raising and larger stock-based transactions.
Saying you work as a investment banker makes it sound very sexy. The reality of the situation is that there are literally no jobs where the sex-appeal remains intact forever. And while every job has its moments caught in the doldrums, there are arguably opportunities for enjoyment in every career. The difference with investment bankers is generally very clear. In most cases, iBankers are the ultimate example of opportunists. Many are in a “take what you can get” mode, seeking after deals in the gutter with no regard for the quality of the deal and the overall time which will be required to effectively close it.
Some time ago, I was speaking to an industry colleague who snidely referred to smaller deals as “riff-raff,” stating that he wishes he didn’t have to even speak with people who didn’t meet his personal criteria. Smaller firms can waste your time, but unfortunately many investment bankers began avoiding the luxury of being selective when liquidity dried up. In an eat-what-you-kill world, you often are a beggar with the inability to be chooser.
The reality of the situation is that when it comes to the middle market, the pickier you are, the more limited the deals you will be able to participate in. If you can make up for it with large volumes and have connections with deep pockets, you may have the ability to be so picky. Unfortunately, most broker-dealers you speak with are the ultimate in opportunistic players. They are capitalists in the purest sense of the word. They’re the rape and pillage “vultures” demonized so recently in political discourse.
My advice is this, be careful of the would-be self-branded high-end middle-market bankers who claim to have a corner on the market for quality. They’ll attempt to be the most recent snake-oil Warren Buffets of the world by claiming they like to keep the riff raff out, but whose blood bleeds greed just like everyone else. At the core, we all would like to be the most ethically minded-optimists. Unfortunately, most investment bankers you’ll meet are typical capital-minded opportunists. And while there are many good bankers out there, the middle marketers are just that: marketers.