From Owner to Seller
In our work with business owners, we have noticed a pattern of decision making which most entrepreneurs go through when selling their companies. We have seen very few who do not wrestle with each of the key decisions at some point before closing. In our approach, we use this simple framework to gauge the likelihood that a deal can get done. When entrepreneurs have difficulty demonstrating that they have gone through the full decision tree, we suspect that it is unlikely that they are really ready to sell their businesses.
It is no secret that many owners have great emotional ties to their companies. If an owner thinks of his company as a family heirloom, then it is very difficult for to part with it. On the other hand, if he views it as just another financial asset, then the decision to sell can be straightforward. Early on in our processes try to gauge where on the continuum between heirloom and asset the owners are. Similarly, we look for signs that the seller’s identity is broader than “business owner.” When they view themselves as much more than the owner and have a clear sense of what they want to accomplish after the sale, we know that the odds of a deal increase substantially.
When business owners sell their companies, their financial profile changes significantly. For instance, many owners retire when they sell their companies and experience a decrease in income. We are careful to make sure that sellers have calculated whether the after-tax proceeds from the sale of their companies will be enough to sustain their lifestyles and potentially fund any aspirational goals they have, such as making a donation to a favorite charity. If they have not done so, and it is not readily apparent that the sale will provide a surplus of liquidity, we recommend the business owner first work with a skilled financial planner.
Selling a company and investing the proceeds in a balanced portfolio of stocks and bonds can greatly reduce the riskiness of the owner’s holdings, but it almost always comes with lower expected returns and cash flow. This reduction in both risk and reward will be even more pronounced if the owner’s company had borrowed money and, as a result, “leveraged” the equity returns. Finally, the size of the balanced portfolio will be reduced by the amount of capital gains taxes the sellers owe upon the sale of their businesses, adding to the financial hit the seller will take.
Our experience is that, unless there is a strong personal or strategic rationale for selling, it is rare that a business owner will see enough value in the risk reduction to accept the lower expected returns of a diversified portfolio. For this reason, we do not see a lot of private business owners selling simply because there is hot market. As such, we take great comfort when there is a bona fide non-financial reason for a business owner to be selling.
When a business owner no longer has emotional ties to the company, has done the analysis to confirm the sale will provide asset sufficiency and has identified a bona fide reason for the selling the company, the stage is set for a transaction.