Successful business owners sometimes “collect” assets in their businesses. When a company is producing surplus cash flow, there is little pressure to lower inventory levels or to dispose of old machinery. These assets can be “nice to have” insofar as they are occasionally useful in fulfilling customer requests, but they are usually unproductive and they almost never produce enough incremental cash flow to justify continuing to carry them.
Our experience is that nice-to-have assets are particularly common in the machining industry and consumer goods and other sectors of the economy where returns and consigned inventory are more prevalent. But we have seen this issue in virtually every type of business.
What’s the Harm?
However, since a buyer might be able to put these assets to work or potentially just sell them to recoup some of the original purchase price, don’t these semi-surplus assets just make a business more attractive to potential buyers? In fact, the opposite is usually the case. There are two basic issues which can make it difficult to get a deal done when the balance sheet is full of assets that are really just nice to have.
The first issue is related to asset productivity or the amount of capital a business requires to produce cash flow. When a business carries excess assets, it can be difficult for a buyer to determine just what assets are truly superfluous and how much cash flow is either directly or indirectly related to each of the assets that are only marginally utilized. It may be impossible for buyers to know which assets they could sell, how much capital expenditure would be required to grow and how much the cash flow could be impacted if they sold a few assets.
The second issue relates to the expectations of the sellers. It is our experience that most business owners who collect nice-to-have assets do so because they ascribe more value to them than they really have. That perception tends to produce an expectation that a buyer will pay a full multiple for the cash flow plus market value for the underutilized assets. The business owner’s argument usually centers around all the things the buyer could potentially do with the assets, despite the owner himself never having been successful doing those exact things.
What to do?
Our recommendation is that potential sellers who have a number of un- or underutilized assets should work with an M&A advisor or an operational consultant to sell those assets which are non-critical and to outsource what little work they were doing. If the extra assets are raw materials or finished goods inventory, the owner should systematically sell off the unproductive inventory well in advance of a sale so that a buyer can gauge the performance of the business without the support of the unproductive inventory.
The result will be not only an immediate influx of cash, but also a more understandable business with better financial metrics that, consequently, is more readily sellable.
If you know of business owners who have waited too long or are fundamentally unwilling to eliminate the extra assets they are carrying on their balance sheets, but are still interested in selling their companies, please consider introducing them to Bootstrap Capital. We can structure our due diligence to understand the productivity of a company’s assets and are willing to craft a transaction that enables a business owner to recoup the latent value in some of his/her nice-to-have assets.