The following is a list of 8 items to consider when performing Due Diligence while considering a business purchase.  This list is not a comprehensive list as each transaction lends itself to a unique set of circumstances and considerations, but it provides good things to consider when purchasing a business.

1.  Business Name, Owners, and Licenses.

Verify the business name, address, and contact numbers of the business through the State the business is operating in. Contact the regulatory agencies that govern the business and get a rating of the business and ask questions about transferring licenses.   The Better Business Bureau and Angie’s List are good resources to review customer complaints as it the internet.  You can check with the Securities & Exchange Commission if the company is publicly listed. Find out who the business owners are. Search for published articles about the company and its owners or principals on the Internet and in local newspapers. If the principals or key employees are required to have professional licenses, you can check the status of their licenses with the State.  Corporations, partnerships and sole proprietorships have public information available from State.  A corporation is assigned a FEIN or Federal Employer Identification Number that can easily be traced. You can find out if the company is active and current in filing its yearly documents as required by law. Check with the issuing licensing agency if the licenses and permits are valid and up to date.

2.  Assets.

Get a complete of assets that will be purchased. This includes FF&E (furniture, fixtures, and equipment), inventory and real estate. Make sure the assets have clear titles, and the equipment has been recently inspected and are in working order. If a fleet of vehicles is being purchased, vehicle maintenance records are necessary to review how the vehicles have been maintained. Ownership of real estate assets can be verified in the county’s assessor’s office and motor vehicles with the Department of Motor Vehicles. Ownership will need to be transferred at closing.

3. Liabilities and leases.  

Have the Seller provide a list of the liabilities that will be assumed (if any) and the leases that will be transferred to your name. Get a copy of the lease obtained from the landlord(s) and any other lease that may be pertinent to the transaction.  Review the leases. If necessary have an attorney review the leases. You will need to know what these leases are, how much the monthly obligations are, the rules and restrictions of the leases, expiration dates, delinquent payments, and past due amounts owed for these leases.

4.  Financial Documents.

It is recommended that you review 3 to 5 years of financial history to have an idea of the overall performance of the company. Study the profit and loss statements, balance sheets, accounts receivable, accounts payable, tax returns, vendor invoices, bank statements, payroll and sales files, employee files, equipment maintenance documents and other important data. Hiring a CPA to review the documents is a good idea as well. Remember that CPA’s are good at auditing records and preparing tax returns, so use them for that. Have them check for accuracy and inconsistency. I wouldn’t recommend using them for business advice though.  I have had CPA’s try to talk their clients out of buying a good business when the client went on to make millions because he/she chose to ignore their business advice.

5. Reputation of the Company and Business Relationships.

Talk to the landlord, vendors, neighbors and customers to find out if the company has positive dealings with them. Find out if they have complaints, particularly if the business pays its obligations. What is the reputation of the business in the community and industry? The local Chamber of Commerce and industry or trade associations are great sources of information.

6. Location of Premises

Examine potential threats to the business from competitors, especially those in the vicinity. Go to the city’s planning department to find out if there will be future road or building construction that may decrease foot and vehicle traffic, or if a large competitor is planning to build near the area. Check also with the environment office if there are existing or new regulations that may affect the business.

7.  Legal Issues

County courts have records pertaining to judgments, liens against the business owners and tax liens. State records have the UCC (Uniform Commercial Code) filings that contain financial information. It is important to check if the principals have criminal records. You can find out from court records and from the Department of Corrections.

There are many records that can be accessed for free online, or through agencies and information providers for a fee. Engaging the services of a business appraiser, lawyer, broker and accountant is necessary when investigating a business. They will help in sourcing and interpreting the information you need in making the decision to buy a business.

8.  Insurance.

Talk to the owner about his insurance coverage. You will also need to talk to your insurance agent about coverage you will need for the business. Insurance experts can give you guidance about the types of liability coverage needed, but also have ideas about things like malpractice, umbrella coverage, errors and omissions, general business insurance, property and casualty coverage and limits, etc.   You will need to make sure you have insurance in place the day of closing as well.

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Rick brings a unique blend of sales, entrepreneurial, and financial experience to Business Sales Group.  He began his career as a CPA, working in Nevada and Utah where valuable financial experience was gained. He uses those skills every day. He graduated with a Master’s of Science Degree and Bachelor’s Degree from Utah State University.  As a business owner he started Liberty Mortgage, a mortgage bank licensed in 23 states nationwide. He eventually sold the successful company to an investor from California.  He has been in the M&A space helping people sell their businesses since July, 2010.  During his first year as a business broker with BRC, he listed and sold more businesses than the entire office combined.

As a sale-side advisor for Mergers and Acquisitions transactions he brings a unique blend of financial, advisory, accounting, and management skills to the table helping sellers maneuver the intricate details of the deal through closing.

Preventing Customer attrition after a merger or sale can be slipper slope for anyone who acquires a business.  In any merger or acquisition transaction, customers can quickly become nervous about the level of service they will receive post-closing.  Mergers or acquisitions are rife with uncertainty.  Customers oftentimes are highly sensitive to that uncertainty.   Customers worry about how the transaction will impact their end experience which can cause them to flock to different competitors.  How do you prevent customer attrition?  This article provides time-tested tips for preventing customer attrition after a Merger of sale.

As an article in the Wall Street Journal explained last year, “Customer defections are a major reason why more than half of all mergers fail to deliver the intended improvement in shareholder value.” The article continued, “The trouble is that merged companies tend to focus primarily on quickly capturing synergies and avoiding major technology disasters. They typically lose sight of customers at the time when they are most likely to bail.”

While there are many components to consider when executing a successful post-merger/acquisition integration, customer focus is critical. Below are three strategies for avoiding customer losses after an acquisition or merger.

Communicate

Probably the most important strategy to prevent customer attrition is clear and effective communication. If customers harbor negative feelings about the merger, they will be very sensitive to any dips of communication and service. “You cannot afford to miscommunicate with them, or you risk losing them,” explained  Bob Hatcher of BetterSell Solutions.  “Whether you are a highly efficient ‘low cost provider’ or a high end, consultative ‘trusted advisor’ your clients want to know how the merger will affect them.”

However, not all communication is good communication.  A recent Bain study revealed that the “companies that do the best job of retaining customers — and attracting new ones — adopt the customer’s view of the merger as they make important integration decisions. They typically establish teams tasked with evaluating every step in the integration and every change that is made through the eyes of the customer.” In short, “they act as the customer’s advocate.”

This ability for the company to put itself in the customer’s shoes allows it to understand the pain point and then effectively and appropriately communicate around those problems and questions.

Once identified, it is critical for customer-facing employees (typically salespeople) to have consistent answers to these questions. “How your people talk and answer questions from clients and prospects is critical to their retention,” explained Hatcher. “Train them in how to answer questions and to ask questions. Train them to anticipate questioning sequences and to answer them assertively and with confidence. These are the people who will implement your communication plan.”

Watch Out for Competitors

Effective communication also helps with another post-transaction threat to customer retention: competitor thievery. Very often, when competitors hear the news of a merger or buyout, they will try and use customer uncertainty and doubt to their advantage.

A recent Deloitte report reviewed customer attrition in bank mergers, explained, “Another common reason for [a customer] switching was receiving compelling competitive offers from other institutions. Specific experiences in this category include offers of more appealing products, improved returns on savings, loans with lower interest rates or more flexible lending terms, or services that made banking more convenient.” While these examples are specific to commercial banks, the implications hold true for all businesses across all industries.

The best way to mitigate the threat from pilfering competitors is to make clear the value of the newly-combined or newly-acquired business. Firms can “go on the offensive and proactively communicate their strengths and the benefits of the acquisition for the customers,” explained the Deloitte report. “These communications can remain positive and go beyond simply assuring customers that the changes will be minimal and that the service will not be disrupted.” Communicating to customers the reason behind the merger/acquisition and the benefits of it are crucial steps to customer retention. Educate them and get them excited about the impact of the merger is a good strategy for retaining customers…especially key ones.   Another good strategy is for the current owner to call key customers and tell them what is happening personally to resolve any concern customers may have. This make them feel important and informs them of the merger.

If push comes to shove, it can also be valuable to arm salespeople with tools necessary to “deliver an exceptional experience during a time of change,” explained Laura Miles and Ted Rouse in a recent Wall Street Journal article.“That sometimes requires empowering employees in new ways — such as enabling them to immediately offer discounts or refunds.” This ability to respond to competitive offers encourages a better customer experience and reduces the likelihood of attrition through competitors.

Encourage Multiplexity

Sometimes, unfortunately, the reason for customer attrition comes from within. Mergers or acquisitions can cause significant turnover post-transaction, especially in lower middle market transactions where the founders are exiting entirely. In these businesses, personal relationships are critical to the client.

“Potential client loss is an immediate fear when an executive — or in some cases executive team — jumps ship. For service industries like advertising, law, and consulting, where clients are attracted to the human assets rather than the production side of the business relationship, the likelihood of significant client losses when a team leader leaves is even greater,” explained Michelle Rogan in a recent INSEAD article.

One of the best ways to prevent customer attrition thanks to employee turnover is through multiplexity or, as Rogan explained it, “diluting the control held by individual executives by creating a number of ties between the client and the company.” If relationships with clients “were held by several agencies in the firm, no single agency or executive could control the relationship, and the likelihood of client loss following an executive departure [is] significantly lower.”

This strategy may be tricky to implement post-merger, since it may send the wrong signal to customers, businesses with existing multiplexity are inherently more resistant to customer attrition during turnover.

Implementing of these strategies is crucial for customer retention post-close. When implemented properly, they have proven successful at minimizing customer attrition.

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Rick J. Krebs

Mergers and Acquisitions Professional and Owner of Business Sales Group

www.Bsalesgroup.com

The Small Business Division has just slashed the prices of two businesses listed for sale: a medical services business and a concrete coating business. See http://www.bsalesgroup.com/our-listings/ for details.

At Business Sales Group, we have recently been made aware of two businesses that paid hefty prices for failed roll-ups.   Each owner believes he lost over $1 million due to failure to bring about the desired results.  Although good “in theory” and having looked good “on paper”, the execution of each lacked the right players and advisors to see the deals through. Roll-ups are a type of Multiple Arbitrage. Multiple Arbitrage is “the practice of increasing the value of a company without having made any operational improvements to it. In other words, you are arbitraging the multiple at which the company is bought and sold” according to Billy Fink, Deal Professional.  In more simple terms it is the equivalent of a used car dealer buying a car, washing it, putting new wheels on it and then selling it for a profit.  Multiple arbitrage is doing this same thing to businesses. The business isn’t changed, it is just made to look more attractive to investors who are willing to pay more for it.

I’ve quoted a good article below about Multiple Arbitrage and how it works by Billy Fink.

Multiple Arbitrage: What Does it Really Mean?

By Billy Fink / June 19, 2014

Deal Professionals, Negotiation, Valuation

The private capital markets are notoriously opaque. Their tendency for confidentiality and less rigid regulatory standards make them particularly complex for the inexperienced. Although this opacity can be difficult — adding layers of convolution to deal sourcing and relationship management — it can also create lucrative opportunities, particularly in the form of multiple arbitrage.

Multiple arbitrage is the practice of increasing the value of a company without having made any operational improvements to it. In other words, you are arbitraging the multiple at which the company is bought and sold.

Successfully realizing a multiple arbitrage strategy can be extremely tricky and is most often used by private equity firms and strategic buyers to generate automatic positive returns even before realizing a single synergy or cost cut.

Multiple arbitrage hinges on the fact that asset valuations vary widely for different types of buyers, allowing there to be a buy-sell spread for savvy acquirers. Knowing that simple changes can have significant effects at a future sale date allows private equity firms, and some strategic buyers, to assume a certain ROI based on the value inherent in a given company.

An understanding of the method can help both buy-side and sell-side advisors win fair prices for their clients. Below are 3 primary uses of a multiple arbitrage strategy:

1. Merging add-ons to grow size

The larger of two identical companies usually sells at a higher multiple because it is simply larger. If companies with $25M in EBITDA sell at 5x earnings and companies with greater than $100M EBITDA sell at 7x earnings, a company with $100M in EBITDA can hypothetically acquire a $10M EBITDA company for $50M and automatically be able to sell that company, as part of its whole, for $70M. Since the acquirer did nothing to change the operational workings of the acquired business, this is multiple arbitrage.

Some strategic buyers and private equity portfolio companies build strategies around rolling up industries solely for the purpose of increasing aggregate EBITDA and then being able to sell the whole company for a greater value than the sum of its parts. This practice has become more common as competition has driven larger firms to look into the lower middle market for add-ons to accelerate growth in their existing platform companies.

2. Repositioning the target in a more buoyant industry

Assumed profitability growth is another driver of company and industry valuation multiples. Take for example the story of a glass business. If a group of buyers believe that the smartphone market will grow faster than the window pane market  – because of bullish views on the middle class and bearish views on construction — then they may be willing to pay more per share of a smart phone manufacturer’s earnings than those of a window manufacturer’s, say 11x and 9x, respectively.

A manufacturer of windows may also have the capabilities to turn glass into something useful for smart phones, say their screens, without having to make any manufacturing changes. Thus, a financial buyer could purchase the window manufacturer at 8x EBITDA, tweak the strategy and business plan, and flip it back into the market as a smart phone play at 15x EBITDA. Likewise, a smart phone company could buy the window company at the 8x, fit it into the business model, and capture the spread when it sells itself at 15x.

3. Rolling a private company into a public one

If a public company trading at 20x earnings buys a small private company for 10x earnings, the earnings of the latter automatically trade at 20x as part of the whole entity, given that the transaction is small enough not to be scrutinized. When the public company reports earnings the first time after making the acquisition, the tranche of its earnings from the acquisition naturally trades at the same multiple as the whole entity, 20x instead of 10x, completing the arbitrage.

Being aware of multiple arbitrage and keeping it in mind when doing a deal can benefit all parties in a negotiation. As a buyer, you may be able to identify multiple arbitrage candidates to solidify a stronger IRR. If you have confidence in the spread and think it is priced correctly, there are few reasons you should not pursue the arbitrage. On the flip side, a sell-side advisor can push for a higher purchase price for their client. Knowing that a potential buyer may be looking at your sale as an arbitrage opportunity allows you greater leverage when negotiating a selling price.

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Rick brings a unique blend of sales, entrepreneurial, and financial experience to Business Sales Group.  He began his career as a CPA, working in Nevada and Utah where valuable financial experience was gained. He uses those skills every day. He graduated with a Master’s of Science Degree and Bachelor’s Degree from Utah State University.  As a business owner he started Liberty Mortgage, a mortgage bank licensed in 23 states nationwide. He eventually sold the successful company to an investor from California.  He has been in the M&A space helping people sell their businesses since July, 2010.  During his first year as a business broker with BRC, he listed and sold more businesses than the entire office combined.

As a sale-side advisor for Mergers and Acquisitions transactions he brings a unique blend of financial, advisory, accounting, and management skills to the table helping sellers maneuver the intricate details of the deal through closing

In the M&A world, as a sale-side advisor, I often get asked “what is normal?”  This article is designed to address 8 of the common “normal” parts of the sale of a business.  Selling a business is not something a person does often, so knowing what is normal will help you, as a Seller through the process.   As a sale-side advisor I go through this process often.  Here is a list of things that are usually normal, but not all-inclusive. Every transaction will have inherent unique obstacles that will need to be overcome. Having a good Sale-side Advisor is paramount to assist you through the process.

1.  Seller’s Remorse.  It was the day of closing and we were going to the Attorney’s office in the next hour. My phone rang and my Seller was frantic. He asked me to reassure him that he was doing the right thing.  We went through the pros and cons of selling his business over the phone.  He was getting top dollar for his business and it met his expectations. The sale would free his time up which is what he wanted. I explained to him that this was “normal” and most sellers went through anxiety about selling their business (their baby).  He then breathed a sigh of relief. He as glad he was selling because it helped him meet his goals. He was just having doubts because he still loved his business and the people he worked with.   As a business owner you have put your blood, sweat and tears into your business. You have made sacrifices that few would understand. You have lost sleep and stressed over every detail and now you are considering selling.   What are you thinking?  This is normal.   It is much like sending a son or daughter off to college.  It is necessary for their growth and your sanity.

2.  Squabbling over every detail.  A sale of a business is a partnership moving forward.  This is the case even if you, as the Seller plan to exit within a few weeks of the closing.  A smart buyer will not haggle over every detail and beat you up so bad through negotiations that you feel bitter toward him. The reason for this is he needs you. If you resent him you won’t give him the guidance he needs.  Buyer’s won’t usually push you on every little detail. The transaction will need to be a win/win.

3. Buyers will push hard.  Buyers will push the envelope and try to get as much as they can during due diligence. I’ve even had buyers ask to meet with employees, customers and suppliers prior to closing.  Because Buyers sometimes behave badly ( in their defense, they do not mean to be this way, they just want to make sure they have all of their questions answered), a good M&A advisor is necessary to mediate and control the buyers.

4. Dissection of financials.   Due Diligence is the time for Buyers to examine all of the records and information about the Business. This will include a close scrutiny of the financials. Be prepared to answer “hard” questions about every aspect of your financial reporting.  Buyers will often hire outside people to examine the Business as well. Be prepared to work with several people during the Due Diligence period.

5.  CPA & Attorney involvement.  At some point in the transaction you will want to hire a good CPA and Attorney.  Make sure your CPA and Attorney are “deal guys” meaning make sure they have advised their clients before for the sale of their businesses.   Ask your Sale-side advisor if you are unable to find a good CPA or attorney.  One must also put a leash on their hours.  The billable hours can get out of hand and run up your costs unnecessarily.   Be careful to not let the CPA’s and Attorneys “kill” the deal.   I’ve seen many a deal lose steam when the CPA’s and Attorneys joined the team.  I even had one particularly bad CPA try and talk my clients out the sale on numerous occasions. That will happen occasionally.  Stick to what you know to be true.   Don’t let the naysayers spoil a good deal.  You must hire the best.  Hire “deal guys.”

6. Operating Capital.  If cash and operating capital is part of the deal make sure you monitor this carefully.  You can end up with far less cash than you expected due to an Operating Capital deficiency at closing.

7. Downturns in the Business.  Buyer’s don’t like to see a downturn or customers lost during Due Diligence. As you go through the sales process make sure to “mind your business”. Take care of business and be careful to not let the sale sidetrack you or your motivation.

8. Due Diligence.   Due diligence is where the Buyer will examine your business and financial records.  It usually lasts 10-30 days, but can be bit longer.   During this time be prepared to answer hard questions about your performance and the business.  BE HONEST.  Don’t hide anything bad from the Buyer as it can make you end up in court where no one wins.   If you have a sensitive issue discuss it with you Sale-side Advisor prior to disclosure to the Buyer.  Full disclosure is a must. Deal with the issues and help the Buyer understand your business.

Selling your business can be a gratifying experience. I hope that these tips help Sellers better understand the process and what to expect to alleviate the stress associated with selling a business.

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M&A Advisor

Rick is a Principal with Business Sales Group, a Mergers and Acquisitions firm in Heber City, Utah. He brings a unique blend of sales, entrepreneurial, and financial experience to every business he sells. He began his career as a CPA, working in Nevada and Utah where valuable financial experience was gained. He uses those skills every day. He graduated with a Master’s of Science Degree and Bachelor’s Degree from Utah State University.  As a business owner he started Liberty Mortgage, a mortage bank licensed in 23 states nationwide. He eventually sold the successful company to an investor from California.  He has been helping people sell their businesses since July, 2010.  During his first year as a business broker with BRC, he listed and sold more businesses than the entire office combined.

As a Sale-side Advisor for Mergers and Acquisitions transactions he brings a unique blend of financial, advisory, accounting, and management skills to the table helping sellers maneuver the intricate details of the deal through closing.

Just Closed–Printing Business in Salt Lake and Summit County. We just closed this excellent business with 2 locations. The Purchaser commented that “he was pleasantly surprised that the numbers on the profile matched the actual numbers on the books.” According to him, “that is not usually the case.” He has big plans for the Company and we look for good things from him! Congratulations!!

As a business owner you, at some time, will likely consider selling your business.  Some business owners consider this every day!  For others, it is only considered occasionally. Selling your business is an event that takes careful consideration since it can be one of the most important decisions you will make when you consider the amount of money involved.  Selling your business is often the largest financial decision you will make in your life.

The Sales Process. The first question that comes to mind is how to influence the sales process?  Selling a business will require the help of a M&A professional (usually for businesses with EBITDA over $1 million) or a business broker (for businesses under $1 million).  The reason I make this distinction is larger businesses require a slightly different skill-set and you will want to hire the professional to handle what could be the most important financial decision of your life.

The first thing to consider is you will want to optimize the cash flows of your business leading up to putting your business on the market. Minimize non-essential expenses. Ensure that capital expenditures support your growth model. Reduce working capital needs by addressing inventory, accounts receivable, and accounts payable.

Since businesses sell based on a multiple of EBITDA (earnings before taxes, interest, depreciation, and amortization) you will want to increase EBITDA as much as possible.

Managing your multiple. Since your multiple of EBITDA is so crucial to your selling price, you will want to define and carefully monitor future cash flows once you put your business on the market.  Make sure you have a strong management team in place.  Perform a SWOT (strengths, weaknesses, opportunities, and threats) analysis of your business. They Purchaser will do this so it is a good idea for you to do it as well to be prepared for his questions.

Accuracy of information.  It is crucial for you to provide accurate information to your M&A Professional or Broker.  This may seem rudimentary, but do NOT lie to a potential buyer.  If you have issues or think of issues talk to your M&A Professional or Broker before hand to get his advice about how to handle problems before you market your business or before the buyer is informed about them.

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Rick J. Krebs – Business Sales Group

Rick brings a unique blend of sales, entrepreneurial, and financial experience to Business Sales Group.  He began his career as a CPA, working in Nevada and Utah where valuable financial experience was gained. He uses those skills every day. He graduated with a Master’s of Science Degree and Bachelor’s Degree from Utah State University.  As a business owner he started Liberty Mortgage, a mortgage bank licensed in 23 states nationwide. He eventually sold the successful company to an investor from California.  He has been helping people sell their businesses since July, 2010.  During his first year as a business broker with BRC, he listed and sold more businesses than the entire office combined.

As a sale-side advisor for Mergers and Acquisitions transactions he brings a unique blend of financial, advisory, accounting, and management skills to the table helping sellers maneuver the intricate details of the deal through closing.