Start by thinking yourself into the mind of a serious potential buyer. What will be at the top of their list of considerations?
As some of this information will be commercially sensitive, be clear to check other ExitAdviser's How-to Guides advise what information to disclose to prospective buyers, and when to do it.
Most, perhaps all, of the following seven "How?” questions will be going through a buyer’s mind:
- How long has the business been trading?
- How attractive is the market for your product or service?
- How well are the current owners and the team competing in this market?
- How much profit or income, or both, is the business generating now?
- How can I use my skills and experience to improve my income from this business?
- How much will the capital value of the business increase if I just run it and then sell it, or if I choose to make further capital investments to improve it?
- How does this business compare overall in value and potential with the other alternatives I could buy?
Taking each of the seven in turn:
1. Length of trading
This is important because most businesses take time to establish themselves and build value, not only in the financial accounts, but also in the minds of customers and prospects through the brand.
More critically, and statistically speaking, a significant proportion of businesses fail in their first 3 years of trading.
Again, talking numbers, trends in business performance take time to become evident. So, a steady growth of sales, and particularly profit, over 5 years(+) is reassuring to a buyer. It demonstrates a proven track record.
Psychologically too, buyers may be less likely to question your motives for selling the business the longer it has been trading. It’s not just the, "what’s the catch?” question, but also potentially the, "abandoning a sinking ship” scenario.
There may be particular circumstances that make your business an exception to this rule, for example, trading in a high growth market sector with obvious and imminent potential.
Just be clear that you will probably need to work harder to provide valid and persuasive evidence if these factors are not to adversely affect the price.
2. Market attractiveness
This can be thought of as a string of broad current and future external influences in the market that affect demand and supply. These in turn impact on the tastes, needs, preferences and choices of existing and prospective customers.
A buyer will want to understand these factors in the context of the geographic reach of the business and your profile of target customers, or market niche served, because of their impact on general profitability.
As a minimum it is advisable to have an assessment of the current trading conditions, in the context of demand versus supply, and the implications of emerging trends. These trends can result from new laws, economic factors, technological developments, changes to social behaviours, or environmental consciousness.
These will become opportunities or threats, or a combination of both, that impact on the business. The outcomes and implications of these trends may be unpredictable at this moment, which may lead you to think of possible alternative scenarios to reach a new perspective on the matter.
If you are faced with a serious buyer for your business they will wish to probe further. They will want to know specifics about the closest competitors, and the extent of the rivalry between them, as it plays out in practice in the marketplace. Linked to this is the prevalence of alternative choices of products or services that fulfil buyer needs in a similar way. Note that there are always substitutes, one of which is for the customer not to buy at all!
They will wish to know the relative strength of buyers, which may enable customers to negotiate lower prices, and the relative strength of suppliers, which may lead them to charge the business higher input prices. These last two factors have a direct and negative impact on your margin.
What too about the threat of potential new competitor entrants to market that would add to the existing supply? What are the barriers that prevent this happening?
To summarize, faced with an informed, serious buyer it is important that you not only understand the profitability of your business but also the underlying profitability of your sector. Is the market growing (and becoming more attractive), staying much the same, or in decline? And, why?
You will be more convincing if you are armed with supporting facts. Remember also that business news is rarely 100% good, so be sure to exercise some balance when painting a picture for the buyer otherwise it is less likely to be believable.
3. How well are you competing?
This is about your relative profitability compared to the average for your market.
Serious buyers will be extremely interested in your answers here. It will impact on their decision to buy and the purchase price. The simple way of looking at this is to identify relative strengths and weaknesses against the competition. However, again, ExitAdviser takes a more detailed approach so that you can be better prepared.
Ideally, you will have steadily built advantages over your competition that are also sustainable. Unless you are fortunate enough to be faced with an uninformed buyer, this single factor may impact their decision to buy and will certainly be a consideration in the final purchase price.
The key on the demand side is the distinctiveness of your proposition, compared to competition, that creates competitive advantage for your business. You need to clearly explain your choice of target customer, which of their needs you have chosen to meet, and the price you charge compared to the competition.
For example, you may be servicing additional customer needs, previously unmet by competition, which allows you to charge a higher relative price. Alternatively, you may have stripped out from your offer features that you know are not valued by certain customers, which enables you to price lower but make a superior profit because your costs are lower still.
The supply side is how you have chosen to execute your value proposition, and build further competitive advantage, through the sequence of activities you undertake in your "value chain”.
As an indication, a generic level value chain might sequence research and design of the offer, selecting and managing supplies, making the product or delivering a service, marketing and selling it, and finally providing after sales service. Administration and logistics will typically sit across the whole sequence. Your value chain may differ somewhat from this example. The specific activities within the value chain are certain to be different.
Start by identifying the specific tailored activities that are consistent with delivering your value proposition. Note also the various ways that you maintain operational efficiency, including measures to keep waste at a minimum and staff productive, as well as your use of standard best practice methods, some of which may be specific to your sector.
If yours is a luxury product or service, with lower sales volumes, demonstrate that higher costs incurred in your value chain activities are more than compensated for in the significantly higher price charged. Therefore achieving superior profit margin compared with the average competitor.
However if you have made a deliberate choice to make a "no-frills” offer you need to show how you have made superior profit from lowering costs in value chain activities proportionately more than the reduction in price.
Don’t be afraid to emphasise key decisions on, "what you don’t do” that have led to trade-offs in the activities themselves. In other words you have made conscious decisions when designing activities to take one route, rather than another. Explain the logical consistency of activities, and demonstrate how they fit together in the value chain.
To summarize, the buyer will be impressed by a coherent strategy that generates superior profitability. A clear value proposition, executed skilfully through a uniquely configured value chain of activities. All linked together in a consistent, logical way.
4. How much income or profit, or both?
The details for a complete financial assessment are found in a different How-to Guide.
It is really important that you present your financial records in good order because this will give the buyer confidence that the business has been well run.
The substantive point here is whether the business will meet the buyer’s minimum expected income requirements. You will be able to say how much you directly take out the business in income, but they will also want to know of any personal benefits received from the business that are optional.
What about profits generated for reinvestment? They may feel that you have taken too much out of the business in income to the detriment of its future success.
What matters here is their perception of the situation.
5. How can I improve my income?
The buyer may have a particular reason for buying. They may feel that your business is underperforming.
They may think that they have specific skills and experience and a different way of doing things. Enough to increase their income from the business and its value, with little additional capital investment needed.
So, if they meet your asking price, what do you care?
A word of caution. Sometimes deals are constructed that require the owner to stay as part of the business for an agreed period of time. How well will the buyer’s different philosophy sit with you? What effect will this have on your loyal staff members?
6. Can I invest further and make a significant return?
The buyer will have an implicit expectation when negotiating. That the price they agree with you for the business will yield them a steady capital gain over time. Even with few changes to the business as it stands. This will form part of their negotiation stance.
It may well be however that the buyer is thinking beyond point 5 (above) and envisages making further significant capital investments. To provide more income and profit for them in the medium to long term and, as importantly, to substantially increase the future value of the business.
This does complicate pricing matters due to the additional factors running through the buyer’s mind.
Will the offer leave them with sufficient funds to make the investments? When will they get payback and realize expected gains?
Again, this will form part of the negotiation process.
7. How does your business compare with alternatives?
There are always choices for buyers, including the "do nothing” option.
Unless you are very fortunate, and your business uniquely meets a buyer’s specific criteria, then expect all buyers to be shopping around and making comparisons for the best overall deal.
It’s an important decision for them, not unlike making a real estate purchase.
The best advice is to ask prospective buyers good, clear questions. Dig to try and understand their needs, their motives, what they are thinking, and where they are at in the buying process.
There is another very good reason why this is important. You need to be very careful before you release sensitive commercial information. After all, it could be a competitor trying to get the inside track on you. This merely reiterates the important point made at the beginning of this How-to Guide.
Overall, to progress a sale you will need to honestly provide them with the information to satisfy their enquiries. However, if you feel uncomfortable at any time with their requests, be fully prepared to stand your ground and get something in return. You can make information conditional on them signing a non-disclosure agreement, or them agreeing to moving negotiations to the formal stage, or both.
Related: Is My Business Saleable?