11 must do steps to prepare your business
In the housing market, sellers understand the value of staging the home. Getting it in the best possible shape before showing it to potential buyers.
Your business is no different. If you are thinking about selling your business, you will need to get your financial house in order. Here are 11 staging strategies to make sure you get the best price for all your hard work building a successful business.
1. Three to five years of accrual or industry standard financials.
There’s no getting around this. If you’ve been using cash-based or some other method of accounting, you’re going to have to devote the time to compile and present comprehensive, organized financials that use accrual based or Generally Accepted Accounting Principles (GAAP). The key here is consistency in accounting methodologies. Buyers do not want to see big swings, they want to see consistent month over month margins. Revenue and expenses need to line up in period earned/incurred so there are clear trend lines.
Expect that buyers will do extensive due diligence on your records which should include:
- Profit and loss statements
- Balance sheet
- Cash flow statements
- Statement of SDE (Seller’s Discretionary Earnings)
- Business tax returns for the past 2-3 years
- Copy of the current lease(s) and insurance policies
- Any non-disclosure/confidentiality, non-compete agreements
- Executive summary/overview of the business
- Any additional disclosures that will help substantiate the financial representations
As business broker Randy Katz, CFA, Partner at Synesis Advisors says, “The quality of the financials is the number one issue in virtually every deal. A properly kept financial system leads to higher deal prices and a lower probability that a deal gets renegotiated or fails after signing a letter of intent.”
2. Financials have to be consistent with your business tax returns and payroll tax forms.
Alignment and consistency across all reports, returns and statements are crucial to building credibility and confidence. Check Schedule L on your tax return and make sure the information ties to your balance sheet in your accounting software. If it does not match, request a reconciliation from your CPA. You’ll also want to make sure the payroll expense and payroll tax line items on your profit and loss statement tie out to your payroll form W3. Inconsistencies will raise red flags and erode trust in the financial picture you are presenting.
3. Clean up Accounts Payable (AP) and Accounts Receivable (AR)
AP and AR are the two most critical aspects of day-to-day accounting because they impact cash flow. And cash flow is the lifeblood of your business. You want to demonstrate that you run a tight ship…bills are paid in a timely manner, all invoices are tracked with a minimum of write-offs. If you have a lot of notes and explanations in your AR, it can create doubt in the mind of your potential buyer.
Buyers are going to want to see a clean balance sheet and a clear understanding of cash flow and working capital – current assets less current liabilities. Buyers want to know they are getting enough working capital to continue operations and not run into liquidity problems down the road.
4. Write off old fixed assets
On your tax return, find your schedule of fixed assets. Anything you no longer own, have your bookkeeper write off in your accounting system. Also go through obsolete equipment you might have stored in closets and consider selling them or disposing of them and then writing them off from your books. If you end up selling any of your equipment to a buyer, you will want to get a current market valuation by an IT expert and this will be included in the sales price.
5. State and Local Compliance
Make sure you’re up to date with sales tax and local filings. If you sell goods (or software), you need to be aware of Nexus in any state you sell into. Use a tool like Tax Jar or Avalara for ecommerce or Anrok for SaaS to automate this process and reduce errors.
Some cities have their own taxes. For example, San Francisco has a gross receipts tax as well as a health care ordinance. Depending on the size of the business, these taxes and obligations can be hundreds of thousands of dollars per year and you must be in compliance or you can expect the potential liability to come out of our sales proceeds.
6. Customer concentration
There are a number of ways for buyers to evaluate the current customer portfolio. Some will look to see how many accounts make up 80% of the business. If the business is dominated by a handful of accounts, they will want to know the status of those relationships.
Buyers will be skeptical of any business that has too high a concentration of customers. If any of your customers represents more than 10-15% of your business, it will raise a flag.
In addition, potential buyers will want to know much you (the seller) own the relationship with your customers. If you’re the only one keeping customers happy, it’s risky for a buyer because they might leave when you do. Make sure other team members also handle customer relationships.
7. Discretionary expenses/add backs
Most savvy business owners will expense as much as possible and minimize their net income to save on taxes. This strategy is advantageous until it comes time to get the business valued for a possible sale. Suddenly the lowered net income makes the business financials less appealing to an investor or business buyer and will definitely impact the multiple the buyer is willing to pay.
While there are generally agreed-upon parameters for the types of expenses considered add-backs, it’s common for buyers to disagree with the add-backs a seller uses, or for lenders to dispute add-backs. Examples of typical add backs include: travel, cars, family members on payroll, commingling other businesses expenses, etc.
This can be a major sticking point and must be handled with transparency. Business owners want to use as many add-backs as possible to increase the company’s value; buyers worry that some add-backs can unrealistically overvalue the company, and lenders want to eliminate as much risk as possible.
As you get ready to exit, get your personal life out of the financials and start looking for areas to cut costs. Too many add backs erodes trust.
8. Quality of earnings
If the nature of your business allows it, try to have as much of your business revenue be recurring (vs non-recurring). Recurring revenue (subscription based, monthly fee based) and long-term contracts are more desirable. Having cancellation clauses in your contracts helps too. Focus on services that produce consistent monthly revenue over lump project revenue. Predictable cash flow builds confidence in the viability and sustainability of the business.
9. Move other expense “below the line” (normalizing your EBITDA)
Any one-off expenses (i.e. legal expenses from a lawsuit, one time moving expenses, etc) move below EBITDA, so a buyer can see they are not part of normal operations. Also put any expenses related to selling the business (like legal, accounting or other professional fees) in the one-time expense category. Remember, you want to make your business look as profitable and consistent as possible.
10. Inventory report.
If you sell products, make sure you can provide a end-of-year inventory report at a minium or ideally month over month. This needs to be reconciled to the balance sheet to provide the potential buyer with a clear picture of goods on hand and sales velocity.
11. Work with the right advisors
Working with the right advisors, including business brokers, outsourced accountants, tax accountants, and M&A lawyers, is crucial when selling your business. Business brokers can help find potential buyers and negotiate the best deal. Outsourced accountants ensure your financial records are in order, tax accountants optimize tax implications, and M&A lawyers navigate legal complexities to safeguard your interests throughout the sale. You will also want to speak with your financial advisor well in advance so you have a plan for your money once the sale is finalzied.
Final Thoughts
You will only get one chance to get this right. Be honest. When you look in the mirror, do you see an exit planning expert? Are you able to present the kind of bulletproof financials that will get buyers excited about buying your business and paying top dollar?
If you are thinking about selling your business in the next few years, let Momentum Accounting help get your financial house in order. Schedule a no-obligation phone call with Ashley here.
“Hopefully, you know how instrumental you and Momentum have been in helping me make 034Motorsport successful pre and post acquisition, frankly, I don’t know where we’d be w/o you guys, you finally helped us get our accounting under control, I am forever thankful for your efforts, and your willingness to stick around through some very crazy and insane times with me!”
– Javad Shadvi, CEO of 034Motorsport”
