For many majority owners of private companies, selling their business is a once in a lifetime event without “do overs.” They want to secure top dollar when the company is sold, and this post reviews strategies that are geared to help the owner obtain the best sale price for the business. But there are other important issues in the sale process beyond price the owner must also handle carefully as well. Specifically, the owner will need to address: (i) the fate of key employees in the business after the sale takes place, (ii) the difficulty of meeting post-closing obligations that may be required by the buyer, and (iii) the warranties and representations the owner must make to the buyer in the transaction. These issues do not take priority over securing a robust sale price, but if they are not dealt with carefully, the champagne popped in celebration at closing may turn sour as conflicts with the buyer drag the owner into a morass of legal problems that last for years after the sale.
Retain Experts to Secure a Sale to a Strategic Buyer
A strategic buyer is typically the most desirable purchaser for the company, because this type of buyer often pays a premium to save the time and money required to start a new company, and in order to remove a successful competitor from the marketplace. Thus, a strategic buyer is one who is seeking specific synergies from purchasing a company that will spur the growth of the buyer’s current business or complement that business. This is a targeted acquisition, because the buyer plans to fold the target company into the buyer’s existing corporate structure.
Tapping into the network of potential strategic buyers who may be available to buy the majority owner’s company, however, requires expertise that most owners do not have. That is why it is generally advisable for the majority owner to retain an investment banking firm, a business broker or another transactional advisor who has the information and the expertise necessary to source strategic buyers who are interested in buying the business. While these advisors will charge a substantial fee for this service, the advisor’s ability to secure a much more robust purchase price is almost always worth the required fee.
The transaction advisor does not serve as the outside legal counsel for the majority owner, but the advisor will provide the owner with expertise in negotiating financial and other sale terms, some of which are discussed below. In this way, the advisor serves as a buffer for the majority owner in contract negotiations with potential buyers, which is also helpful in securing the best price and terms for the sale of the business.
Developing Hidden Value – Identifying Off-Balance Sheet Assets
Determining a company’s value seems like a purely formulaic exercise based on the company’s revenues and profits. But majority owners who are able to provide more than meets the eye may enhance the price paid by the buyer. This type of enhancement may be possible when the company has off-balance sheet assets that are valuable to the buyer. In addition, majority owners who are willing to accept a greater level of risk may be in position to secure more upside from the buyer in the transaction.
Some examples of these non-traditional assets are intellectual property (IP) that has not yet been monetized and strategic initiatives or opportunities that have not yet been disclosed or realized. More specifically, many companies have patents or other IP rights they have not yet licensed, assigned or exploited. In the right hands with experts who know how to license and develop these IP rights, they can generate large financial returns for the business. Similarly, the majority owner may know about weaker competitors, unlisted property rights in adjacent venues or other business opportunities that the owner lacked the capital to exploit. If the owner can demonstrate to the buyer that these business ideas are tangible, they may increase the purchase price or as discussed below, they may open the door for the seller to generate additional, post-closing payments.
The financial upside aspect of the transaction involves earnouts that provide the owner with potential (contingent) additional payments from the buyer based on the future performance of the company. Earnouts are notorious for not being realized, and for this reason, the majority owner should exercise significant caution in structuring a purchase price that relies on them heavily. But, for an owner who has a management team that will continue in place after the sale, there may be a realistic opportunity to secure a significant post-closing payment if the team can deliver on performance after closing.
Checking All the Boxes, Not Just Securing the Best Price
For a majority owner who developed a successful company through the efforts of a devoted team, the key employees of the business represent a close, cohesive culture, not just a company. In addition to key employee retention, the owner needs to negotiate post-closing owner obligations and owner/seller representations.
First, to ensure that key employees will remain with the business after the sale, the majority owner needs to discuss the potential sale of the company with the employees well before the sale takes place. This discussion permits the owner to determine whether any of the employees will resist working with a new owner, whether they are open to entering into employment agreements, and if so, whether they will seek increased compensation after a sale of the company. This information enables the owner to factor the employees’ concerns into future negotiations with potential purchasers.
The majority owner’s consultation with the employees may also be an opportunity for the owner to consider providing them with phantom stock that will incentivize them in helping to complete the sale of the business. Phantom stock permits the employees to receive a small percentage of the net sales price that the buyer pays for the company. This effectively provides the employees with a well-deserved bonus for their efforts, which they will receive when the sale of the company is completed.
Regarding post-closing obligations, these are often specific to the majority owner as the buyer generally wants the owner to remain active in the business for some period of time after the sale. Given that a major transition of ownership and management is taking place, however, the owner needs to require the buyer to detail the owner’s specific duties and responsibilities after the sale. Disputes between former business owners and buyers over post-closing obligations are common because the parties did not carefully define the role of the former owner after the buyer closes on the purchase.
Finally, every sale of a business requires the owner/seller to make representations and warranties about the operations and finances of the business. These representations can often became the subject of disputes, and the majority owner may therefore want to consider securing reps and warranties insurance, which provides coverage for these types of claims. In many cases, the purchaser will fund the premium for this policy, which largely mitigates the risk of the majority owner in providing these representations.
Conclusion
The majority owner’s primary goal in selling the business is to maximize its sale price, and achieving this goal is more likely when the owner retains knowledgeable advisors who bring potential strategic buyers to the table. But the sale price is not the sole factor that owners need to consider in the sales process. The owner must also consider how to retain key employees after the sale, how to avoid becoming subject to a host of rigorous post-closing obligations, and whether it is possible to narrow the scope of representations and warranties that the owner must provide or to protect against alleged violations through acquiring insurance that applies to these claims. These may seem like secondary issues, but if they are not handled thoughtfully, they can derail a transaction or create problems for the majority owner after the sale that result in protracted, expensive legal battles.