Downtimes are good times to expand your business by snapping up a rival or complementary operation. During economic slumps, business valuations drop and thereafter lag the recovery, says Greg Kells, president of Ottawa-based Sunbelt Business Brokers. "Doing an acquisition during a downtime lets you go through the integration while you're in the recession," he says. "When the economy comes back, you're raring to go," propelled by an influx of customers, a network of suppliers, trained employees and cash flow.
First, however, you must determine what the prospective business is worth. Most sellers have no clue, says Kells. "They read that a competitor sold for nine times revenue, so they figure that's what they should get." It's far from that simple. "Most businesses are overpriced when they're first put up for sale," says Richard Parker, author of the book series How to Buy a Good Business at a Great Price. Business valuation, he says, "is more an art than a science." Your accountants will guide you through the fundamentals: reviewing profit-and-loss statements and sales and operating ratios for the past three to five years, and crunching the numbers through standard valuation methods. But there are many intangibles that only deft questions will reveal. "Every business has secrets," says Parker. Here's where the important ones lie.
Client and employee loyalty
Relationships with clients are critical, says Kells, and that won't show up in the ledgers. A high customer turnover suggests something is driving people away, and means it may cost you a lot to fix the problem. A dedicated work force is also a highly prized asset-though not if employee loyalty is tied to the current owner, and leaves with him.
ASK:
Is a customer list or database included in the purchase, and is it expanding? Is there a concentration of a few clients on the accounts receivable schedule? Are key workers under employment contracts, especially top salespeople who have long-term relationships with stalwart clients?
Industry health
Valuing a business should go far beyond the company financials, advises Parker, and get into the landscape where that business operates. Look at the industry trends, zoning changes, competition, local socioeconomic conditions.
ASK:
How was the business doing prior to the economic downturn vis-à-vis its competitors, and how does it compare now? If it's a store in a destination locale, how are the core retailers-the ones that drive the traffic-doing? How are the business's customers doing? If it's a distribution business, how are its suppliers doing?
Systems and processes
Solid accounting and reporting systems are a significant, if hidden, asset in a business because they make managing the company much easier. "A lot of people forget the integration process," says Kells. "It requires almost a re-education in the corporate values, and that takes time and money" -as much as six months of a company's revenue, he estimates. Jason Martin, president of Toronto-based systems integrator Navantis Inc., experienced this situation firsthand when his company did an equity swap with Legend Corp. this spring. The smaller Ottawa operation used very different accounting methods in tracking customers and recognizing revenue. "We'd suddenly find out there was a whole cache of customers we could count," says Martin.
ASK:
How is the inventory counted and organized (for example, finished goods, work in progress, raw materials)? How are accrued liabilities, such as payroll taxes and severance pay, accounted for?
Performance guarantees
The business you're looking to buy has seen revenues declining, which the owner blames on the economy. But is that really the issue? Unlike real estate, says Parker, "if you buy the wrong business and it goes bankrupt, there's nothing left." Rather than settling on a firm price, buyers are increasingly turning to performance-based guarantees, whereby they agree to pay a ceiling price if sales or profits reach certain levels, but also set a floor price that applies if targets aren't met.
ASK:
What was the company's revenue trajectory prior to the downturn? How do more recent sales volumes compare with those of your direct rivals'?
Goodwill
