When you start a business, somewhere in the back of your mind you dream of selling it – maybe for a fat chunk of change – and riding off into the sunset.
This dream is increasingly being replaced by the reality that you have to sell slowly, in messy, often ugly transitions, during which the business owner shoulders much of the risk.
There are three common types of “slow exits,” and according to mergers and acquisitions (M&A) professionals and business owners, all of them are on the rise.
1. The 70/30 earn-out
The proportion of cash a buyer pays upfront for a business, compared with what is available to the owner for meeting future targets (the earn-out), is going down.
One M&A professional recently said her typical deal is now three times earnings upfront, with the potential for the owner to make as much as 10 times the earnings if the business meets the three- to five-year future targets set out in the share purchase agreement.
Earn-outs have always been common – especially in service businesses – but buyers are becoming more risk-averse and placing a higher proportion of the owner’s take from the sale of their company “at risk” in an earn-out.
2. The vendor take-back
Since 2008, it has become much harder to get a bank to lend someone the money to purchase a business, and there is a growing trend among buyers to ask the seller to lend them the money.
Imagine walking into Tim Hortons and asking the person behind the counter to lend you the money to buy yourself a coffee – it’s a little backward, but it is happening more frequently.
This bizarre financing arrangement is called a “vendor take-back” because, in the event the new business owner defaults on the loan, the seller of the business gets the business back – albeit in much worse shape.
In one recent example, the seller of a construction company was being asked to finance $3-million of an $8-million offer to buy his business.
3. The management buy-out
According to a recent survey I conducted with 632 business owners, only 37 had received a written offer to buy their business in the past two years.
Of those, the average bid was for two to three times earnings.
Given these paltry multiples, business owners are increasingly starting to consider transitioning to a set of managers. The next generation of owners use the free cash flow from the business to buy out the owner over many years, and the seller avoids the fees and hassles of selling to an external buyer.
In the past, the traditional advice was to sell your business just as it approached its peak in terms of growth and profitability.
But in a stumbling economy with tight credit, selling a business has become more of a slow transition than a one-time spectacular event.
Given the growing length and importance of the transition period, it might make sense to sell earlier, when your business still has lots of room to grow, and you still have the energy left to help you and your new owner get to the finish line.
Special to The Globe and Mail
John Warrillow is a writer, speaker and angel investor in a number of start-up companies. You can download a free chapter of his new book, Built to Sell: Creating a Business That Can Thrive Without You.
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