It’s no secret, running a business is challenging. For entrepreneurs throughout Nevada, navigating the complexities of day-to-day operations, as well as what to do when looking to buy or sell a business, can be overwhelming. In fact, even knowing where to start with many business matters can be daunting to the uninitiated.
To help business owners and decision makers navigate these challenging topics, Nevada Business Magazine recently hosted a Business First panel comprised of experts in the financial, legal and accounting fields. The panel was held in early-March at Proprietor’s Reserve. Panelists covered a variety of topics before answering audience submitted questions.
This Business First panel was moderated by Connie Brennan, publisher and CEO, Nevada Business Magazine. Panelists included Brian Blaylock, partner in Snell & Wilmer’s corporate and securities group; Jason Neumann, CPA and tax partner with Eide Bailly; and Chris Schlaffman, vice president of commercial lending at Clark County Credit Union. Each of the three panelists brought a unique perspective to the table to give the audience, and readers, a well-rounded view of the best way to buy, sell or simply run a business.
Common Mistakes
Unfortunately, part of learning the best way to run a business is making, and recovering from, mistakes. Knowing what mistakes to avoid can be helpful and, in some cases, may mean the difference between success and failure.
On the finance side, Schlaffman suggests keeping a realistic view of how much money a business might need. “The amount of working capital most businesses need, especially startup businesses, is really underestimated,” he explained. “We talk to people all the time about how much working capital they’re going to need and the amount that’s necessary to make it through and stabilize a brand-new company.”
Neumann agreed and went on to add that, when buying a business, many entrepreneurs try to save costs and do it all themselves. “We see people overestimating their abilities, thinking they can do all the jobs within that business,” said Neumann. Regarding a company’s financials in particular, “especially when dealing with small businesses, the owners are trying to run through stuff they shouldn’t. That is something an accountant can help them with,” he explained.
On the flip side, when selling a business, Neumann recommends an early start. “Start early and plan to sell,” he said. “Don’t say, ‘I’m going to sell in six months, or even a year.’ Plan on it. Figure out if you need certain financial statements. Clean up your finances.”
Neumann recommends owners plan about three years ahead of a sale. “As a seller, I would plan far enough in the future and get financials, banking and all of that in-line beforehand. All too often we see people try to do a fire-sale and wait until the last minute. You just don’t get the value and it’s much harder,” he said.
“The mistake we probably see most often is shortcutting on due diligence,” said Blaylock. “Buying privately held companies is notoriously risky. All a buyer can to is to mitigate that risk.” According to Blaylock, taking the time to thoroughly complete the due diligence process is essential. “Be satisfied with the results of due diligence. If you’re not satisfied, don’t close,” he added.
He also suggested sellers be wary of unsolicited offers to buy their business. “It’s possible that the person who made an unsolicited offer is offering you the highest and best value for that asset, but it’s not terribly likely.” Bottom line, said Blaylock, if there’s one buyer, there’s usually more. “The first buyer is not always the one who was willing to offer you the best value,” he explained.
The Dream Team
The proverb, “it takes a village to raise a child,” can apply to more than just child-rearing. When it comes to a business, no executive should work in a silo. Identifying trusted advisors and professionals to offer their expertise is an essential part of success for any business owner.
“The traditional [team] would be the people on this panel, attorney, accountant and banker,” said Neumann. “I would also throw in an insurance person and another person that can help draft a business plan.”
A good business plan would include comprehensive details such as how a business purchase will be made, how the business would be run, the number of employees needed and what type of marketing will be engaged.
Schlaffman added that, especially when it comes to the financial and lending end, having an advisor you trust to give you the best information is important. “You really need to make sure you’re talking to somebody that has enough experience and knowledge to direct you to the proper program, versus the program they want you to go into. It’s a big aspect,” he said.
“One of the things business owners sometimes don’t understand is that there is more than one kind of professional who will help you sell your business,” said Blaylock. “Business brokers serve a vital role. They help transition a lot of companies every year and they do so by calculating a value. That’s on the small business side and your broker would work with you to list a price at which you’d be offering it for sale, very similar to the way we do with real estate.”
“A business broker is a big benefit, depending on the level of the broker and what they’re doing for the business,” said Schlaffman. “Business brokers can reach across state-lines, pull in other buyers and other opportunities.”
It’s important to note that business brokers are not a “one-size-fits-all” professional. One type of business broker might be a good option for small and lower mid-market companies, but a larger business may need a different type of professional.
“Once you get north of a certain point, you have access to another category of advisor,” said Blaylock. “They are sometimes still referred to as a broker but they often try distinguish themselves by using another term because they don’t put a price on [the business].”
Instead of working on setting a business’ price, this level of broker may instead facilitate a private auction for the business. “The difference is,” explained Blaylock, “you’re not telling the buyer, ‘This can be yours for “X” dollars.’ Instead, you’re saying, ‘Here’s this business with all of these interesting and attractive features, you tell us what it’s worth. What are you willing to pay?’”
Determining Worth
When it comes to determining how much a business is worth, it can be as much art as science. “A value is based on some multiple of a financial metric, whether it’s revenue or net income or whatever,” said Blaylock. “The short answer is, it’s worth what a buyer is willing to pay.”
“Sometimes, when purchasing a business, people underestimate the value of what the owner does,” added Neumann. “They think, ‘Hey, the [previous] owner was able to generate six figures out of this business. Once I buy him out, I’m going to step into his role and make six figures.’ That’s not always the case.” A personal reputation can often have an impact on the future success of a business and new ownership may not have those relationships. “There’s an intangible value there as well,” he said.
Ownership and their role in the company can have a bigger impact on value than people realize. For that reason, in many business sales, an owner is required to stay on with the company for a set amount of time to help transition and set the new leadership up for success.
“As a buyer, I would want that,” said Neumann. “You’re buying into a business that somebody else knows intimately, they’ve run it. I wouldn’t buy a business where the owner didn’t stick around, for at least some period of time afterwards, for a transition. You’ve got to keep clients and that’s an important aspect of it.”
“[Many] business owners understand, when you’re an employee, it’s great to be indispensable. When you’re an owner, it’s not,” Blaylock added. “For most businesses, all things being equal, it is better for an owner to aim toward being dispensable. It’s better from a value perspective and it’s better from a salability perspective.”
Due Diligence
One of the most important processes in buying or selling a business is completing due diligence. It’s vital for both the buyer and the seller. When preparing for this process the documents needed are extensive, but it can be challenging to know exactly what to have ready.
“The short answer, [prepare] everything,” said Neumann. “The buyer is going through due diligence. It isn’t just tax returns; it isn’t just financials. They look at long-term contracts. They want to look at your leases. They want to look at, essentially, most of the things on your balance sheet, and they’re going to go through them.”
These documents should be pulled together, “preferably in advance of going to market,” said Blaylock. “If you fail to, then you’ll end up having to pull them together in order to get to closing. As a seller, you’re going to be responding to due diligence requests.”
Blaylock also advices that timing is important in this process. “Time kills all deals eventually,” he said. “One of the things that will substantially decrease the likelihood of a successful outcome is, number one, not being able to provide the relevant information at the buyer’s request. But, number two is not being able to do it within a reasonable period of time. The inability to produce the requested material within a reasonable amount of time itself highlights a risk the buyer may not want to take on.”
While the task of preparing documents for due diligence is daunting, it’s necessary to have the paperwork readily available, even for the purposes of simply running a business. “I empathize with any of our clients who don’t have time in the day to do this, but it’s not unreasonable and it’s not bad business strategy to have these things available,” Blaylock said. “If you put systems in place to keep these [documents] in an organized fashion and reasonably accessible, it’s going to dramatically increase the likelihood of a successful outcome.”
Red Flags
Business ownership is a risky venture from any aspect. When buying and selling a business, those risks increase, but some foresight and planning can help identify potential red flags on either end.
“Due diligence is a big aspect as far as [identifying] red flags,” said Schlaffman. “Either way, if the documents aren’t ready and you’re a buyer, that’s a big red flag. If you’re a seller and the person looking at buying isn’t asking for these types of documents, that should be a red flag.”
When looking at possible problems, it’s important to note what is, and isn’t, being asked for and the circumstances surrounding any potential sale. “If you’re a seller of a company and the buyer is not asking the right questions and then they turn around and ask you to carry back the note to purchase the business, that’s a huge red flag,” said Schlaffman.
Schlaffman added not being willing to provide a non-compete agreement is also a potential concern. “If you’re a buyer and the seller does not want to give you a non-compete, that should be a red flag. Why aren’t they willing to give a non-compete in the purchase? They [could] start a new company and steal all the clients away from you,” he explained.
A close look at a business’ financial details will also help a buyer spot potential red flags. “If financial statements don’t match the tax return, if they don’t match a federal document, that should be a red flag,” said Neumann. “If they cannot produce a CPA prepared review or audit for any of the past two, three years, those are all red flags that buyer would home in on.”
He added that inconsistent cash flows in a business’ financials are suspicious. “If it just happens to be that, the year they’ve decided to sell, they double their revenue, [that could be an issue]. Did they really double their revenue?” he asked. Padding a financial statement can give a deceptive valuation and be misleading to potential buyers.
The Marketplace
The types of potential buyers for any business can range from a competitor to a supplier or even a company’s current employees. “One of the first places to start is with your competitors, they know the business,” said Neumann. “But there’s really no one place you go to.”
Also, there are benefits and downsides to any type of sale and it’s important to know what those could be on the front end. In the case of an employee sale, for example, Blaylock said one of the benefits is simply having already identified a buyer.
“You don’t have to go looking,” he said. “You are generally less concerned with issues of confidentiality and competition because these are people who are already in your business and understand your business.”
However, on the risk end, there are several potential downsides. “The most important one is, when we see someone selling to their employees, or to a key employee, it often involves the seller also acting as a lender,” Blaylock said. “There are other options, things like employee stock ownership plans, without the current owner becoming a lender.”
He added, “There’s a saying, ‘Entrepreneurs are born, not made.’ A lot of times, just because somebody is a fantastic employee, doesn’t necessarily mean they’re up to running a business and sitting in the owner’s seat.”
Schlaffman agreed these types of sales can be a mixed bag. “On the upside, yes, you’ve got business continuity, your clients see the same faces. But, on a carry back note, a lot of times, that is difficult for the seller to swallow. They’re thinking they’re going to get paid back in two to three years. Really, they need financing for a five to seven year period.”
Simply put, every type of sale is different, and buyers and sellers should be prepared and flexible. In addition, both parties should sign a non-disclosure agreement (NDA) up front. “The rules change depending on who your potential buyer is,” said Blaylock. If you’re dealing with a purely financial buyer operating in a remote market and there are no competitive concerns, that is much less concerning than, say, [selling] to your biggest competitor across town.”
“Ultimately, what contributes to the value of a business is whether what makes it valuable is salable,” concluded Blaylock. “If the owner is not essential, that’s a plus. If you have recurring revenue, that’s a plus. If you are counter-cyclical and able to withstand market turbulence better than your competitors, all of these things are a plus.”
