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  • Writer's pictureJohn Washington

Most Small Business Owners Aren't Prepared for an Exit. Are You?



There is No Playbook For Selling a Small Business


For many entrepreneurs, a business sale represents a very important source of liquidity and is a significant milestone after years, or decades, of building a business. Yet, despite the significance, the sale process is a nebulous concept. Often, small business owners struggle to monetize their life’s work or fail to complete a transaction that meets their goals because they lack resources, research, and teams of advisors that are available to larger companies.


First time sellers are often caught off guard by the reality that there is no rinse and repeat formula for selling a company. Each business is unique and therefore each sale process is unique. But common across each sale process is a series of steps that require the input and involvement of key members of a business. The process begins with weeks, or months, of preparation, conversations and relationship building between the seller and buyer. Then, following the initial salvo of introductions comes another stretch of negotiation, information sharing and a rigorous diligence process. Finally, businesses that are fortunate enough to arrive at the closing table will sign a purchase agreement and complete the transaction.


In addition to the bandwidth required to facilitate the sale process, the seller must continue to ensure the company’s smooth operation, or risk that the attractiveness of the business declines from the acquirer’s standpoint due to operating struggles. There is no doubt that selling a business is difficult, but given the importance of a liquidity event for the entrepreneur it’s a worthwhile exercise to seek sale process education. In doing so, the goal is to position a business to navigate the sale process with the best odds of closing.


Businesses Are High Value, Illiquid Assets


Businesses are expensive and appeal to a narrow universe of buyers, even on the smallest end of the spectrum. A hypothetical business with $1 million of cash flow, which would qualify as a small business, might be valued at upwards of $3 million. As an example of the relative value of a $3 million transaction, the largest financial transaction most people will make in a lifetime will be a home purchase, the median of which is $437,000 in 2023 (source: US Census).


A small business with $1 million of cash flow, therefore, represents a transaction value that is multiples greater than the largest financial transaction most people will make in a lifetime. Of course, not all acquirers of businesses are individuals, but because acquiring a business, whether a $1 million business or a $1 billion dollar business, represents a significant cash outlay, buyers are hyper diligent when analyzing an acquisition target, especially as deal sizes grow.

To continue the home buying analogy and to attest to the illiquidity of a business, consider the complexities of the home buying process, from negotiation to financing to closing and beyond. Because shelter is a basic need, and despite the headaches spurred by inspections, taxes, mountains of paperwork and the drudgery of moving, we slog through the home buying process out of necessity. We must have a place to live.


Buyer Discretion Is an Important Input


Unlike the need for a home, a business acquisition is a discretionary purchase and not all businesses are candidates to be purchased. Buyers of businesses seek returns on investment, thus a business that is not deemed to offer an opportunity for returns would not be a suitable candidate for acquisition. And businesses that are candidates to be purchased may not result in a closed transaction due to a host of reasons, examples of which could be valuation disagreement between seller and buyer, high levels of customer concentration or lack of management depth. The buyer’s discretion creates the seller's illiquidity, or the inability to quickly turn an asset into cash, and is a significant hurdle in the business sale process.


According to data from small business marketplace BizBuySell, just 6.6% of small businesses listed in 2022 were acquired. Granted, small businesses generating less than $1 million of revenue, which is the average size of a BizBuySell listing, may be more difficult to sell than businesses generating more than $1 million of revenue, leading to a low percentage of completed sales among the BizBuySell cohort. But other estimates, including one published in this Forbes article, indicate that 20% to 30% of listed businesses will sell, confirming that the odds of closing are against the seller.


Even among larger, announced deals, defined as those over $1 billion, headwinds persist on the way to closing a transaction. According to research from McKinsey & Company, about 10% of announced deals over $1 billion fail to close due to a variety of factors.


Owner Preparation is Critical


Although each business’s sale process is unique, consistent across these processes is a central figure – the owners of the business. For owners, the business sale represents a very important financial event with the potential to create life changing liquidity. After decades of having significant portions of wealth tied up in a business, the sale represents a seminal moment in the entrepreneur’s journey. Depending on the size of the business, it’s not uncommon for an owner to have a majority of their net worth tied up in a business. The importance of preparation, timing and education about the sale process cannot be overstated.


A key to successful completion of a transaction, which is also key to successfully scaling a business, is the owner’s familiarity with the business’s operations, clean record keeping, a strong management team and close involvement from the owner during the sale process. Selling a business is never easy, nor is the sale process outcome predictable. As a matter of fact, selling a business is likely to be one of the most challenging events of a business person’s career. Education and preparation are critical for an owner who is exploring the sale process, especially given the financial implications for the owner.

Small Steps Towards a Hopefully Big Outcome


Although there is no rinse and repeat formula for selling a business, owners can shift the odds favorably by incrementally taking steps towards sale readiness. Forming valuation expectations, understanding the buyer universe, determining what’s most important to the owner in accomplishing a sale, marketing the business, financing a sale, and preparing accounting records for review are a few of the key elements of a sale process that owners should contemplate.


Although preparing a business for sale is no small undertaking, no one knows the business better than the owner and no one has greater stakes than the owner. By obtaining knowledge about the sale process an owner can increase the odds that they are well prepared for a sale process, and in doing so hopefully tip the scale in favor of completing a sale.

To learn more about preparation for the business sale process, including discussions on timing, preparation, valuation, buyer types, process detail and more, download the 37th & Moss guide to selling a small business.



 

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