By Grover Rutter
GROVER RUTTER BUSINESS BROKERAGE
A vast number of baby boomer business owners will be retiring within the next eleven years. Unfortunately, most will not be properly prepared to sell their business for the best and highest price. In fact, some will not be able to sell their business at all. This impending tragedy can be averted if the owners know what to do–and how to do it.
It has been said that business buyers purchase future cash flows. While that is correct in theory, there is really much more to the story. Individual business purchasers are really purchasing a “dream” that is owned by the seller.
The purchaser really expects to buy:
- A good job
- Security with reduced risks
- Respect as a business owner
- Cash Flow and a good return on investment
- An operating/functioning system that will provide items 1 through 4.
In reality, business owners have no clue as to how to fulfill the buyer’s expectations. That’s because business owners normally don’t think in terms of “the value” of their businesses. Rather, they think in terms of “the bottom line.” The bottom line is only one side of the coin. The other side of the coin is value.
Value can be defined as “the amount of money in cash equivalents, that a buyer will pay you to willingly part with your business.”
The most important part of value deals with the potential buyer’s perception of the worth of your business. As with many things, perception IS reality. What perception would an investor (purchaser) have of YOUR business?
Perceptions of businesses are often fogged by Tax-Saving “mania” that grips business owners. Some business owners believe that the most important thing in business is–TO AVOID TAXES. Many small businesses even keep their books on the “income tax basis” of accounting. When this happens, profits from the business may look very low–adversely impacting a potential buyer’s perception of value associated with the business.
While the business owner has saved income taxes–without proper long term strategies and tactics to offset the implied damage caused by low profits–the business owner will actually suffer financial loss due to decreased business value.
I do not advocate paying more income tax than is legally necessary. However, without effective “counter measures” to offset the numerous “tax advantages” enjoyed by the business–business value can suffer terribly. And this is a terrible “curse” when it comes time to sell a business.
Some business owners understand that they should “do things differently” a few years before they plan to sell. These owners think that they “have time” before they need to get their business ready for sale. The truth is, that we all live on borrowed time. Life events such as divorce, disability and death (the three BIG D’s) may find business owners caught with their pants down, regarding the salability and values of their businesses.
So, how does one go about saving income taxes while making (and keeping) a business valuable and marketable?
Here are a few suggestions:
Engage a Certified Public Accountant (not an unlicensed bookkeeper) to prepare an annual financial statement for your company. Engaging a CPA shows that you care enough to do things right, rather than doing them on the cheap. This may seem like a small thing, but psychologically it has a huge impact on a potential buyer’s perception of your business.
Ask your CPA to prepare the financial statement on an accrual basis of accounting using Generally Accepted Accounting Principles rather than using the standard “income tax basis” which is used by many small businesses. The GAAP financial statements are usually better accepted and respected by investors and lenders than are “income tax basis” financial statements. The more acceptable your financial statements are, the less risky your business appears.
Be sure to have your accountant prepare a special EBITDA statement for the business each year. EBITDA stands for Earnings Before Interest, Taxes, Depreciation and Amortization. Many investors and lenders look at prices of businesses as a multiple of EBITDA. By being able to track EBITDA, a potential buyer may have some perception whether the estimated market value of your business is on the rise. (This may prove to be a great tool for the owner, too.)
Remember that tax return profits are meant to show the very worst case scenario. However, the types of financial statements discussed in the preceding paragraphs are needed to measure the true capabilities of your business.
Do a “self-examination” of your own business from time to time. Is your business one that YOU would want to purchase, if you were to make an investment? If not, ask yourself why you wouldn’t want to purchase it. This may be the same reason others would place little or no value on the business. Then ask yourself “what WOULD make the business more attractive?” If you act upon what would make the business more attractive, then you are actually improving the value of the business.