After ten years of helping people exit their business, it still amazes me how almost every business owner believes their business is saleable.
It’s a hard truth to swallow, but not every business can be sold.
Like any product on the market, there are unique characteristics and features that define how successful a business will be at both being sold and making a profit on the transaction. I recently fielded a call from a couple that wants to sell their 10-year-old business. They are your typical mom and pop shop. Here is a breakdown of their business:
- Each work 50-60 hours a week (100-120 hour week combined);
- Seasonal business (8 month operating season);
- $50,000 invested in equipment;
- Revenue of $300,000;
- Net profit of $75,000 (after payroll and expenses).
Like most small businesses, they consider the entire net profit their paycheck, which in this case is $75,000. Let’s break that down shall we:
$75,000 / (100*48) = $23.50 per hour
Net profit / (Combined weekly hours worked * Weeks worked) = Per hour wage
Now let’s turn the tables and look at that exact same scenario through the buyer’s eyes. First, they need to buy the equipment. Second, they invest a sum of money to purchase the business. Third, they assume the risk and liability of this business. Fourth, they need to work the necessary 100 hours a week plus additional time to account for the learning curve.
What do they receive in return? The privilege of making less than $23.50 an hour.
Did I mention that is pre-tax profit? That wage keeps dwindling and dwindling. The other fact I skipped over is that in this model, all cash is taken out of the company each month leaving no money left for growth, reinvestment, additional marketing, or business development.
Needless to say, this business is very difficult to sell with a very strong likelihood it can’t be sold.
Similar to any investment, buyers want returns on their money. This scenario presents a very small likelihood for sizeable returns. Let’s not forget to mention that the buyer also needs to invest 100+ hours a week to see those returns. The stock market, or even CDs with their limited returns, starts looking really good in comparison.
At this point in the conversation, like most owners of a lifestyle business, the owners bring up the “great opportunity” on the table to grow the business and the potential to make it more profitable. The conversation runs along the lines of by introducing new marketing campaigns or launching a new product line, this business has the potential to grow rapidly.
To put it bluntly, if these ideas are so great and easy to implement, why don’t the current owners do it?
Bottom line is that this business is a lifestyle business. Translation: it cannot be sold for much more than the equipment value. Liquidation is another option. This is where the business owner sells off anything that has value and then closes their doors. While the liquidation model may not sound appealing, it’s a very good exit strategy and used by most business owners.
For a business to be sold, there has to be net profit beyond the owner’s salary. Net profit is profit after the owner gets paid a reasonable salary. This gives the business the opportunity to finance growth, pay off debt, or left as reserves to explore future opportunities. In absence of this version of net profit, a bank won’t loan the money to a potential buyer. This limits the buyer pool.
As one investor told me, if there is not enough profit generated to protect the investment, then it’s not something he wants to buy.
Be honest when you evaluate your business. Put yourself in the buyer’s shoes. Is this business worth buying? When you do that examination, remove “future potential” from the equation. Buyers are paying for the historical numbers. It’s common for sellers to try and sell based on the future, but it comes down to hard, proven numbers.
The right exit doesn’t always mean a sale. Shutting the doors is often the least expensive and lowest risk exit available. To explore which option is best for your business, contact me today. Together, we can build a strong exit strategy for you and determine the best route for the business.