As a business broker and valuation specialist, I’m often asked about the issues involved in selling a family business.
Ideally, family business owners should start planning for ownership transition well before the event. One of the first steps in planning an exit is to understand who the potential buyers might be and the different characteristics of these buyers.
Here, we will briefly discuss both internal and external sales of the family business.
In an internal sale of a family business, the buyers are likely to be family members of the next generation or possibly family members in combination with key non-family employees.
Various financing options may be employed by the buyers of the business including seller financing after an acceptable down payment. Many times the older generation in a family business will finance the sale of the business to a promising member(s) of the younger generation. When this option is employed, a word of advice is in order. Have a very clear understanding as to how the debt is to be handled and put it in writing in the form of a legal note and security agreement.
Bank loans guaranteed by the Small Business Administration (SBA) may also be available for around 75 to 85 percent of the appraised value of the business. If the business is of sufficient size, an Employee Stock Option Purchase (ESOP) plan might be an attractive option with tax advantages.
External buyers of family businesses may come from several distinctively different categories. But most will fit into one of the following three descriptions
These buyers will be individuals who are essentially buying a job for themselves. This buyer will usually be looking for a small to medium-size business. Buyers will have the financial ability to make a down payment of 15 to 30 percent of the acquisition cost of the business and will have a sufficient credit rating to obtain financing for the balance.
The financing will most likely be an SBA 7(a) guaranteed business acquisition loan amortized over 10 years, or 15 years if real estate is part of the purchase price of the business. The key for this buyer is that (1) the business must be able to pay the new owner a decent salary and, (2) then make the monthly payments on the business acquisition loan. This allows the buyer to make living from the business while he/she builds equity in the entity.
If your business has enough cash flow for both of these obligations, then you have a good chance of selling your family business to a buyer from this category.
Financial buyers are generally looking for somewhat larger businesses than the above-described buyer. Buyers who fall into this category will include private equity groups and other sophisticated investors. Most of the time, these buyers will not be owner-operators of the business, but rather will retain the current management of the business or send in a management team.
The buyer is investing for the projected financial returns. They will usually have a plan for significantly growing the business which may include such things as additional capital investment, specific management talent, adding products and services, and expanding the market geography of the business.
The plan will usually include an exit strategy after the growth and improvements have been realized. This time frame is typically three to seven years.
These buyers may employ various sophisticated financing options for the initial purchase of the business.
Strategic buyers usually are firms that are already operating in the industry of the potential acquisition. They may be looking to increase their geographic footprint into new areas, and they may also be looking for the economies of scale usually found in such opportunities.
A strategic buyer can be either a horizontal or vertical player in the industry looking to realize specific synergies that the acquisition will create.
Financing for these buyers is varied and sometimes includes an earnout component in which the seller is paid over time according to specified financial benchmarks being achieved by the new owner.
Depending on the size and type of your family business and your goals, you may have interested buyers from several of these categories. Our firm is experienced in dealing with all types of buyers.
If you think we might be of service in planning or executing the transfer of your family business, please don’t hesitate to contact us.
For our article discussing the top three issues involved in the sale or purchase of a business, please click here. And to review our article on how to quickly estimate the value of a business by using rules-of-thumb, please follow this link.
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