One of the first items a potential buyer for a business will want to talk about is the organization’s financial performance. Sellers should be prepared for the buyer’s due diligence into past, present and projected earnings of the business or division looking to be sold, as well as some investigation into the key value drivers of the organization.
In the second step of the Five Steps to Selling Your Business series, your company should be collecting, organizing and examining its financial indicators in preparation for the due diligence phase of the sale process. The organization will not only keep potential negotiations running smoothly, but it will also help you prepare you for the next step in the process, objectively valuing your business and setting its sale price.
Financials – Past, Present and Future
A buyer will want to know where your business has been financially. A professional financial picture makes your business much more attractive to financial buyers with a special focus on documented and clearly understood and applied historical accounting reporting policies and procedures in the business. Sellers should be prepared to present monthly trial balance or similar financial information prepared in accordance with Generally Accepted Accounting Principles (GAAP), or an understanding of the GAAP conversion impact if financials were prepared on a non-GAAP basis.
Previous income statements may be a start, but they don’t reflect when expenses were paid and when revenue was received. Sellers should be prepared to present historical cash flows, including their history of sales, collections of accounts receivable, investments made into the business and expenses. A key area of focus will be a reconciliation of revenue and sales reports to the financial statements.
It is important to analyze this data over at least a few years to pinpoint patterns in spending or expenses, such as a spike in expenses in months with multiple payrolls or when insurance premiums are due or a decrease in sales following the end of an annual promotion. The historical cash flow projections will help with present and future cash flow projections. Using the patterns identified in the past provides a good indication of how your company’s present expenses and revenue may fluctuate in the near term.
As you near sale, conduct cash flow projections regularly, either monthly or quarterly. If you are experiencing rapid growth, you may want to consider increasing the frequency of your projections. Staying up-to-date on cash flow projections will also be helpful in the next step in the process as they will let you know in real time if you’re not meeting the target goals you’re setting to get your ideal sale price.
Preparing to sell your business also requires you look for personal or one-time costs that were expensed to the company. Whether it occurred to help reduce owners’ net income or to address a one-time or infrequent event, businesses should consider what to add back into their statements of cash flow. Normalizing the cash flows provides a more accurate, overall picture of what expenses or income that the next owner can reasonably expect to incur.
Of particular interest to buyers is the proof. Sellers should prepare all of the detailed underlying supporting documentation for each requested item; including the recording of the item as an expense, a copy of the invoice (or similar processing paperwork) and related proof of payment.
Additionally, if expenses were deducted to reduce owners’ net income, you’ll want to be sure you address that early in the process so that those expenses do not affect the overall value of the business or its owner when the time comes to set the sale price.
Context is important for evaluating financial performance. When organizing your financials, be sure to factor in marketing or sales efforts and changes in the competitor landscape. Look for years when a close competitor entered or exited the marketplace, as these events likely had an effect on your operations.
Your customer base will be important as well. If you have an exclusive contract with the largest employer in your area of operations, for example, you will want to be sure this information is included in statements about your financial position. The same goes for concentrations you may have, either with specific service lines, product offerings or within the marketplaces.
The way your business is organized, from your financial departments through your human resources personnel will be another point you’ll want to mention in your sale. Buyers looking to acquire or merge with your business will want to know how your operations could mesh with theirs. It may be helpful to identify potential strategic buyers that would be interested in a business like yours and evaluate whether changes need to be made to your organizational structure to make your business more appealing to those parties.
Accurate, comprehensive cash flow projections are critical. Many businesses will use discounted future cash flows as part of their valuation process. You may want to enlist the help of a third party service provider to ensure you have captured and are clearly presenting the financial potential of your business.
For more information, please contact a member of our transaction advisory services team.
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