This article appeared in the August 2019 issue of MiMfg Magazine. Read the full issue and find past issues online.
Business owners commonly think that their businesses are worth more than their actual market value. This is because they do not try to think like buyers, often until it’s too late. According to surveys of 20,000 business owners by the Value Builder System, the average offer is only 3.7 times the pre-tax profit of the business. The value of the company for sale makes a difference, of course. Larger companies may get closer to 5 times the pre-tax profit while companies valued at less than $1M garner significantly lower multiples. Regardless of size, though, offers for private companies are less than for public ones.
Some owners, when faced with those projections, decide it’s better for them not to sell but instead remain with their companies and extract what value they can from them over time. Within five years, that amount might equal what they could get from a sale. This is what is referred to as a “milk it” strategy. It seems safer — money now and perhaps more money later when they sell — but there are some downsides. These are:
- Business is good now...but will it stay good? The economy is in solid shape right now, and that means that many businesses are making a good profit. The Great Recession isn’t that far in the rear view mirror, however. If there is another recession, not only will the yearly profits be less, but there will be a much smaller pool of buyers if you do decide to sell. The financial risk lies entirely with the owner — whether that’s you or someone else.
- The company owns the owner’s focus and energy. Unless you have built a company that can operate entirely independently of you — and few owners do this — your time and energy will be taken with the running of the business. Every emergency will require your attention and resources. Other priorities like family, developing new skills or hobbies, or travel will have to wait.
- Locked-in capital isn’t yours to keep or spend. Capital-intensive businesses require a lot of feeding in order to keep going. Owners who are counting on yearly dividends from profits to make it worthwhile should do the math to make sure those dividends are worth the risk and cost of maintaining ownership.
- The tax burden on a sale may be smaller than yearly taxes on profits. This will depend on the tax jurisdiction — which is why it’s always wise to involve a tax professional when considering a sale either now or down the line.
- A profitable, well managed business may be worth more than 3.7 times the pre-tax profit. Business owners who think like buyers in advance and address weaknesses in their companies often attract very lucrative offers with multiples into the double digits. This is particularly true in a seller’s market like the one we are in now.
The economy is strong at present, and the market for companies favors owners. This means that taking a “milk it” strategy could be risky, especially for business owners who are ready for a different focus or new opportunities in life. Before the next recession comes, it would be wise to consider all options, including selling your company sooner rather than later.
Prometis Partners is an MMA Premium Associate Member and has been an MMA member company since September 2018. Visit online: www.prometispartners.com.