Intend to Sell Your Business? Here’s How (Part 3)
This is the final piece in a series on what you need to do if you’re the owner of a smaller company (arbitrary defined here as approximately $10MM or less in annual revenue) that you intend to sell at some point. The first article covered the most substantial and common problem, which is that you can’t expect to sell a business that has been built to depend upon you. The second article was about more specific operational concerns like those involving accounting or HR. As this series concludes, we’re going to cover the execution question: how can you actually go about selling your business, and what are some alternatives if you can’t?
Ways to Sell Your Company
Your Network: Customers, Vendors, and Competitors. The best option for ease of transaction and premium valuation is, in almost every case, to sell to someone who is already in your network. People naturally like to do business with those they already know and trust. So who do you know that might be interested in buying your company? Think primarily in these three categories: customers, vendors, and competitors.
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Customers are more likely to be buyers if you’re in B2B, specifically your best customers with whom you have the longest relationships and/or who constitute a substantial amount of your revenue. But in some cases this may apply in B2C as well, particularly if you’re in a specialty, service, or luxury goods industry and have a more personal relationship with successful, high-ticket customers.
Vendors are a probable buyer category regardless of your business type because most businesses have key vendor relationships of some sort. If you’re in retail, this will likely be your major wholesalers or distributors. In tech, it might be those who are servicing your core infrastructure. If you’re a manufacturer, then it may be a major raw materials supplier. Think about which vendors you’ve done business with for a long time and with whom you spend a lot of money. Acquiring your company could be a great move for them in vertical integration. An alternative spin is if you’re in a partnership-heavy business, then strategic partners are another potential buyer category.
Lastly is competitors. Much of 20th century management theory, largely shaped by the context of two world wars, was based on seeing business as war. The market was a battlefield, executives and managers were generals and other officers, employees were soldiers, and your competitors were an enemy you were trying to destroy. Thankfully, this ridiculous model is dying off and most of the people who propounded it are aging out of the workforce or otherwise fading into obscurity.
Modern business theories see the market more like a league sporting event. You can have healthy rivalries and play hard to win, but your goal isn’t to win at any cost or destroy your competitor; it’s to keep the game going (what Simon Sinek calls “the Infinite Game”). You need to view your competitors not as enemies, but rather as rival sports teams that you respect and with whom you should build friendly competitive relationships. And when it comes time to sell, they make fantastic potential buyers.
Note that these same three categories are also the most likely buyers in larger company M&A transactions, even in the tens of billions of dollars. So even if you’re scaling a startup with the intent of turning it into a large organization for an eventual liquidity event, you too should heavily prioritize this type of networking because customers, vendors, and competitors are your most likely buyers, as well.
Sell to Private Equity. This is going to be tough since most PE firms are not interested in smaller companies or legacy businesses. You’re going to have a really difficult time getting on anyone’s radar, though there are some firms that operate in the lower revenue ranges. The best option here would be to mine your broader network for referrals to people working in private equity and see what you can surface. You can also search for and directly approach firms that specialize in your specific revenue range, geography, and industry (if you can find any), but a cold pitch like that will most likely fall flat unless your ducks are really in a row, so be well prepared before attempting any cold outreach.
A Business Broker or Marketplace. Business brokers are kind of like real estate agents for people looking to buy or sell smaller companies. Basically they try to sell your business and take a commission on the sale, and will typically do some free valuation and diligence work as part of that package.
While this sounds like a good ‘set it and forget it option,’ it often doesn’t work out in practice. Many business brokers will ask for a retainer or try to lock you into an exclusive listing period, which is not unreasonable, but whether or not they succeed will depend almost entirely on how well networked they are in your specific field and geography (plus overall market conditions). Only consider listing with a business broker if you don’t have any other good options, or if you personally know and trust the broker.
There are also some marketplace websites that allow you to do your own listing without going through a human broker. They will cost you less, but also require more work on your part and won’t give you the benefit of a broker working their network. The most seamless marketplaces for doing this tend to be for pure e-commerce businesses. There are some that also do more legacy business types, but your odds of success with those are definitely lower.
Alternatively, you can also try listing on Craigslist, but this is really scraping the bottom of the barrel so don’t expect great results. But you could still find a diamond in the rough buyer, so it may be worth a try.
Sell to Your Employees. This is one of the most exciting developments in contemporary business continuity and is personally my favorite option (especially for those with legacy business models or a strong local community presence, or who put a high value on making sure the business will continue to provide jobs for their teams). Management buy-outs — where the leadership team or a select few executives buy the business — have been around a long time and are still a viable option if you have a larger or highly-specialized company. And Employee Stock Ownership Plans (ESOPs), Restricted Stock Unit grants, and options packages are common arrangements for minority employee ownership compensation in startups and public companies.
But what we’re talking about here is selling all (or most) of the company to your entire staff collectively, converting the business into employee-owned. In order for this to work effectively you need to have a long-tenured staff who know the business well, ideally with several key managers or executives in place who could take over operations. The company also needs to have sufficient assets to finance the transaction (meaning to pay you as the current owner on behalf of the employees who will become the new owners).
There are several forms that selling to your employees can take. For a business with a good amount of employees, say 100 or more, an ESOP that buys a controlling stake (up to 100%) of the company’s shares is a viable option. While tax-advantaged for both the seller and employee-buyers, these are ERISA-regulated retirement plans the same as a 401(k) so they have much higher complexity and compliance costs than other methods.
The second method is a Worker Cooperative, where the employees are given the option to buy into the business and then actively participate in its governance by electing Board members and/or approving major changes, much like common stockholders but in a much more democratic structure. This arrangement requires a high degree of co-worker trust and a sustained company culture in order to make sense, and while it can technically be implemented in any sized business, it’s best for much smaller organizations where pretty much everybody knows everyone else and has worked with them for a long time.
The third, arguably most-versatile method is an Employee Ownership Trust, popularized in the UK and recently becoming more common in the U.S. In this structure, a trust is set up that buys a controlling stake of the equity (up to 100%) and administers it perpetually for the benefit of the employees, including making profit distributions to employee-owners. Note this is not at all the same thing as a profit-sharing plan, which is a highly-regulated, discretionary, capped benefit plan that doesn’t convey any ownership.
Multiple organizations exist to provide guidance to business owners looking to sell their companies to their employees, including the National Center for Employee Ownership, Project Equity, and Ownership Works. There is also an emerging niche of boutique private equity firms like Teamshares that finance employee ownership transactions and take a controlling stake in the business, handing over a minority stake to employees right away and slowly transitioning to majority employee ownership over a period of years. Selling to this type of firm is a fantastic way to go about it given the hands-on financial and operational resources they can bring to the business during its transition, but it’s a very new model in private equity so there aren’t a lot of firms doing this yet and there’s heavy competition to sell to those few which are.
Employee ownership structures can also be explored by those who are looking to only sell a minority stake of the business to their employees today as a retention and engagement tool. Doing so will make it even easier if you ever decide to retire and want to sell off the rest, since you’ll already have the perfect buyer lined up in house.
What if none of these things will work in your situation? There’s a few other potential options to explore.
Get a partner (or partners). Usually this is something that happens when a business is in its early days, but you can also do it as a continuity measure. Bringing in partners who are looking to become actively-involving in running the business may allow you to step back and move into a more passive ownership role over time; just be clear up front if that’s what you’re intending to do. A partnership arrangement is heavily trust-based so you’ll want to only do it with people you know well, like a close friend or relative who has substantial business experience and brings some unique value to the table. One way to implement this if you don’t have a partner in mind today is to hire an employee as a key executive or General Manager and put them on a vesting schedule to slowly become a partner and take over the business over time. You can also do this if you currently have some long-tenured key employees that you trust.
Sell the business and become an employee. This isn’t a real alternative since it implies you already have someone who is willing to buy. Typically this sort of arrangement happens in services firms (like a medical practice, law firm, accounting firm, etc) that are acquired by a conglomerate. But for obvious reasons, it isn’t an attractive option for someone who wants to retire or leave the business to focus on something else. It’s more for people who want to offload the responsibilities of ownership and take that profit, but enjoy doing the underlying work and want to continue it.
Go the traditional route and IPO. Again, not a great plan for someone looking to leave the business quickly, but if your company is big enough (let’s say at least $5MM in revenue, but that’s an arbitrary minimum benchmark) you could take it public as an over the counter penny stock, meaning it won’t trade on a major exchange like the New York Stock Exchange or NASDAQ, but will still allow you to sell off most of the shares to the public. This comes with substantial regulatory baggage, and you will need to procure audited financials from a CPA firm and engage an investment bank to advise and underwrite the transaction, but it’s something to consider, particularly if you are willing to stick around for a while after going public.
Liquidate. Probably the worst option that will generate the least value, but if you absolutely want out of the business quickly and have exhausted every other avenue, you could sell off the assets and close it down.
It’s probably become abundantly clear throughout this series that selling your company, even a smaller one, is a major undertaking. If you don’t plan years ahead, you probably won’t be able to succeed. But if you’re a talented business operator and you’re running a reasonably successful enterprise, then you probably have a really good shot at making it happen, if you prepare.
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Previously published on NickGausling.com