Selling a business can be complicated and fraught with pitfalls. There are many points during the process where problems can arise and threaten to kill the deal.
Below are three big things that can go wrong during a sale process and what you can do to avoid them:
- No bids or insufficient offers
- Surprises during buyer due diligence
- No release of escrow and litigation
Each of these problems are described in more detail below, along with steps you can take to prevent them. As Ben Franklin said, “An ounce of prevention is worth a pound of cure.”
In this case, an ounce of prevention may save a deal from ruin or re-negotiation.
As noted in an earlier post, the sale process is divided into five stages. The thoroughness of the work that you do in each of these stages will directly impact the success of the overall deal.
Problem #1: No bids or insufficient offers
In between the Marketing and Bidding phase you may receive no bids at all, or the offers that do come in are simply insufficient.
This may be a result of poor marketing, an underperforming business, or limited targeting of the buyer universe.
An example of poor marketing includes a weak marketing packet that lacks proper organization, detail and professionalism.
Prospective buyers need good data to make a decision, and aside from their own knowledge of your business, the marketing packet is their source information.
Mess up the marketing packet and you mess up the bidding process.
If the business is underperforming, this can lead to no bids or low bids.
Buyers will have a good understanding of the industry and what to expect for business results. A good marketing packet may be able to compensate for the business’ shortcomings, but savvy buyers will see right through it.
As the saying goes, you can put lipstick on a pig, but it’s still a pig.
Limiting the list of prospective buyers can negatively impact bids as well.
You may have your reasons for including one potential buyer and excluding another but consider the effect on the bidding process.
You want quality buyers, but you don’t want to exclude a candidate for the wrong reasons.
How to prevent the problem:
- Create an excellent marketing packet
- Aggressively work to improve business performance
- Use the power of the free market and include multiple bidders
Do it yourself, or get a broker, but make sure the marketing packet is first-rate. As they say, you only get one chance to make a first impression.
If you plan on selling the business, get started early (sometimes years in advance) and work on creating an organization that looks as great on paper as it is in the real world.
Numbers matter. Make them work for you not against.
When banks compete, you win. When other buyers compete, you win as well.
Work to create a quality list of potential buyers. Make sure you have enough so they compete and drive up the price.
Problem #2: Surprises during buyer due diligence
In between bidding and closing the buyer will conduct due diligence on your business. This is basically an investigation into the business to verify numbers and business operations.
During this phase, the buyer is lifting the lid on the business, and sometimes surprises pop out.
Think of the jack in the box – Surprise! You’ve got a huge inventory valuation problem!
As due diligence takes place, buyers may back out.
They may learn something they claim they didn’t know before, and as a result it will affect the value.
One of two things happens in this situation: 1) The deal dies, or 2) there is a re-negotiation of the terms.
In a re-negotiation, the deal becomes less favorable to the seller and either falls apart or continues under the new terms.
How to prevent the problem:
- Involve your outside CPAs to make an internal control review
- Conduct a due diligence audit prior to marketing the business
Internal controls are those key processes and procedures that ensure reliable financial reporting.
The best time to fix a leaky roof (or leaky internal controls) is when the sun is shining. Get the CPAs in the house and start fixing that roof.
Due diligence is the buyer doing their homework. Hire a firm (outside CPAs or consultants) to conduct a due diligence audit of your own.
Do your own homework first before a buyer has a chance to find problems or surprises.
Problem #3: No release of escrow and litigation
An escrow holdback is a common requirement in purchase agreements.
Money is held back from the seller at closing and put into an account for a period of time – typically 6 to 36 months.
The escrow serves as an insurance policy for the buyer to cover any expenses as a result of misrepresentations or indemnification violations by the buyer.
If there are no problems post-closing, the money is returned to the buyer at the end of the holdback period.
However, if issues arise after closing, the escrow may not be released to the buyer.
This holdback can be a significant amount of money – typically 5-10% of the purchase price – and can run into the millions of dollars.
With this much money at stake, lawsuits can happen. This creates more costs and delays the process of getting the money back.
How to prevent the problem
- Deal with known issues before closing
- Watch the language in the purchase agreement
You may know of problems but hope they don’t get found.
Look in the mirror, and deal with any outstanding issues you know about (tax problems, un-reported liabilities, over-stated assets, etc.).
Do it now, before it threatens to kill a deal later.
The language in the purchase agreement creates a binding contract between you and the buyer that you will need to honor.
Make sure you have a crackerjack attorney that reviews the agreement in detail, and fights for every material item to be in your favor.
Words matter. Make sure they matter for you.
P.S. Whether you’re planning a transaction next year or ten years from now, we’re here to help you build a business that’s ready when opportunity comes. Learn more about my 1:1 financial coaching packages here.
