This article explores the six types of potential buyers for business owners along with the benefits and rationale for each type of buyer.
Who Will Buy My Business?
When business owners start thinking about selling their company, they often have many questions. Foremost amongst those questions is, “Who Will Buy My Business?” To help answer that question, in this article we will explore the six types of potential buyers for businesses along with the benefits and rationale for each type of buyer.
1. Strategic Buyer Benefit: Maximum Value
A strategic buyer is another company in the same or an adjacent industry as the company being sold. The strategic buyer could be a competitor, supplier, or customer. Strategic buyers acquire a companies that complement or expand their current business. Their primary motivation for making acquisitions is growth through expanding their product line, customer base, or geographical presence. They also seek to take advantage of synergies that can be realized when the companies are combined.
Sellers should give serious consideration to selling to a strategic buyer if they are trying to maximize the value they receive for the business. Since strategic buyers can realize synergies post-acquisition, they may be willing to pay a premium to the theoretical value of the company. This premium often reflects a portion of the added value they expect to generate from integrating the acquired business. However, maximum value is usually only achieved if the seller uses an investment banker such as Waypoint Private Capital to sell their business through an M&A auction process.
Strategic buyers will typically, but not always, want to acquire 100% of the company they are buying.
2. Financial Buyer Maximum Value and Sell Twice
Financial buyers, such as private equity firms, family offices, and independent sponsors, are currently sitting on a war chest of over $3 trillion dollars of capital they need to invest in privately held businesses. They are very experienced at evaluating and buying companies. Financial buyers seek businesses they believe have growth potential or a clear path to profit improvement.
There are numerous reasons a business owner may want to sell to a financial buyer. First, they will place a value on the company comparable to that of strategic buyers, so business owners are maximizing their value. Second, when selling to a financial buyer, the business owner will usually be asked to retain (or roll-over) 20% to 30% of their equity in the company. This is a great option for business owners who want to take some chips off the table and reduce the risk of having the majority of their net worth tied up in one investment (their company). They will usually retain their position as the leader of the company and will focus on growing it with a strong financial partner by their side.
A major benefit of selling to a financial buyer is that they will usually sell the company again within three to seven years after achieving significant growth and profitability improvement. When they sell the business the original business owner can sell the remainder of their equity in the company. This second sale often yields a higher payout to the original business owner than their original sale to the financial buyer, resulting in a much higher overall value to the seller than any of the other options discussed here.
3. Management Buyout (MBO) Maximum Continuity
In a Management Buyout (MBO), the company's existing management team purchases the business. For owners whose primary goal in the sale is the welfare and continuity of their staff, an MBO is a great alternative that can offer peace of mind to the seller.
One mistake often made by sellers is to write off the idea of a management buyout option because they assume the management team doesn’t have the money to buy the company. Owners shouldn’t make that faulty assumption. For small businesses that sell for $5 million or less, an SBA loan can be used to finance the majority of the acquisition. For larger transactions, the owner should consider structuring a fair sale with the management team, then encouraging them to seek outside financing to complete the acquisition. Waypoint Private Capital can help business owners and management teams structure the acquisition, then arrange for financing from financial buyers and lenders. If management has a structured acquisition they take to the market seeking financing, they will often end up receiving more equity in the company than they would have if the seller sold to a financial buyer without the management team leading the acquisition. Further, the existing team, who is familiar with the company's operations, culture, and strategy, can ensure a smooth transition and consistent direction for the company after the sale is complete.
4. Employee Stock Ownership Plan (ESOP) Maximum Employee Welfare and Continuity But With Added Seller Risk
While selling to an ESOP usually doesn’t result in the maximum sale price for the seller, it can result in a fair sale price (as determined by a third-party valuation firm) while selling the company to its employees. Because this type of sale must follow specific ERISA rules, it will be a bit slower, require quite a few advisors, and has significant initial transaction fees and annual valuation and trustee fees after the sale. This option also has more risk for the selling business owner as it is common for the owner to provide seller financing in these transactions and guarantee the bank debt used in the transaction.
ESOP transactions typically have tax advantages to the seller because installment sales push a portion of the capital gains taxes into the future and offers significant tax savings to the company after the sale. In addition to maximizing employee welfare, ESOP transactions also maximize post-sale continuity because the company name, management team, and employees stay intact.
5. Sale or Gift to a Family Member Preserving Legacy and Continuity
Selling or gifting a business to a family member ensures the legacy created by the founder remains within the family. For many business owners, this is an emotional decision more than a financial decision. It offers continuity, and maintains business culture, and assures that the business remains in trusted hands. However, this preservation of legacy and continuity comes at a price, as valuation is typically much lower in a sale to a family member. If selling or gifting the company to a family member, the owner will need to work with a financial advisor, estate attorney, and a valuation advisor to make sure that everything is structured in the most tax advantageous manner for both the seller and the family member. Then the sale or gift can be completed in a single step or gradually over time.
6. Non-Auctioned Strategic Sale Direct and "Simple"
Instead of working with an investment banker to run an M&A sell-side process, a business owner might opt for a direct, non-auctioned sale to a specific strategic buyer. This method involves a one-on-one negotiation with a strategic buyer who has approached the business owner about buying their company.
Initial negotiations might be fast and simple, and the seller might “save” some money on professional fees, but those are the only advantages of selling to a strategic buyer in a non-auctioned sale.
However, by pursuing this type of sale the seller loses all negotiating power gained through competition and information asymmetry that are typical in an auctioned sale to a strategic buyer. Any money they save on professional fees often pales in comparison to the premium valuation they could have obtained by working with experienced investment bankers such as Waypoint Private Capital to create a market for the company and run an M&A auction process that would maximize the value of the business. Further, the sale of a company is an extremely complex transaction that most business owners simply don’t have the experience to properly negotiate on their own. Even if they work with experienced M&A attorneys, the attorneys are often brought in too late and don’t have the financial capabilities and insights of investment bankers.
We have tremendous respect for entrepreneurs and business owners who have built good businesses, but the stubbornness and independence that were key characteristics that helped them succeed can be a detriment when selling their company if it leads them to tackle what is likely the largest financial transaction of their lives on their own. While a direct sale to a strategic buyer is a common method for selling a company, it’s only real benefit is the initial simplicity of the negotiations.
Conclusion
There are six answers to the question, “Who Will Buy My Business?” Choosing which type of buyers to pursue should depend on the goals the selling business owner is trying to achieve. While many owners want to maximize valuation, others want to reduce risk while continuing to grow the company, and others care more about continuity, employee welfare, and legacy. And while the allure of independently navigating the sale may be tempting, the expertise of an investment banker can prove invaluable.
While we briefly explored the six types of buyers and the benefits of pursuing those buyers, each option warrants further exploration. The professionals at Waypoint Private Capital have significant experience working with business owners to help them achieve their goals in a sale process. We are always happy to talk to business owners to educate them about selling their business and help them explore their options.
About Waypoint Private Capital
Waypoint Private Capital is an investment banking firm that educates and advises middle-market, privately held companies through critical stages of their business' life cycle. Waypoint helps business owners and entrepreneurs sell companies, buy companies, raise equity and debt capital for growth and recapitalization, and plan for a successful exit from their business.
To learn more visit waypointprivatecapital.com or call us at 608.515.3354 or 918.633.2647 and speak with a Waypoint Private Capital expert.
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