BizQuest's Business for Sale Blog

Why Would Anyone Sell a Good Business?

This question was posed to me recently by a radio show host. It was interesting because he couldn’t get his arms around the idea that anyone would ever sell a good business. It’s probably why he will never own one.

Kidding aside, it is a valid question. There are lots of reasons. Personally, I like the morbid ones: death, divorce, health issues, and not because I wish anyone harm. Rather, I think those are better motivators to get a deal done.

The one answer sellers give which many people have difficult with is “other business interests”. This reply naturally begs the same question that the radio show host asked me.
It is entirely possible, and common, that some people just get bored with their businesses.

Haven’t you ever been bored with your job? Perhaps a better question would be: “Have you ever had a job you loved?”

I have found that seller’s boredom is usually a result of them putting the business on cruise control for too long. They have lost their passion. They no longer look at their businesses and try to find ways to get bigger, better and faster everyday.

It is certainly a situation that a buyer can use to their advantage.

While you certainly want to dig in to the seller’s reasons for selling, don’t over-analyze the answer. It is far more important for you to focus upon whether or not there is a compelling reason for the sale that could impact the business after you buy it.

Specifically, are there any looming threats such as: pending legislation that could alter the business or, one large customer who will no longer be buying? Is a major competitor moving into the area, or local demographics that can alter the business significantly?

Of course there are many other possible scenarios which you need to investigate. Or, it may simply be the time has come to sell a business.

Skepticism, I believe, is one of the two most important characteristics that a good business buyer possesses. Use it effectively and not to paralyze you from buying a business, but rather to force you to conduct a flawless investigation and analysis.

The other characteristic is perseverance. Navigating your way through the business-buying process will have its ups and downs. It takes time and above all, it takes “know-how”. However, I can promise you that once you get to the finish line, and you own a good business that you can grow, all the nonsense you may have dealt with along the way will be a distant memory.

Creative Deal Structures When Buying a Business

A common and reasonable concern for any business buyer is to be certain that the business is sustainable after you take over the company.

Of course, it would be nice to buy a business and have the seller provide you with a bulletproof guarantee that you will be successful. Unfortunately, that is simply not reality and probably one of the big areas that separates entrepreneurs from ‘wannabe’ business owners.

In some cases, it does make sense (and is necessary) to institute a performance-based deal structures that will provide you with an added measure of comfort as well as having the seller at risk in the deal after the transaction closes.

Earnouts are a good mechanism to accomplish that (along with seller financing which is something I believe is a must for any deal) however, the nature of the business must justify an earnout. If not, it will be a tough sale to convince to current owner to structure the transaction based upon future performance when they are not even playing a role in the company.

Think about it – would you be willing to bet on someone you don’t know well to takeover your business and succeed?

Earnouts make the most sense when some the following conditions exist in a business:

• There is a high degree of customer concentration (a disproportionate amount of revenue/profit is generated by a very limited number of clients)
• The business has experience a few years of continued decline and you want to be certain the trend can be reversed.
• The most recent period has been exceptionally profitable and you need protection to know it is sustainable.
• The company has recently won a new contract or has implemented new initiatives that will only generate sales after you take over the company.
• There are key supplier contracts that may soon expire and the business needs these to renew in order to operate at prior levels.
• The seller is the business in the eyes of the clients/suppliers and has long-term personal relationships or specific skills/licenses that have been directly attributable to the success of the business. On this note, if you are really concerned that you will not be able to take over the seller’s role, then either hire someone who can, or perhaps you should not be acquiring that particular business.

From a buyer’s perspective, the timeline for measuring an earnout is a double-edged sword. You want it to be long enough to be accurately measured, while at the same time, it should not be so long that the seller will be the beneficiary of your hard work.

Conversely, a seller cannot be expected to be on the hook to perpetuity in the deal.

The key to an earnout is to:

• Specifically identify the item that needs to be measured
• Keep the formula simple

In my experience, earnouts in general can be hard to measure and so by tying them to revenue for example rather than gross margin percentages, can greatly simplify the determination.

Be sure you and the seller agree in writing on how the earnout will be calculated and arbitrated in the event there is a dispute. The last thing you want is to incur expensive legal or accounting fees. The suggestion is to identify in advance, a neutral-third party (ideally, an accountant or accounting firm) that will render the final judgment in the event you and the seller do not agree on the number.

Lastly, although earnouts can be a great way to structure a deal, they have their own challenges so make sure they are warranted and the measurement kept simple.

Some Business Buyers See Problems.....Some See Opportunities

I just returned from a weekend in Orlando, Florida with my wife and youngest of our four children, our six-year old son Jake. He is a Sponge Bob Square Pants fanatic and he wanted to stay at the new Nick Hotel - a Nickelodeon Studios themed property.

It is operated by Holiday Inn. It’s a tremendous facility – huge, with a ton of activities (that was a good thing because two days of torrential rains got us drenched at our short-lived excursions to Universal Studios theme park).

Imagine that you were a prospective buyer looking purchase this hotel and experienced the following (which we did):

The check-in was incredibly slow, throughout the hotel there were staff members not uniformly dressed, I came across at least five employees using their own cell phones while manning work stations, signage was poor for the various venues, the layout of the buildings was inconvenient, guest service stations had staff members who were poorly informed and couldn’t answer inquiries or provided conflicting information, at least a dozen games were broken in the arcade, the parking was unbearable, transportation to other venues was nowhere to be found, the restaurant lineups were completely disorganized, it took over an hour to pick up character photos (what we do for our kids) and the phone system was abysmal.

Room rate: $356.00 per night 

You could easily draw the opinion that the place is a disaster.

The facility is new, and Nickelodeon has been promoting it non-stop, which is clearly why the place was full. There’s no doubt that over time, vacancy will diminish given these problems.

On the flip side, the hotel was packed – no availability whatsoever. We had an absolute blast (my son went crazy) and there’s no doubt that so did all the other kids. Of course, that is all that matters, although I am certain plenty of parents were not very impressed.

Compare this to what you experience at a Disney property. They never miss a trick. Their parks are spotless, the staff superbly trained and almost brainwashed friendly, their systems, transportation, and guest flow at every venue is beyond reproach. Even the garbage cans are themed throughout their parks and hotels to match the characters (not to mention the toilet paper has Mickey’s famous ears printed on it).

So here’s the question: If you were a buyer looking to acquire The Nick Hotel, would you pursue the business given all of the issues identified?

Any buyer who looks to find only problems in a business would run from the deal.

However, the savvy business buyer would see this as a massive opportunity. While there are issues, they’re all correctable. Signage can be improved, staff members better trained, systems, policies and procedures can be easily implemented to remedy every item identified as problematic. 

The educated, well-informed, and committed business buyer determines that despite the issues, the place was full, and with some focus, this is a good business that could easily become great. All it needs is a good Disneyesque make-over. The foundation is there. It has a great brand. The location is solid.

This scenario happens every day. You are going to come across businesses that are less than perfect. Your entire success hinges upon your ability to recognize the one that you can build upon and improve. The goal behind buying an existing business is to have access to a platform that you can grow.

If you focus on all that is wrong, you can find fault with every business on the market and you can easily convince yourself to never buy any of them. Don’t take that approach.

There’s no such thing as a perfect business. If you only pay attention to the landmines, you will never find the goldmines.