7 things to do before signing a Letter of Intent

You may be years away from selling your business, but it’s never too early to understand what the process involves.

If you have ever promised your child a treat in return for good behaviour, you know all about negotiating leverage. When selling an attractive business, you also have leverage—but only up to the point where you sign a letter of intent (LOI), which almost always includes a ‘no shop’ clause requiring you to terminate discussions with other potential buyers while your newfound ‘fiancé’ does due diligence.

Business CompanionAfter you sign the LOI, however, the balance of power in the negotiation swings heavily in favour of the buyer, who can then take their time investigating your company.  At the same time, with each passing day, you will likely become more psychologically committed to selling your business. Savvy buyers know this and can drag out diligence for months, coming up with things that justify lowering their offer price or demanding better terms.

With your leverage diminished and other suitors sidelined, you are then left with the unattractive options of either accepting the inferior terms or walking away.

Here are seven things you can do—before you even put your business up for sale, and before signing an LOI—to minimize the chances of your deal dragging on for months and becoming watered down:

1. Make sure your customer contracts have ‘successor’ clauses.
Have customers sign long-term, standardized contracts, including a clause stating that the obligations of the contract survive any change in company ownership.

2. Nurture and prepare a group of 10 to 15 ‘reference-able’ customers.
Acquirers will want to ask your customers why they do business with you and not your competitors. Before you sign the LOI, cultivate a group of customers to act as references.

3. Ensure your management team is all on the same page.
During due diligence, acquirers will want to interview your managers without you in the room. They want to find out if everyone in your company is pulling in the same direction.

4. Consider getting audited financials.
An acquirer will have more confidence in your numbers and will perceive less risk if your books are audited by a recognised accounting firm.

5. Disclose the risks up front.
Every company has some risk factors. Disclose any legal or accounting hiccups before you sign the LOI.

6. Negotiate down the due diligence period.
Most acquirers will ask for a period of 60 or 90 days to complete their due diligence. You may be able to negotiate this down to 45 days—perhaps even 30 with some financial buyers.  If nothing else, you’ll alert the acquirer to the fact that you’re not willing to see the diligence drag out past the agreed-to close date.

7. Make it clear there are others at the table.
Explain that, while you think the acquirer’s offer is the strongest and you intend to honour the ‘no shop’ agreement, there are other interested parties at the table.

If you take all seven of these steps, you will protect the value of your business as the balance of power in the negotiations to sell your company swings from you to the buyer.

Business Exit Companion

Is Your Business You-Proof?

Whether you’re planning to sell your company sometime soon or sometime in the future; now is the time to ensure that your business isn’t all about you.

From the latest Value Builder Score* research involving 2300 companies from around the globe, here are two key factors that are linked to the probability of getting an offer for your business when it’s time to sell.

 

#1: You’re almost twice as likely to get an offer if your business can survive the “hit-by-a-bus” test.
If you were out of action for three months and unable to work, would your business keep running smoothly? The more your staff and customers need you, the less valuable your company will be to a potential acquirer. One good way to start making your business more independent is to begin spending less time at the office.  Start by not working evenings or weekends, and don’t reply if employees call. Once they get the picture, the best ones will start making more decisions independently. The shift will also expose your weakest employees, the ones that need training or that need to find another job. As for you, it might come as a shock to find out how much your business has become such an essential part of you; but if you’re going to sell your business one day, you need to look at it as an inanimate economic engine, not as something that defines who you are.

#2: Companies with a management team (as opposed to a sole manager) are getting offers at almost twice the rate. If you don’t have a management team, hiring a 2iC is a good first move. A second-in-command can help you balance the demands of running your company and advance your targeted exit time.


Here’s a four-step plan for hiring a 2iC, thanks to advice from Silicon-Valley-based Bob Sutton, author of Good Boss, Bad Boss.  

  1. Identify someone internally. “The research is clear,” says Sutton. “Unless things are totally screwed up, internal candidates have a strong tendency to outperform external leaders.”
  2. Give your 2iC prospect(s) a special project, one that allows them to demonstrate their leadership skills to you and the rest of your team. If your candidate or one of your candidates excels, it will be clear to your team why he or she was selected.
  3. Communicate your choice. If you pick a 2iC from an internal pool, explain your choice to the rest of your team. At the same time, wrap your arms around those you passed over and make it clear how much you value their contribution.
  4. Shift from manager to coach. “The transition from manager to coach is a gradual evolution where the goal is to ask more questions, spend more time listening, and spend less time talking and directing,” says Sutton.

*The Value Builder Assessment is a cloud-based software tool that allows a business owner to assess the “value” of their company. The researchers at The Value Builder Score analyse the data from 2300 companies in a variety of countries to understand trends in the business market, with a special focus on the liquidity of privately held businesses.

You can take your own Value Builder assessment now!

Business Exit Companion

8 Questions You’ll Be Asked When Selling Your Business

One of the most intimidating aspects of selling your business can be facing the barrage of questions during the various management presentations you’ll be doing for potential acquirers. Be prepared to be grilled on all facets of your operations.  Of course every meeting will be different, but here are some questions you can expect to be asked when you’re in the hot seat:

1. Why do you want to sell your business?

It’s a slippery question because if your business truly does have a bright future—and you want the buyer to believe that’s the case—the obvious question is:  ‘Why would do want to sell it, and why do you want to sell it now?’

2. What is your cost per new customer acquired?

The potential acquirer wants to find out if you have a predictable, economical and scalable formula for finding new customers.

3. What is your market penetration rate?

The acquirer, with an eye to future growth, is trying to understand how big the potential market is for your product or service and what part of the field remains to be harvested.

4. Who are the critical members of your team?

The acquirer wants to understand the breadth and depth of your team and determine specifically which members need to be motivated and retained post-purchase.

5. Who buys what you sell?

Strategic buyers will be searching for any possible synergies between what you sell and what they sell. The more you know about your customer demographics, the better the buyer will be able to assess the strategic fit. If your customers are other businesses, a buyer will want to know what functional role (e.g. training manager, VP of sales and marketing) buys your product or service.

6. How do you make what you sell?

This question is asked in an effort to size up the uniqueness of your formula for creating your product or service. Potential buyers want to know if you have any proprietary systems that would be hard for a competitor to replicate. For various reasons, they will also want to understand if the creation of your product or service is dependent on any one person.

7. What makes your product truly unique?

A buyer is trying to understand how big the moat is around your business and what kind of protection it offers from competitors who may decide to compete with you in the future. What have you done to safeguard yourself against the competition?

8. Can you describe your back-office setup?

Most buyers will try to understand how easily they can integrate your back office into their operation. They’ll want to know what bookkeeping and billing software you use, how customers pay, and how you pay suppliers.

Of course this is not an exhaustive list, but it’s a good start when you’re preparing to represent your company to your potential buyers.

Business Exit Companion

How to make your company irresistible to potential buyers

The Hierarchy of Recurring Revenue

 

One of the biggest factors in determining the value of your company is the extent to which an acquirer can see where your sales will come from in the future. If you’re in a business that starts from scratch each month, the value of your company will be lower than if you can demonstrate the source or sources of your future revenue.  A recurring revenue stream acts like a powerful pair of binoculars for you – and your potential acquirer – to see months or years into the future; creating an annuity stream is the best way to increase the desirability and value of your company.

The surer your future revenue is, the higher the value the market will place on your business. Here is the hierarchy of recurring revenue presented from least to most valuable in the eyes of an acquirer.

No. 6: Consumables (e.g. shampoo, toothpaste)

These are disposable items that customers purchase regularly, but they have no particular motivation to repurchase from one seller or to be brand loyal.

No. 5: Sunk-money consumables (e.g. razor blades) 

This is where the customer first makes an investment in a platform. For example, once you buy a razor you have a vested interest in buying compatible blades.

No. 4: Renewable subscriptions (e.g. magazines)

Typically, subscriptions are paid for in advance, creating a positive cash-flow cycle.

No. 3: Sunk-money renewable subscriptions (e.g. the Bloomberg Terminal)

Traders and money managers swear by their Bloomberg Terminal; and they have to first buy or lease the terminal in order to subscribe to Bloomberg’s financial information.

No. 2: Automatic-renewal subscriptions (e.g. document storage)

When you store documents with Iron Mountain, you are automatically charged a fee each month as long as you continue to use the service.

No. 1: Contracts (e.g. wireless phones)

As much as we may despise being tied to them, wireless companies have mastered the art of recurring revenue. Many give customers free phones if they lock into a two or three-year contract.

When you put your business up for sale, you’re selling the future, not just the present. So if you don’t have a recurring revenue stream, consider how best to create one, given your type of business. It will increase the predictability of your revenue, the value of your business, and the interest of potential acquirers as they look to the future.