Q. Why should I buy a company?
Proven Concept - Buying an established company is less risky- as a buyer you already know how the process or concept works. Financing the purchase is often easier than securing funding for a start-up company for that very reason – the company has a track record. A bank will be able to look at the historical results for the company, not just rely on projections.
Brand – You’re buying a brand name; therefore, the on-going benefits of any marketing or networking that the prior owner has done will transfer to you. When you have an established name in the company community, it’s easier to place cold calls and attract new customers than it is with an unproven start-up. This is intangible benefit that’s difficult to put a price on.
Relationships - With the purchase of an existing company, you will also be buying an existing customer base and vendor base that took years to build. It's very common for the seller to stay on and transition with the company for a short time to transfer those relationships to the buyer.
Focus - When you buy a company, you can start working immediately and focus on improving and growing the company instantly. The seller has already laid the foundation and taken care of the time-consuming, tedious start up work. Starting a new company means spending a lot of time and money on basic items like computers, telephones, furniture and policies that don't directly generate cash flow.
People - In an acquisition, one of the most valuable and important assets you're buying is the people. It took the seller time to find those employees, develop them and assimilate them into the company culture. With the right team in place, just about anything is possible and you will have an easier time implementing growth strategies. Plus, with trained people in place you will have more liberty to take vacation, spend time with family, or work on other company ventures. When start-up owners and independent contractors go on vacation, the company goes too.
Cash Flow - Typically, a sale is structured so you can cover the debt service, take a reasonable salary, and have some left over to take the company to the next level. Start up owners, on the other hand, often "starve" at first. Some experts say start-ups aren't expected to make money for the first three years.
Risk - Even with all these advantages, some entrepreneurs believe it is cheaper, and therefore less risky, to start a company than to buy one. But risk is relative. A buyer may pay $1 million, for example, for an established company with strong cash flows of approximately $200,000 to $300,000. A lending institution funds the transaction because historical revenues show the cash flow can support the purchase price. For many people, however, that is far less risky than taking out a $300,000 loan with an unproven concept and projections that may or may not be realised.
Q. What tax will I pay when selling my company?
In the US there are far more considerations involved in determining the effective tax rate on the sale of a business. To start with, in the US some companies are structured as “tax pass through entities” (typically, limited liability companies, partnerships, and S-corporations) while others remain subject to the double taxation standard (for example, the standard corporation). For a tax pass through entity, the taxes on the owners can range from 37% of the gain down to 23.8% of the total purchase price a spread of up to 13.2%. With a double taxation structure, the high end requires the company to first pay tax on any gains it makes at 20% and then for the remaining 80% to be taxed at the owners’ personal dividend rates which can be as high as 23.8% (which amounts to 19% of the total) for a combined rate of up to 39%. On the low end, these can also be structured with a 23.8% tax rate. This of course only accounts for federal taxes. Many states will charge a single-digit tax rate, with an average rate being 6%. This 6% provided a tax shield on the federal taxes until the passage of the new tax law last December which eliminates this shield. Key factors in determining this tax rate include:
- Is the business a tax pass-through entity or are the owner’s profits subject to double taxation
- Is the transaction structured as a stock (or membership interest) sale or as an asset sale
- If structured as a stock (or membership interest) sale, has the buyer requested a tax election be made
- In what state will the owners be subject to state income taxes or, if applicable, state capital gains taxes
- What is the company’s tax basis in its assets
- What tax basis does each owner have in his or her ownership interest
- How will the buyer and seller agree to allocate the purchase price between the company’s tangible assets and its intangible assets
- Has the company been overly aggressive with its depreciation in the past
Q. How long does it take to sell a company?
There is no single answer. Obviously, the more demand for a type of company coupled with a lower than average asking price will typically speed up the process and the reverse is true, low demand and high asking price will dramatically slow the process.
According to various studies, it averages 6 to 9 months to actually be speaking with a competent, interested buyer prospect and another 6 to 9 months to have the transaction close, so most professionals would answer it takes, on average, 12 to 18 months. It certainly can happen more quickly, but that is not the norm. It can also take much longer or not happen at all, depending on such factors as:
• Vendor's commitment to the sale
• Asking price
• How you present the company
Choosing the right person or company to sell your company is vitally important.
Q. Why would I need a company valuation?
A company valuation is important for many reasons; the most common is to determine the fair market value of a company.
If a company is priced too high, it will not attract any buyer interest and is highly unlikely to sell at all. If a company is priced too low, it may well attract considerable interest and offers, but the owner may leave hundreds, thousand and sometimes millions of dollars on the table.
According to a recent study, 4 out of 5 companies that actually sell do, in fact, leave 30% to 70% of their value on the table.
Warren Buffet, investor and philanthropist is widely regarded as one of the most successful investors in the world ... he is often quoted as saying "if a seller doesn't know the value of their company, it is both legal and ethical to steal it for less".
Clearly, a professional, independent valuation is essential to know the truth of a company' value, and for more reasons than just its pending sale.
Q. What will buyers look for in your company?
A diligent buyer, once they have decided whether they have a serious interest in your company, will seek to substantiate and confirm every phase of your company through a thorough examination known in the industry as due diligence. This may include a review of your marketing and operations, product lines and services mix, management structure, customer and market base, and compatibility of operations.
Purchasers will assess your financial condition including financial statements, tax returns, depreciation schedules and payroll records. They will want to see your company's earnings (profit before taxes) for the past three to five years, if available.
Acquirers will review the assets of your company - facilities, equipment/vehicles, inventories and leasehold improvements.
They will want to know about employment contracts. If necessary for the company, also about your patents, licenses, permits and franchise agreements.
Having professional help in preparing for the sale of the company is so important in dramatically increasing the likelihood of surviving due diligence, closing the transaction, and getting the most value the market will support.