Is your business truly “sellable”? Overcoming three major stumbling blocks

In a recent episode of The Story in Your Head, podcast hosts Ron Macklin and Deb Dendy invited IBG Fox & Fin’s managing partner, Bob Latham, to identify and address three common obstacles to a successful business sale:

• extreme customer concentration;
• poor financial records; and
• over-dependence on the owner.

This article is an abridged version of the full interview, “Why Most Businesses Fail to Sell,” which you can hear in full at the MacklinConnection website.

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Host: Welcome to “The Story in Your Head.” We are joined by Bob Latham to uncover the hidden factors that turn a thriving business into an unsellable one. Bob, what makes a business unsellable? What happens when it’s time to sell and no one wants to buy it. What’s the first red flag you see?

Bob Latham: One of the biggest red flags is extreme customer concentration. If 50 to 60 percent of a company’s business comes from one customer, and that customer leaves, the company’s going to have a very hard time surviving, much less growing out of that.

You really want to drive that concentration down to where, if a particular customer leaves, ouch, but you can get over it. It’s a stubbing-your-knee versus breaking-a-leg kind of thing. You don’t want your biggest customer to account for more than about 15% of your sales – 20% absolute maximum. To have a well-balanced customer base, you’d really like it to be 10 to 15%.

What else can harm the marketability of a profitable business?

Another common problem is poor books and records. The financials are not in order, and the seller can’t produce a given report in a timely fashion and in keeping with accounting standards. Surprisingly, even large businesses can have really bad books and records, and it’s shocking that they got where they are with the records that we sometimes see.

From the buyer’s standpoint, that makes it very hard to verify the company’s financial performance. If they can’t trust what the earnings are, how do they value the company?

As a practical matter, most buyers understand that a business with less than, say, $20 million in sales is probably doing some things that are expedient. But if the financials are relatively clean, accurate, understandable, repeatable, and well documented, that kind of bookkeeping will probably be okay. However, in many cases, that’s not the case.

So, get your books and records in order; make sure that an accountant has looked at them and you know they’re consistent and accurate.

What is it about a business’s culture or leadership or their style that can raise a red flag or affect the value of the company?

That depends on who the buyer is and what they plan to do with the company.

If the company is big enough to serve as a platform for a private equity group, cultural issues probably won’t be very important. As long as the company can keep cranking out earnings, the buyer will be happy.

Culture is much more important for a strategic buyer, someone that’s already in that business in one form or fashion. Maybe they want to acquire the company because it covers a geographic area where the buyer wants to expand. Or because the company has product lines or services that mesh well with the buyer’s and can be funneled to the buyer’s existing customer base, or vice versa. In those cases, there will be a lot of interaction between the entities, and it’s important that the cultures fit.

In the near term, there’s really not much a buyer can do to change the culture of the acquired business. Even if the culture is good, it just might not mesh with the buyer. So that’s something the buyer has to evaluate.

How does the owner’s leadership style come into play?

In most cases, the owner’s role in the business is much more important than cultural issues. Leadership style directly affects the company’s value – and in some cases – its viability in the owner’s absence.

If the owner can step out, go on vacation for a week or two, and the wheels don’t fall off the wagon – he’s mainly driving the direction of the business, setting policies, setting goals – that’s okay.

But if the owner has to have his fingers in everything – he’s the key contact with the primary customers, or he’s doing everything on the operations side – his importance to the company will kill its value.

For most businesses, it’s absolutely crucial that they have a solid management team that is used to having and exercising power and decision-making ability, being held accountable, and are free to operate without the owner looking over their shoulder at all times.

The presence of a proven, retainable management team gives the buyer more confidence that the company will continue to operate profitably in the owner’s absence.

If it doesn’t appear that a company is sellable, what do you do to really make it valuable to a buyer?

Before I get into that, I want to mention that it’s not uncommon for us to get involved with a potential seller three or four years in advance of when they think they’re going to sell. We like that timeframe because we can help them shape the company into one that’s ready to sell when they themselves are ready.

As my IBG Business colleague Gary Papay (Eastern/Mid-Atlantic) puts it so well, “We help business owners exit their businesses at the appropriate time for maximum value.”

For a successful sale, three things have to be right:

• The seller has to be ready.
• The business has to be ready.
• The market has to be ready.

Seller readiness can be the most important of the three. Many times, their business is their baby, it’s their identity. They’ve been building and running it for maybe decades, and they need to come to grips with, and be at peace with, what life will be like after they’re no longer a business owner.

Then we can get the business ready. One of the things we at IBG Business provide that’s a little bit different from a lot of our competitors is our “marketability assessment.” We dig in reasonably deep on a company, especially in their financials, and we really try to understand their market and how a buyer is going to view their business. Then we report back to the seller – “You look good over here, but you’re a little weak here” – and we will suggest a game plan. We’re not implementers, we’re not consultants, but we can tell them where their weak spots are, where they need to improve, and what their goals ought to be.

Then, when the market’s ready, when those three things come together, that’s a good time to sell.

In a nutshell, we don’t want to go to market with a company that’s not ready to sell. For the seller and for us, it’s a very demanding process, to gather all the information that we need to prepare things properly, and no one wants to go through that if the three readiness factors aren’t in place and we don’t really believe we can find the best-fit buyer at the company’s best value.

Bob Latham is the managing partner of IBG Fox & Fin and IBG Business’s Texas/Gulf Coast office. He offers extensive M&A experience in the purchase and sale of businesses in several major sectors – manufacturing, construction, maintenance, and distribution – and in logistics and other B2B services. Bob has over 30 years of hands-on experience and a broad range of skills that benefit both buyers and sellers with which he has worked.