As a business owner, you should start planning your business exit at least five years before you plan to transition. That schedule gives you enough time to increase the value of your business, if needed, before you exit.
Sometimes that timeline doesn't work for your specific needs.
Planning is vital whenever you start, and no matter how short or long your time frame is. Planning includes pre-due diligence, getting your team up to speed for a transition, and preparation to ensure your business is ready for sale. The process ensures you adhere to the objectives established and the results get you the highest value for your business.
Every exit plan should be designed with the flexibility to accommodate changing business challenges. Coming out of the pandemic with inflation on the rise and lingering staff and supply shortages make exit planning even more critical.
7 Exit Planning Tips For Challenging Economic Times
1. Get a Valuation Now
The first step in the exit planning process is to get a business valuation. Whether you are planning to exit now, in a year, or in 3-5 years, you need to know your company's value. A professional valuation will provide the benchmark of where you are and allow time to strategize ways to increase the value if needed.
An experienced valuation expert will also help you determine your business's multiple. Multiples are based on many factors including industry, location, recent business sales, and data availability for businesses like yours. This isn't the time for a back-of-the-napkin calculation.
2. Understand the Impact of Your Multiple
The sales price of your business is based on multiples of EBITDA. EBITDA is defined as Earnings Before Interest, Taxes, Depreciation, and Amortization and reflects the short-term operational efficiency of your business.
A simple valuation calculation is EBITDA times your multiple. For example, if your industry multiple is 3.5 and your EBITDA is $800,000, your company value is $2,800,000 (3.5 x $800,000 = $2.8M). The impact of a multiple can be significant. If it drops to 3.0 for example, then your business value drops to $2.4M. Likewise, if the multiple rises, the value increases.
The other important number in the equation is EBITDA. Do you have expenses such as non-market-value rent, non-recurring life insurance, excessive wages, etc.? These are a few examples of items that must be accounted for when determining the EBITDA of your business before you apply the multiple. These adjustments will need to be outlined for the prospective buyer and you will need to walk through the adjustments so all parties are in agreement.
Right now, we are still seeing strong multiples which are used to calculate the value of a business. Those multiples can be negatively impacted by what is happening in the economy. Rising interest rates and the fear of a recession can cause multiples to be reduced, thus impacting the value of a business sale. Having an experienced valuation expert help you determine the appropriate multiple for your business is imperative.
3. Know the Impact of Inflation on the Buyer Pool
Interest rates are rising, which means buyers are impacted financially by the cost of borrowed funds needed to purchase the business. Financing challenges will be an obstacle if interest rates continue to rise. At the end of the day, the cash flow your business will generate will be the same so the increased interest rate equates to less return on investment for the prospective buyer.
The transition of your business to family or key employees, who need to finance the sale, may be more challenging. You may need to provide more seller financing to help move that transition forward, leaving you less cash in your pocket now for your retirement funding, while also leaving you with the risk of failure to repay.
Private equity groups may not have to finance as much of the purchase, which may make a sale to a third party more enticing. There could be strategic buyers which may result in higher multiples.
4. Keep in Mind the Potential of a Recession
So far the fear of recession hasn't impacted business transitions, but there is undoubtedly an unknown factor to ponder. Business owners weathered the 2008 recession and the pandemic, and they are now dealing with inflation's challenges.
If you want to exit your business soon, this might be the time to move your timeline up. Of course, nobody has a crystal ball to know exactly what will happen. As you plan, build in contingencies and flexibility.
5. Know the Supply Chain Issues That Affect Your Revenue Streams
As supply chain issues arose, companies increased their prices to offset rising costs and keep their revenue numbers strong. You may sell fewer quantities, but the price increases offset the lower sales, maintaining revenue streams.
As buyers go through the due diligence process, they will look at the impact of reduced sales, price increases, and other fluctuations affecting the net revenue. This is where painting a clear picture of your financials, and how you are handling these fluctuations, matters.
Show how you have/are addressing any supply chain issues that are affecting your inventory and service product lines.
6. Understand the Impact of Staffing
The value of a business can be impacted by your key employees and their commitment to stay with the company. With high staff turnover rates and the competitive hiring environment, you should focus on maintaining your key staff. You may consider implementing retention bonus programs or other incentives to avoid losing team members.
Another key in a successful exit is that you continue to make yourself less valuable to the business. If you, as the owner, are heavily involved in the business's day-to-day operations, there will be a significant gap when you leave, which may impact the value of your company.
You may be asked to stay on with the business for a transition period, which may or may not be appealing to you. The more you have prepared your team, the more successful all parties will be.
(Download Video Transcript)
7. Planning Matters
Using SVA’s Business Exit Checklist, start looking at where you are in the process and begin the customized planning now. It is never too early or too late to create a defined exit planning strategy that is tailored to your unique business. Our valuation and exit planning team can help you when the time is right.
© 2022 SVA Certified Public Accountants