Before you sell

If you are a privately held, middle-market
company with $10 million to $100 million
in annual sales and you are ready to sell but are concerned about the current economic climate, rest assured that this is still an
acceptable time to move forward.

“Generally speaking, 2007 was a strong
year for M&A in terms of the number of
transactions and valuations, or ‘multiples’ —
the amount of money buyers were willing to
spend for a business,” says Michael J.
Meaney, member of the business department
and co-chair of the business transactions
practice group at McDonald Hopkins LLC.
“In 2008, the market is experiencing a drop-off in the number of transactions, and valuations are decreasing a bit as a result of the so-called credit crunch; however, based on historical values, they are still rather strong.”

Smart Business spoke to Meaney to gain
some insight for those seeking to sell their
middle-market companies in the near future.

What are some of the trends occurring in the
M&A market for medium-sized businesses?

Tighter lending standards have reduced the
amount of money banks might be willing to
offer. As a result, buyers have to come up
with more equity. This is not necessarily a
problem because there is still a great deal of
private equity capital available. However,
when a greater percentage of a buying price
has to be taken in equity, it means a lower
return for the buyer, who, in turn, will not be
as willing to pay as high a price. There are
some positives, however. First, there is plenty of private equity capital just waiting to be
invested. Second, the exchange rate for the
dollar makes American companies attractive
to foreign investors at this time.

What characteristics should owners look for
in potential buyers for their businesses?

You want to find the buyer willing to pay
the highest price, but there are other factors
to consider. First, make sure the buyer is
financially able to close. Second, make sure
the buyer has enough additional money to
fund the future growth of the business. Third,
make sure this person will treat your employees and customers right. Fourth, make sure
you have good chemistry — you will need it
to get through the transaction process and
after the sale. Often, a seller continues to be
involved in the business as an executive or a
minority shareholder, so you want someone
you can trust and get along with.

What about hiring an investment banker to
help sell the business?

There are several avenues to market your
business for sale. One traditional way is
through an investment banker. The
Cleveland area is fortunate to have very well-qualified firms that operate in the middle
market. An investment banker manages the
process similar to a broker. He conducts a
confidential auction process to identify the
best possible buyers (private equity firms or
strategic buyers in similar businesses), then
requires them to sign a confidentiality agreement and provides them with information on
the business. The potential buyers can then
investigate the business and submit a bid.
The investment banker and owner select the
best bidder, who is not necessarily the highest bidder. After selecting the best bidder, the
seller’s attorney negotiates the purchase
agreement. The advantage is that the seller
can be highly confident that he or she got the
best possible price for the business, and that
all interested parties had an opportunity to
bid. The downside is that this process can be
time-consuming. You must be willing to have
discussions with multiple bidders and deal
with numerous requests for information.

What about dealing directly with a private
equity fund?

Northeast Ohio is also fortunate to have a
number of high-quality private equity firms
that are eager to buy middle market businesses. The owner may choose to approach
such a buyer directly and engage in a one-onone discussion. The buyer investigates the
company and then they negotiate. Some
owners prefer this method because they
don’t want an extended process. They might
not get the highest price, but will still come
close. Private equity firms realize that they
need to be in a fair range and give a fairly
strong bid. This route may be viewed as more
confidential, as the seller is dealing only with
one company. There is less risk of a private
equity firm exploiting your confidential information, since it is usually not in your industry.

There are other advantages. A private equity firm is more likely to leave your business
largely intact, since it has no other operations
to consolidate with. Also, since an equity firm
does not already have operational management in place, it will be more likely to allow
and even encourage the seller to have a continuing role in the business post-closing.

How can a seller minimize liability to the
buyer after the sale?

The seller’s attorney should carefully negotiate the purchase agreement, placing limitations on the buyer’s ability to make claims,
including a time deadline and a maximum
dollar amount. The attorney should negotiate
deductibles to ensure that the buyer cannot
bother the seller with minor claims. Also, the
buyer may require the seller to put funds in
escrow in case there are any future claims, so
the seller’s attorney should minimize the
amount required as well as how long the
money must be held.

MICHAEL J. MEANEY is a member of the business department and co-chair of the business transactions practice group at McDonald
Hopkins LLC. Reach him at (216) 348-5411 or [email protected].