The greatest concern of business owners is how to avoid losing their primary source of wealth: the value of their business. Owners generally monetize this value via a sale of their business, but EBITDA — earnings before interest, taxes, depreciation and amortization — sometimes collapses during the sale process and the owners lose much of their wealth. Although mergers and acquisitions professionals can be surprised when EBITDA collapses, there is a root cause and a way for business owners to avoid misfortune.
First, owners must recognize that almost every business has a lifespan. The end of a business often seems sudden, but it is usually the culmination of a gradual process. Responding only to the classic signs of distress — on which consultants mistakenly focus — results in loss of value. Owners need to discern the early hints of business mortality (before distress is manifested) and act while their business still looks promising to an outsider. This is the key: Owners have an advantage; they alone can discern the first hints of their company’s mortality. Owners should not panic at the slightest downturn or difficulty, but shouldn’t turn a blind eye either.
Some of the first hints of business mortality are financial, some “cultural” — others one might call attitudinal or psychological:
- Payment timing (in and out) increases in importance;
- Capital expenditures are deferred;
- New competitors appear;
- Buying trends shift;
- There’s little innovation in products or methodologies;
- No new blood in management;
- Family or health demands impinge on the owner’s ability to devote time or focus to the business;
- There’s overreliance on an officer, supplier, customer, channel or trend;
- The owner loses zest for finding new deals or strategies;
- The owner lacks the desire or resources to take the company to the next level.
Owners have many alternatives. They don’t have to decide between immediately selling or grinding it out with the status quo. They can also try to reverse the direction of the business (with eyes wide open as to the likelihood of success), sell, “take money off the table” or prepare for sale (without committing to sell) — or combinations of all these.
The key is to evaluate the options. Early on, owners have the advantage. First, they have information no one else has, because the first hints of business mortality precede the classic, outward signs of distress. Timely action can forestall or mitigate difficulties. Secondly, current market developments provide unprecedented possibilities.
Competition among strategic, private equity, family office and foreign buyers is fierce, and multiples are high. Acquirers might, for example, welcome winning a bidding contest by providing the owner with continued employment, an equity stake or nonfinancial terms that have value to the owner. If owners sell in full or part, it may well be the first time in their lives that they will be cash-rich.
If owners decide to stay in the business and attempt to reverse negative trends, delay is costly. Business disruption is faster than in the past and remedial steps for improvement must be taken quickly.
Even if owners don’t want to sell, they should prepare their companies for the sale process while they work on the turnaround. Going through this exercise will enable them to see their companies through a powerful lens — as if they themselves were the buyer. An active response is particularly important because most business owner wealth is tied up in their companies. Ultimately, there is only one thing owners must avoid: doing nothing.
Sheon Karol is managing director at The DAK Group, which serve as investment bankers to the middle market.