Ready to Sell - Part I: Financials

When you decide to sell your business, you need to prepare.  This is not the time to learn on the job.  Our 5-part series Ready to Sell is designed to help start the conversation around things every business owner should be thinking about before they start the sale process.  In Part I of this series, we’ll focus on financial information.  Let’s take it from the top.

Part I:  Financials

In M&A, it always comes down to the numbers.  If the numbers don’t work, there probably isn’t a deal at any price.  This isn’t just true for the buyer, the numbers need to work for the seller too.  Even when there’s something else, it’s still always the numbers.  Let’s take a look at 4 things every business owner should do with their financials when getting ready to sell.

1.  Organize your Historical Financials. 

The historical financials paint a detailed picture of what the business has achieved in the past, while the projections provide your vision of where the business is going.  The historicals show the results the business is capable of delivering – and many buyers rely on them to provide some basis and validation for the projections.

You’ll need well-organized historical financial statements to share with a buyer when it’s time to explore a deal.  At a minimum, you should put it in a form and format that makes it clear you’re prepared.  This will also help you take a critical eye to your numbers and limit due diligence surprises.  If your business is audited or you have an accounting firm compile your financial statements every year, start with that.  Otherwise, it’s generally going to be helpful to gather and organize historical income statements, balance sheets, and statements of cash flows for the past 3 to 5 years.  Do more than just pull data from the accounting system or tax records – buyers will need and want more.  And you’ll need more than the system or tax records to develop tell the financial story, to capture the context.

2. Perform Self-Diligence on your Historicals. 

Look at your financials through the buyer’s lens:  do your own due diligence on your historical financials.  What trends are you seeing?  Why did you make, miss or beat your forecast?  What happened that was unexpected and unpredictable?  Are you consistently performing below or above forecast?  What can you do to improve your forecasting process?  Are there adjustments to be made for non-recurring, or non-operating items that skew your results?  The buyer is going to dig in on questions like these, so it's important that you are prepared to address them. 

3.  Tell a Story with the Numbers. 

Public companies are required to provide disclosure in their quarterly financial filings that detail the changes from prior periods and the reasons in the MD&A, or Management’s Discussion and Analysis section.  You may not run a public company, but the MD&A is a great tool for any business to use in conjunction with the financial statements.  The MD&A tells the story of the numbers for the period in question – the last fiscal year, the latest quarter.  What new customers drove the revenue increase?  Why were expenses higher (or lower) than last year?  What factors are influencing your results?  What non-recurring or non-operating items are you calling out?  Especially for companies with a limited or inexperienced finance team, this is a great way to tighten the story, detail the key financial trends and highlights while canceling out the distortion, noise and feedback.  It also allows you to do some introspection – what can you do to change the story? – and focus a buyer’s attention.

4.  “Bullet-Proof” Your Forecast. 

The most important thing a seller can do when building and refining the forecast is to stress-test the assumptions and drivers.  This is because the buyer is going to evaluate your forecast both in the context of past performance and macro factors that could shape expectations.  Make sure your forecast is built on factors that survive scrutiny without sandbagging. 

If you’ve built your forecast bottoms-up, reverse-engineer it to see how top-down changes the picture. Or vice versa. Use benchmarks to measure and demonstrate how the projections compare to past performance – build the bridge from the past to the future.  Detail the drivers and assumptions to show how you expect to achieve the projected results and that you know the costs that come along with your plan.  In short, build your forecast on the foundation of credibility – but make sure you maintain the proper balance between optimism and achievability. 

To strike that balance, many sellers will incorporate a modest “haircut” to the forecast they share with a buyer, to increase the likelihood of meeting (if not exceeding) the projections.  This is common, and many transaction advisors recommend this approach.  But being too conservative, giving your forecast too large of a haircut, can reduce the valuation of your business.  Remember that buyers will also likely discount your forecast to some degree, so being overly conservative can cost you value. 

Bonus Tracks: 

1.        Do you need to have audited financial statements? 

Depends on the nature and complexity of your business, typical practices in your industry, to name a couple factors.  If your financials aren’t audited (or even if they are), you may consider commissioning a Quality of Earnings report, which will provide some insight into how your business generates revenue and its earnings efficiency.  You need to weigh the cost – both time and effort – of undertaking an audit to determine if it’s right for you. 

2.       Don’t forget negative adjustments. 

It’s common for sellers to highlight non-recurring or non-operating expenses when suggesting adjustments to the annual financials.  But not all sellers will give airtime to items that SHOULD be included as expenses – and which the buyer is absolutely going to adjust for.  A common example is owner / operator salary.  If you own a business and are active in the operations and management, but you don’t take a salary and only pay yourself through the income of the business, your salary is an additional expense a buyer would likely need to layer in.  Look for items such as these, where the new owner will incur additional expense you’re not tracking.  Make sure your expenses include all the expenses needed to run the business, and exclude all those that are typically not part of running the business. 

Share your thoughts, feedback and tips in the comments or get in touch to start your preparation process at info@amplify-cs.com.

Up Next: In Part II of this series we’ll explore the deal team- how to make sure you have the right internal and external people involved in the transaction while managing information flow and risk. Go to Part II