Selling business / valuation

[Old&knackered]

An aquaintence is looking to semi/early retire and sell his business. He has offered it to me/willing to help train me up/have a good couple of year handover period. Question is on the valuation....how much should I offer....he's not mentioned a figure yet.....I just want to get a rough idea to see if this is even a feasible for me.......my parents have offered to help lend money, in addition to me approaching a bank for a loan. I know a fair bit about the industry/which is how I know the guy/know its a solid business.

(Its a small manufacturing business/been going for years/not some high flying digital thing that can be scaled up easily)

Last 3 yrs profits:
2019 - 150k
2020 - 200k
2021 - 230k
2022 - on track for circa £240k

12 workers +owner

Another friend of mine (who runs a really big £mm business) has said up to 3 times profit for a small business, which would be say £700k mark.

I know that the seller owns the business premises (because he told me), and from looking around similar sites, I'd say the property itself is worth £600k (I'd need the property to operate from).

I've been on companies house, just trying to do research before wasting his/my time: there is no turnover/profit figures (as a small co), but states Shareholder Funds of £1m

Realsitically.........is this going to need £2m to buy.........with parents help I can stretch to £1m-£1.2m.....just don't want to look a fool/waste peoples time.

(I don't have an accountant yet, but my dad is getting a friend of his who is an Accountant to help/advise)

 

[Mark T Jones]

At this level you want to be engaging the services of experienced M & A accountant and lawyer

 

[japancool]

Last 3 yrs profits:
2019 - 150k
2020 - 200k
2021 - 230k
2022 - on track for circa £240k

Net profit or gross profit?

I know that the seller owns the business premises (because he told me), and from looking around similar sites, I'd say the property itself is worth £600k (I'd need the property to operate from).

Does HE own the premises, or does the business own it?

 

[MBE2017]

OP, you might know the guy and believe it is a solid business, but never assume you are correct, assume you are not, much safer way of looking at things. As Mark suggested, you need decent quality advice.

 

[Old&knackered]

Thanks for the swift replies.

Net profit (after tax, after Directors pension cont, after depreciation/interest ect, but before Director/owner dividend)

Property owned by Limited company (same as trading company)

Will definately seek professional advice / hoping to speak to dad's friend over the next couple of days / hoping that if he's suitable, he'll take me on as a potenial client, or at leaset recommend a suitable accountant/advisor going forward.

Accepted - I don't know everything, which is why I'm trying to do some 'pre' due dilligence; and I'm trying to be realistic/don't want to waste peoples time if the valuation is likely to be out of my reach.

What sort of money do you think I would need to budget initally for advice? Would £3k-£5k be realistic to get an Accountant to look through the P&L/Balance sheets for the past 3 yrs, and come up with a valuation range?

 

[Mark T Jones]

There really is a lot involved in putting a realistic value on a business - You need an accountant who understands both business sales and the specific sector of that business.

The key things that build value in a business are:

- Land & building (subject to valuation)
- Plant & machinery (subject to valuation)
- Long term/recurring contracts and revenue streams.
- IP.
- Cash reserves and (performing) debtor book.

Things that detract value are:

- Debt (particularly 'generic' loans and overdraft).
- Non-performing customers.
- Oustanding claims or legal battles.
- Legacy staff.
- Reliance on skills and knowedge of the exiting owner.

That is far from an exhaustive list though.

 

[MBE2017]

To add to the above, I would be looking at any major investment required going forward to replace old tired out machinery, plus the prospects going forward. Appreciate it is an established company, but are there any market changes occurring which might cause long term damage to your turnover and profit, plus how likely would any workforce departures hurt you? How long to maybe retrain someone else etc.

Best of luck, hope things work out for you.

 

[Socio South West]

Lots of things to look at beside the property and purchase/lease terms.

How good/modern is the equipment? Are there leases to take on?
How secure is the Customer base? What percentage of turnover is Best Customer, What percentage are the top 5 customers?

What is the competition? Are there container loads of much cheaper versions flooding over from the Far East?

On the face of it it looks a good opportunity but as others have said, it will be worth investing in someone who can help you get the valuation and deal at a price to give you a good chance to succeed and to give the vendor a reward for his enterprise. Remember anyone acting as an agent to sell the business will have only the vendor's interests in mind.

 

[The Byre]

There really is a lot involved in putting a realistic value on a business - You need an accountant who understands both business sales and the specific sector of that business.

The key things that build value in a business are:

- Land & building (subject to valuation)
- Plant & machinery (subject to valuation)
- Long term/recurring contracts and revenue streams.
- IP.
- Cash reserves and (performing) debtor book.

Things that detract value are:

- Debt (particularly 'generic' loans and overdraft).
- Non-performing customers.
- Oustanding claims or legal battles.
- Legacy staff.
- Reliance on skills and knowedge of the exiting owner.

That is far from an exhaustive list though.

That's a starting point - and a good one!

Have a long, hard read through this lot - http://ukbusinessbrokers.com/gallery/

What sort of money do you think I would need to budget initally for advice? Would £3k-£5k be realistic to get an Accountant to look through the P&L/Balance sheets for the past 3 yrs, and come up with a valuation range?

I happen to know an M&A specialist and we've done some deals together, so I got my advice for free, but prices usually start around £10k. When done properly, it is over a month's work in some cases and much, much more in others. It really is the length of a piece of string question!

Last 3 yrs profits:
2019 - 150k
2020 - 200k
2021 - 230k
2022 - on track for circa £240k

12 workers +owner

So an average of £200k - At first sight, it looks to be around the £2m mark with the building.

BUT

What you have not mentioned is the role of the owner - if he has to work in the company, then you have to pay the owner (i.e. you) a fair salary, inc. all payroll and other ancillary costs such as pension and holiday entitlements. That total sum has to be subtracted from the net profit and it could be around £100k - that makes the new net profit look rather different.

Look at it this way - if a total outsider buys it, they would have to employ a manager AND they would have to audit the books, etc. once a week or once a month and install suitable software in order to do so (small machine-shop companies like that nearly always struggle on with cheap accounting software that only does the bare minimum). For a decent small package, you are looking at £10k p.a. and another £10k for someone in the parent company of the new owners to monitor the company - so now we have to budget £120k p.a. additional costs with a manager, etc. and a new net profit figure of £80k p.a.

AND

There is the risk of buying a small company that could fall over for any one of a thousand reasons. Big companies have momentum and market share and other mechanisms (e.g. shareholdings in major customers, intellectual property such as patents) and they have structure (managers, middle managers, established procedures, brand awareness) that make them a safer bet. The smaller the company, the riskier it gets!

 

[pentel]

One thing that has not been mentioned is the effect of turnover.

£200k profit on a turnover of £1M is one thing
£200k profit on a turnover of £10M is something entirely different.

At the moment we are going through a period of high inflation. Materials, wages, energy costs etc are on a steep upwards trend. Can sale prices be increased?

I would be looking at different scenarios and looking at how sensitive the profits are to these changes amongst others.

The other thing to consider is what would happen if the current owner was unable to sell? What would be the closure value of the business after redundancy costs etc.

 

[The Resolver]

It might be wise,if you do a deal, to consider buying the building with machinery in the name of a separate company so that if the trading company fails you still have the building/machinery. The trading company would pay a fair rent to the property company. It also may help you avoid putting the building up as security for all the borrowing rather than just for those monies needed to buy it.

As a lawyer my above comments ignore any taxation issues in the split. In fact there are many accountancy/taxation pros and cons in doing this but well worth doing with the right advice.

You need to have compiled a full set of due diligence questions. As to negotiation let him set his price first. Use my new negotiation tool - www.MySmartNegotiator.com (just a draft site right now but the software , Smartsettle ONE, is fully developed.

 

[PugwashEQ]

OP SO many questions.

valuation wise- what you first need to work out is the underlying profit- you need to take out all his costs , add the costs for a market lease for the building, add market costs of anyone who needs replacing once the previous shareholder has departed.

You then need to work out what YOU think you can do with the business- and then double the time you think it will take to achieve it, and reduce the results by 1/3.

You then need to look at every risk- from the commercial (ie how key is the shareholder, what key client relationships does he hold, is he particularly close to staff, does he have critical knowledge), to the legal (ground contamination....legal cases... agreements etc- you'll need to pay for this) to the market (what external threats are there). You then need to either model, or take a view on those risks, and factor in the likelihood and adjust price accordingly.

As you don't have a running business to generate any sales opportunities or reduce costs, ALL the upside has to come from your efforts, so you need to understand the opportunity in the marketplace, with customers etc. Do you REALLY understand what drives sales, how their processes work, how to win clients- if you don't yet , can you learn? if its going to take a while, how long is the owner willing to stay on as a "handover period" (3months is short, 2 years is long- normal is somewhere in the middle!)

One of the most effective tools you can do is an independent audit of their top 10 customers- you, with sellers permission, phone them for a structured interview to find out what they think of the sellers business, how important the business is to them and what other areas they would consider purchasing from them (and you need to be really sure there isn't a tonne of customer concentration- one customer over 35% is a potential material problem that you should investive- Iwesold a business for a massive multiple a while ago who had one customer- but the circumstances were unique....)

valuation is then a function of reward and risk. The more reward you can generate the more attractive it is, the more risk, less so. You can offset some of the risks by using "structuring" ie not paying the whole amount up front. In fact at this size of business it would be unusual (and i would suggest) unwise to pay it all out of cash in one go.

Your ultimate aim is to understand how much cash you are laying out and the return on that cash. most people will baulk at buying a small business unless they can get their cash back within 3-4 years. You can however take into account the upsides you thin you can generate. you can also take into account any ability refinance any of the assets- as then you don't have to use your own cash (although you then have to forecast cashflow tightly to cover the interest and capital repayments- unless they have a good debtor book!

Ref the property you Don't HAVE to buy- it can be extracted at completion at no cost to you and you can rent it. OR you can purchase it, extract it yourself, stick it in a SIPP and have a very tax efficient asset. Or you can refinance off the back of the value of the property- you have a tonne of options here......

Once you have developed a proper plan, with all the upsides and downsides (and with a proper SWOT analysis) this will give you a view on value.

Or you just guess and pay 3-4 times with a bit of structuring (which is what most people do- which is also why most people's acquisitions fail......just saying )

A couple of people have mentioned using accountants- I love accountants but its very rare to come across one that is actually experienced in M&A- ideally you want a good M&A advisor and a good M&A lawyer, but both can get pricy. At the level you are looking at i would recommend the Worcester M&A team of HCR for legals - and for M&A experts, well that's harder. If you want light touch advice i'd be happy to offer some of our experience for free if that would help (we aren't the right fit here- we usually work for Plcs and mid-market firms on the buy-side)? Unfortunately, you are in a bit of a no-mans land for M&A advisors, a touch too small for the really good ones (ie they'll make the transaction very expensive) and a touch too large for the "bulk mainstream" - which i'm not sure i'd recommend in any case!

 

[SillyBill]

If helps the OP, bought a manufacturing company with a £400k net profit for £1.8M (4.5x EBITDA). Solicitors/accountants cost me about £35k all in. Price payable over 6 years, funded largely by the company itself too i.e. nothing borrowed from a bank. Only paid £50k upfront as a courtesy, rest paid for by earnings. Owner got to walk away with a few years more of the business working for him essentially.