In case you missed it, Josh Patrick recently wrote a three-part series for his New York Times blog – Creating Value – about the sale of a business that ended in disaster. Despite all of the details provided, it’s still hard to know exactly what went wrong and why. Having written similar blog posts, I’m sure there are many nuances that readers aren’t aware of given the personalities involved. Regardless, it’s a great opportunity to learn from someone else’s experience and avoid repeating the same mistakes.
You can read the story of Ms. Hunter and the sale of her financial services firm here:
- How the Sale of a Business Can Go Terribly Wrong
- When Your Broker Doesn’t Really Represent Your Interests
- Selling a Business? It’s the Details That Count.
Following are three things that are required when selling your business, all critical areas where Ms. Hunter appears to have run into trouble:
Hire the right advisors
One thing seems clear from the blog posts: Ms. Hunter did not hire competent professionals to help her with the process of selling. Between a friend turned coach, a business broker playing dual agent and a lawyer with no transaction expertise, her record was 0 for 3 in the advisor department. As I read the story, I couldn’t help wondering if Ms. Hunter is the type of business owner who surrounds herself with advisors who tell her what she wants to hear. Many business owners are afflicted with this condition, and it’s easy to find advisors who will enable it.
Alternatively, it could be that she didn’t spend enough time researching who she would need on her deal team. As Mr. Patrick points out, you spend years building your business but usually get one shot at selling it. With that in mind, put together a list of multiple professionals (transaction attorney, CPA, business broker) and vet them out carefully. Ms. Hunter’s story illustrates one of the golden rules of selling a business: Good advisors pay for themselves by helping you avoid costly mistakes.
Know the value of your business
We have scant financial details about the sale, but I found myself questioning the value of the business. $1.4 million seems high for a business grossing $700,000 a year – and that was before the coach’s indiscretion caused several clients to bolt.
A quick rule of thumb from the Business Reference Guide for firms offering investment advice is 1 times annual gross or 1.5 times Seller’s Discretionary Earnings. Regardless of what the value of the business could or should have been, Ms. Hunter may have actually ended up with a reasonable amount from the proceeds of the sale. Doing some quick calculations (I won’t bore you with the math; if you want me to let me know in the Comments) she might have received around $682,000 between cash at closing and 12 months of payments she received on her note before the buyer defaulted.
If, for the sake of argument, her business was worth closer to $700K, she didn’t do too badly. The point is that business owners frequently have an inflated sense of the value of their business. It can be hard to hear the truth about what your business is worth, but starting with an accurate business valuation can go a long way towards setting realistic expectations for the sale of your business.
Make a clean hand-off
The blog posts don’t say how long Ms. Hunter stayed on to transition the business to the buyer, but it sounded like she was quick to hit the eject button. To use Mr. Patrick’s words, “financial services practices can be the perfect microbusinesses to own — but they are not easy to sell.”
The reason, of course, has to do with client attrition. The more dependent the business is on the owner, the longer it will take to transition it to someone else. I’m working with an attorney right now who is planning to sell and retire. He is prepared to stay on for three to five years if that’s what it takes to transition his firm to a new owner. Likewise, I wrote a post about the owner of a consulting firm who accepted a 100% earnout when she sold. She got paid in full, but was also willing to stay on with the new owners for a transition period that lasted several years.
Most deals are structured so that both the buyer and seller have a vested interest in the business’ post-sale success. Understand the nature of your business – your role in the business and the capabilities of the buyer – and stick around for an appropriate transition period. There’s always a tradeoff between money and freedom when selling your business. If you want your money, then freedom may have to wait just a little bit longer.
One more thing…
My final question on the series was how much time Ms. Hunter devoted to preparing her business for sale. If the goal is to get “top dollar” for the sale of your business, it will most likely require some amount of time and preparation. We don’t know if Ms. Hunter’s primary goal was to build a sellable business with maximum transferrable value, but I’m assuming that wasn’t the case. If her goal was to enjoy running a successful business then put ownership behind her and start a new chapter in life, perhaps her experience wasn’t so disappointing after all.
I’d love to hear your thoughts on the series, and what did or didn’t go wrong.
I can answer a few of your questions.
First, financial services business will usually sell for a little over 2.2 times sales for recurring revenue and closer to 1 times sales for non-recurring revenue. A better way to look at valuation is to value the firm at around 7 or 8 times EBIDTA for recurring sales and significantly less for non-recurring sales. Holly’s sales were 95% recurring revenue.
She did stay with the business for about a year. During her transition year she and the buyer butted heads on the direction of the company. This played out badly for the buyer and seller.
In my opinion she did a really poor job of choosing advisors to help her. She had no process for choosing advisors and didn’t do any research into best practices for help in selling businesses.
I’ll be writing a follow up post on what I think owners should do to sell their businesses successfully and potholes they may want to avoid.
You’ve done a nice job of asking the questions that need to be asked. For me, the big problem is having her broker get paid by both sides of the deal. Because of this, the advice the broker gave was tainted and weak.
As it turns out Holly is happy with where she is in life right now and is doing her best to put this experience behind her.
It looks to me like Holy did OK if she sold at > 2X revenue and/or 7 to 8X recurring EBITDA even if the revenue that generated this EBITDA was 95% recurring. It sounds like a valuation at the top end of the range for financial services to me. In addition, if she only stayed on for a year she ended up with a pretty good financial transaction and freedom. Thanks for posting this, very insightful. Erick
There’s a reason financial service businesses with primarily recurring revenue sell at a high multiple. Not only do they have recurring revenue, but they have increasing recurring revenue.
The vast majority of financial services firms that are “fee only” collect a percentage of the assets they manage as a fee. The market averages an increase of 3 to 7% per year. This is an automatic price increase these companies get without having to ask for more money from their customers.
As a result, it often makes sense to pay a high multiple, especially with a high level of owner financing. The business is providing the wherewithal to pay for the purchase in a relatively easy manner.