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Musings on business value, sale preparation, sale negotiations, sale structure.

Archive for July, 2013

Greed, fear and loss

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There’s an interesting thing going around: It’s the promise of great riches for the investment of small riches, and when it does not work out, it’s your own fault. That in the proverbial nutshell, is the game plan.

So it works like this:

Step 1 – A competing INTERNATIONAL (often) MARKET LEADER (usually) and (certainly) LARGE company comes knocking, completely unsolicited with all sorts of flattering comments about your business, and a convincing pitch about acquiring that which pays you your salary.

That happens all the time, and is often a scam on its own. I have written about it many times previously.

Step 2 – Unrelated (I like to think, and really hope) a business broker approaches the business owner, or has approached the owner in the past. Oh, this broker will get you way more than that offered by the suitor company. Really?

Step 3 – Said business broker comes with a pedigree involving backing from Europe, USA or some other financially stable powerhouse of banking probity.

Step 4 – If the business owner should be selected as a client then there are some hurdles to be cleared. Nothing wrong in that; we all need to know that our clients are committed to the project. It is just the nature of the hook and the bait in this instance which is troubling.

Before I go on, let’s look at the numbers involved. You should also know that I have been approached separately from different parts of the country on three occasions in the last eight weeks, with very similar stories. Here is one.

  • The business turns over 70 million South African Rands (ZARs).
  • The owner has been offered 100 million ZARs by a suitor.

Then let’s look at some of the emotion involved

  • He has either approached a particular broker, or has in fact been approached by the same one.
  • The offered price is sniffed at because the broker will certainly introduce half a dozen other suitors, all willing to pay much more.
  • The business owner falls for this emotional bait. Hell, let’s face it; if 100 million ZARs can solve a few problems, where are we going with 200?
  • Then the sting: The broker charges a very small commission on the deal because he charges a sizeable administration fee up front. We are talking about hundreds of thousands of ZARs long before any work is conducted. But in the greater scheme of things, what is 300k as a percentage of 200 ZARMs? And then there are the easy repayment options.

So let’s consider something here:

  • First, I am not about to publish actual figures, mainly because I don’t know them. But I do have ball park figures which have been given to me
  • The net margin of any business is usually in the single digits. There are exceptions, but are usually based on incredible margins and very low overheads. None of those businesses which I have been asked to comment on, are of this variety.
  • So let’s be kind and assume the net margin is 20% (that’s big).
  • 20% of 70 ZARMs is R14,000,000. Look at your own business and decide how realistic this might be. But just for the sake of argument…
  • After tax, we are looking at a shade over 10 ZARMs.
  • The suitor is suggesting a purchase price of 100 ZARMs. That’s a price earning ratio (PE ratio) of 10.

Let’s be clear here. Nobody pays on a PE of 10 for a closely held, small, medium, or even reasonably large business. They don’t do so because there are many businesses which are sold for a helluva lot less.

But then the business owner is convinced that there are pressing fundamentals which make this business worth up to twice that! If he will only pay an enormous up front fee to make it happen.

Perhaps I am wrong, but I am willing to bet that in time to come the business owner will be accused of having provided some false information, and naturally that is why the alternative suitors will have never materialised.

Of course the admin fee will have been absorbed in finding these suitors. Who needs a commission anyway?


A value proposition

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So often when I sit with capable and serious buyers of businesses, in meetings with sellers, a question which comes up is: “So what is the value proposition of the business?” Sometimes the seller looks blank, before asking what that means.

The value proposition of a business is the reason a customer has for buying from the business, rather than the one around the corner, this business’s goods rather than an alternative, or even this business’s goods rather than nothing at all.

Examples may be as simple as the fact that a particular petrol station in a small town is the only one which stocks 50ppm diesel, or it may be that the owner has a very sensitive finger on the pulse of prices in the immediate vicinity. At the safer end of trading, it may be that a particular importer is the only one who represents a particular sought after brand in a geographical area.

Other value propositions come about as a result of the infrastructure of the business – perhaps branches in all the main centres, or a very dynamic and effective web page, or a huge army of sales people.

Perhaps the value proposition comes about from the partners of the business – perhaps a unique logistics arrangement or a geographical position making it very easy for collection or delivery. Or perhaps it is just the way in which the business markets itself.

Stop for a moment and think (if you haven’t been doing so while reading the previous paragraphs) about what the value proposition of your business is, and then consider the following:

When you eventually come around to selling your business, the business itself will be pitted against other businesses on the market at that time, all looking for a limited number of investors with a finite supply of funds. It is unlikely that they will even be similar businesses. As a result, the value proposition shifts away from what the business’s customers see in a business, and towards what an investor or business buyer sees in the different businesses for sale at that time.

See what I did there? Your focus now has to be on why an investor will buy your business, and not the business on the other web site. The welcome corollary is that the higher your value proposition, the more you will actually get for your business (provided your value proposition is not to ask for too low a price, or be in a position which makes it necessary to accept the first offer).

Put simply: When a business is being sold, it needs to appear head and shoulders above its competing business sellers at the time.

So here’s another value proposition:

You come along to my PrepareYourBusnessForSale™ seminar on Thursday 18 July 2013 at 7pm. I will show you what makes up the value of a business, not to you, but to buyers of businesses. I’ll show you what turns them on, and perhaps more importantly; what turns them off.

I’ll show you how to turn your business into a value proposition, quite apart from businesses which are not prepared for sale properly.

You donate a minimum of R380 to The Vula Programme, and I’ll show you exactly what buyers of businesses think through in their business buying valuation exercises.

There are some catches:

  • You pay direct – no middleman to take a commission or admin fee. Vula gets every cent.
  • You get a section 18a tax certificate
  • You get BEE points
  • Some kids get a better chance at a better education in a rural area

You can book here, and receive further instructions.

These are our sponsors for the evening:

  • Eugene Herbert of Master Drive and his team will be providing refreshments at the break.
  • The Gordon Institute of Business Science (GIBS) will be providing the venue.

I’ll see you there.

Living next door to LS

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Until very recently I lived next door to a lost soul. We call him the LS. Of course there is also an LS’s wife. And an LS’s two dogs.

He does not own a business, and so my analogy of being prepared for sale does not apply directly to him, but it does, to the sad story that follows.

He bought the house two months back. We walked over the day after they had moved in, to introduce ourselves. In the likely event that they were not at home, I had written our telephone numbers on a piece of paper with our names and a nice welcoming message, ready to pop into their post box. Cute, hey?

But they were there, and we had a pleasant enough conversation in their driveway. They did not immediately reciprocate their numbers, but said they would SMS them to us later. They didn’t.

In the days that followed, their burglar alarm went crazy half a dozen times a day. This of course is understandable for a day or so as one gets used to a new security system. Their dogs did a lot of barking, as dogs do when they have been moved from a comfort zone to a new house. We put up with the nuisance, like tolerant neighbours, and in any event were unable to call the LS because they had not given us their numbers.

Within two weeks they had a break in to their house. We heard the door smashing, looked over the wall, saw the action, called the police and the security company. The thieves were gone in minutes, narrowly missed by the reaction units. The alarm did not sound, and nor did the dogs. The dogs had been locked in the yard closest to our bedroom, and the alarm had been left off because they had not yet worked out how to arm it without triggering it. So with all the tools in place, but nobody using them, they were totally unprotected.

So there they had all the tools: the noisy dogs, the noisier burglar alarm, the electric fence, the locked doors. She had nipped out to fetch the kids from school, but having been called for a job interview on route, diverted past the interview. With the house unprotected by anything at all, it was easy pickings for the thieves.

The weekend before last should have been magnificent and uplifting. All my teams won, and I pulled a full house on Superbru, winning me acclaim and cheering from nobody in particular. But it was not a happy weekend because of a meeting I had on Friday afternoon with a couple who own a well established, well respected, beautifully equipped and housed, forty year old business. They are both in their seventies, and have decided that it is time to slow down and move on gracefully from the business.

Why was it an unhappy weekend? Well because I knew that on Monday I would have to tell them that the value of their business is nowhere close to what they believe it to be. That was an unhappy email to write, and follow up phone call to make. I suppose it was not dissimilar to the job those guys have at the end of the Comrades Marathon; you know, the guys who run across the track with the rope at twelve hours, and tell those in the final straight, that they did not in fact do well enough, despite covering 89km in twelve hours.

For younger business people, the situation is different: Sit back, assess the situation, and work out what needs to be done in order to reach the required value. For my new friends, this is much more difficult if only because frankly, they would rather be playing with their grandchildren.

So how do we avoid such an unhappy situation? That is something I intend to cover in some detail at our Mandela Day Seminar: What to do with the tools you already have in your business, in order to give it more value when and if you sell it one day. How to PrepareYourBusinessForSale

I am happy (read “relieved”) to report that I have a venue donated for the evening. It is in Sandton, and those who have booked will be told where later today, once I have tied up some contractual arrangements.

Thank you to Eugene Herbett who will provide refreshments at the break.