How family businesses fall into the bargain bin

With trade sales of family businesses, it’s a buyer's market. According to the Exit Planning Institute, businesses these days leave on average 50 per cent of their value on the table – in other words they sell for half of what they’re worth.

At the same time, many distressed family businesses are now being sold at rock bottom prices. Family business owners looking to sell should develop a plan to make the business sale-ready, a process that can take many years. Unfortunately, most don’t.

The numbers tell the story. According to research from MGI, family businesses are finding they aren’t getting the price they had been expecting. There’s a reason for that.

Robert Powell, a family business adviser at Grant Thornton, says they haven’t done enough to make the business attractive to buyers.

“Most business owners tend to have an unrealistic view of what their business is worth,” Powell says.

“That’s almost a universal thing. They haven’t done any work getting an independent view on what their business is worth, they tend to be too close to it and they rely on anecdotal evidence from contacts, relatives, the bloke at the pub or the contact that might have sold their business for X dollars, so they think ‘my business must be the same’.”

Powell’s observations are consistent with the findings of a KPMG survey this year. It revealed that only a third of family businesses were exit or succession ready.

Getting the business sale-ready, Powell says, means examining what the business' shortcomings are, and then fixing them. That’s everything from growth paths to locking in suppliers.

“For example, if you have a business that has one major customer that accounts for more than 50 per cent of your revenue then your business isn’t worth as much as an equivalent business that has 100 different customers each taking up one per cent,” he says.

“What’s in that program depends on the business shortcomings: their revenue might not be high enough, their margins might be small, or there’s no growth.”

He says people buying a business are looking for an upside. “Essentially what they’re buying is a future stream of revenue and unless your business shows there is a potential for that to happen, they are not really interested.”

What’s important is that this process needs serious planning, it’s not something that can be done overnight.

“Businesses need time to develop that growth profile and net profit profile,” he says. “Preparing a business for sale isn’t something you can do in weeks or months. You are probably looking at a minimum of three years to do it properly.”

Buyers are more discerning than they used to be. “What you have is a pool of buyers who, post GFC, are much more selective about what they spend their money on and these businesses aren’t ready for them,” he says. “Not only will they struggle to get the price they want, they’ll struggle to find a buyer.”

As a result, the businesses that are being sold are distressed. The owners just want to get it off their hands and are ready to sell at any price.

Judy Choate, a lawyer with Adelaide-based law firm Piper Alderman says there has been enormous growth in distressed family business sales since June.

“It appears to me that there is a higher level of trade sales for businesses that are in distress,” Choate says. “I am also seeing a higher level of acquisitions of those businesses. Not only are there more on the market because they are distressed, there are also more successfully completed sales because businesses that have been successful through the economic downturn now have cash reserves. It’s my view that they are using those cash reserves to acquire distressed businesses, which they think will be sound investments.

“My understanding would be that businesses that have been stable and successful are now in a position where they are able to make these acquisitions… They think the market has bottomed out. The inference I draw is that they think the prices for these businesses are as low as they’re going to get.”

There are alternatives. With 58 per cent of family business owners telling MGI researchers that the younger generation is not as interested in actively managing the business as the older generation, banks tightening up and fewer ready buyers, management buyouts and vendor finance are now becoming more common (Thanks but no thanks: NextGen is branching out, October 17).

Fotini Kypraios from Melbourne law firm Meerkin & Apel says it’s been an increasing trend over the last six to 12 months. “Vendors are helping them by providing loans or being happy with an earn-out and getting their money a bit later,” Kypraios says. “They’re helping good key staff rather than trying to find a third party purchaser. It avoids the finance issues and you see the business continue.

“There might be a loan in place directly between the vendor and the purchaser. There might be a higher rate of interest so that the vendor makes something back on their loan. The owner of the business would rather get some good will and walk away with something rather than bring down the price of the asset.”

Of course, if the family business owner doesn’t have the cash to fund a buyout, then the only alternative is getting the business sale-ready. And that requires hard strategic thinking and analysis, something not many seem to do. If they don’t, their business could be sold for a bargain basement price.