by Dave Driscoll
Let’s say you want to buy a business; you are in your forties and have accumulated a decent sum of cash through savings, wise investments and possibly some inheritance. You connect with a business broker with a good reputation and begin the search.
Through your business broker, you review profiles of several businesses matching your interests, talents and the amount of hard-earned dollars you can invest and then sign confidentiality agreements and ask for additional information to qualify and quantify each option.
As a buyer, the first thing you want to analyze is the financial performance, including profit and loss statements, to determine whether the business operates at a profit. And…?
This is where the rubber meets the road for the seller. This is where a business sale moves on to the next stage or dies! Will the prospective buyer be given the information needed to unequivocally analyze the financial performance of the business? Or will the prospective buyer be given bits and pieces that don’t really tell the story of the business—just a collection of numbers organized solely to create a tax return with the owner’s main objective to minimize tax liability?
Let me define what I mean by “the story of the business.” Which of the products/services account for the company’s top three revenue streams? Are all cash sales recorded as revenue? Does cost of goods sold include raw materials? Labor? Are costs allocated to the revenue streams to determine whether the sales are profitable? Are operating expenses allocated properly? What expenses are inflated or not needed to operate the business?
All business owners have expenses that are not truly needed for the operation of a business. Some of those “owner discretionary expenses” (like autos, fuel, insurance and cell phones) are easily determined. Others are not so obvious, like family members who don’t provide value on the payroll, inflated rent paid to a landlord who just happens to be the business owner or “business entertainment” that is primarily use of the business credit card for the owner’s personal travel and entertainment. In rare cases, expenses charged to a business are so hidden they are hard to uncover.
I cannot emphasize enough how critical financial statements are to a successful seller-buyer transition. Detailed financials that tell the business’s accurate history and status are the critical link that determines whether the prospective buyer continues to consider buying the business.
More often than I care to recall as a St. Louis business broker, financials are regarded as a major inconvenience by the seller—a task created by accountants and bankers that must be grudgingly maintained to produce a tax return and determine how much more money the seller must send to the government. Efforts focus on minimizing profits shown in order to minimize taxes.
Owner discretionary expenses are generally accepted as standard operating procedure. But because eventually every business will need to be sold/transferred, the discretionary expenses need to be identified and either added back or subtracted from the operating expenses of the business to determine the true story (and value) of the business. If that story is muddled or the seller believes he can just talk with the buyer off the record about how much owner benefit the business really generates, distrust is created and the buyer will no longer believe any information provided by the seller.
Maintaining accurate historical financials allows both the buyer and seller to win!
Dave Driscoll is president of Metro Business Advisors, a mergers and acquisitions business broker, business valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at DDriscoll@MetroBusinessAdvisors.com or 314-303-5600. For more information, visit www.MetroBusinessAdvisors.com.
Submitted 5 years 205 days ago