This document outlines seven core principles for business owners to maximize the value of their business during its operation and upon sale. It discusses building a strong management team, diversifying customers, maintaining quality financials, developing proprietary products/services, focusing on profitability, having a business plan, and seeking professional advisors. It also covers how these principles influence valuation multiples and different transaction structures like strategic sales and private equity-backed recapitalizations.
NewBase 19 April 2024 Energy News issue - 1717 by Khaled Al Awadi.pdf
Seven Principles to Maximize Business Value
1. Seven Core Principles to Maximize the Value of Your
Business During its Life and Upon its Sale
Presented by
Doug Hubert
Managing Director, CBIZ Mergers & Acquisitions Group
Steve Henley
National Tax Practice Leader, CBIZ MHM National Tax Office
2. Strategic Edge Series
• Seven Core Principles to Maximize the Value of Your Business During Its
Life and Upon its Sale – May 18th
• Creative Compensation Strategies to Maintain Morale and Retain Talent –
June 22nd
• Don’t Be Held Captive: Go Captive to Manage Your Risk and Expenses –
July 20th
• Federal Incentives That Can Show You the Money – August 17th
• Protecting Your Legacy with Succession Planning – September 21st
• State Tax Nexus: No Physical Presence Required – October 26th
All these webinars are from 2:00 – 3:00 ET. Here is the link for registration for
any of these webinars - www.cbiz.com/strategicedge
2 Seven Steps
3. Agenda
• The Seven Steps to Increase the Value of your
Company
• How is Value Influenced - Pricing
• How is Value Influenced – Transaction Type
• Strategic Sale vs Leveraged Recapitalization
• How is Valued Influence – Tax Considerations
3 Seven Steps
4. 1. Build a Deep Management Team
• Building a deep management team is one of most
difficult challenges for business owners.
• Significant Value Driver: Management depth is the
difference between a good and great company.
• Jack Welch, former CEO of General Electric
considered talent development his most important
job.
• Tactic: A formal talent recruitment and development
plan should be established. Further, a management
retention program should be considered.
4 Seven Steps
5. 2. Diversify Your Customer Base
• Ideally, a company’s largest customer should
represent no more than approximately 15-20% of
revenue & profitability.
• If any customer becomes too large, then to some
degree, the customer owns the business.
• Like management team depth, customer
concentration is a significant value driver.
• Diversifying customer base may cause short-term
sacrifice, but it will create long-term stability and
value.
5 Seven Steps
6. 3. Maintain Quality Financial Information
• Lack of quality financial information is a consistent
weakness among middle-market companies.
• Prior to a transaction of any form, a company should
transition from their current attest level to a formal audit.
• Audited statements provide credibility with bankers,
insurance companies, and investors (both private and
public).
• In a sale transaction, audited financials reduce chance of
purchase price reduction due to lack of certain accruals.
• An audit is also a powerful management tool.
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7. 4. Develop a Proprietary Product or Service
• To thrive in any marketplace, a company must offer
unique product or service that isn’t easily replicated.
• While an obvious value driver, few companies are
dedicated to creating this distinction.
• It should be easy for customers, employees, or
competitors to quickly describe what makes a
company unique?
• Superior products or services can create pricing
advantages (in good times) and customer loyalty (in
challenging periods).
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8. 5. Focus on Profitability
• Too many business owners measure success on
revenue rather than profitability
• A $30 million revenue company with $5 million in
profits is worth more than a $60 million business
with $2.5 million in profits
• Another common mistake is desire to limit
profitability to limit taxes
– Focus becomes tax avoidance rather than operational efficiency
and profit maximization
– Explore tax efficient strategies such as pass through entities (S-
Corporation or LLC’s)
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9. 6. Prepare and Execute a Business Plan
• Establish operational and financial plans and goals
for your business in one, three and five year
increments and share them with your employees
– Plans should take into account various economic, industry and
company specific scenarios and how management would react
to each
– Thorough planning creates roadmap for future growth, focuses
employees and management on quantifiable goals and allows
for better decision making
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10. 7. Seek The Help of Professional Advisors
• Qualified advisors can provide valuable advice as you
grow your business while also allowing you to avoid
disastrous legal, financial and operational mistakes that
may have significant financial consequences down the
road
– Accountants
– Attorneys
– Insurance Agents
– Investment Bankers
• Recruit a Board of Directors (or seek counsel from other
entrepreneurs)
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11. Pricing – How is Value Influenced?
• Review of factors that increase or decrease valuations of
businesses
– CBIZ M&A handles “middle-market” assignments – generally
companies with revenue between $10-300 million
– Valuation in the middle-market is typically expressed as a
multiple of EBITDA (Earnings Before Interest Taxes
Depreciation and Amortization)
– A M&A banker will also make adjustments to EBITDA to “add-
back” various expenses and personal perks that would not
continue under new ownership – “Adjusted EBITDA”
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12. Pricing – How is Value Influenced?
• Review of factors that increase or decrease valuations of
businesses
– To understand how these seven principals affect valuation, we
will walk through hypothetical valuation drivers
– For purposes of this example, based on our experience, please
assume that Company “A”, a healthy middle-market business,
has a “base” valuation multiple of 5x Adjusted EBITDA
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13. Pricing – How is Value Influenced?
1. Size – (as expressed in adjusted EBITDA) – a larger
business is viewed as having more stability (reduced
risk), is easier to finance, and generally will attract
larger and more financially capable buyers
EBITDA Level Multiple Adjustment
> $10 MM add 2x
$5-10 MM add 1x-2x
$2-5 MM no change
$1-2 MM deduct 1x
< $1 MM deduct 2x
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14. Pricing – How is Value Influenced?
2. Depth of management – does the company have a
deep and well-rounded management team?
Factor Multiple Adjustment
Deep Management Team add 1x-2x
One “Boss”/Limited Team deduct 1x-2x
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15. Pricing – How is Value Influenced?
3. Customer diversification – does the company have any
customer concentration issues (i.e. a customer
representing more than 20% of revenue/profit)?
Factor Multiple Adjustment
Diversified customer base add 1x-2x
Concentrated customer base deduct 1x-2x
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16. Pricing – How is Value Influenced?
4. Audited Financials – Does the company have audited
financials and a strong CFO/financial controls?
Factor Multiple Adjustment
Audited Financials/clean records add 1x-2x
Unaudited Financials/poor records deduct 1x-2x
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17. Pricing – How is Value Influenced?
5. Proprietary Products/Services – Does the company
have a proprietary or commodity product/service?
Factor Multiple Adjustment
Proprietary Product/Service add 1x-2x
Commodity Product/Service deduct 1x-2x
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18. Pricing – How is Value Influenced?
6. Profitability (expressed as a percentage (%) of
revenue) – What is the company’s EBITDA margin?
EBITDA Margin Multiple Adjustment
> 20% add 2x
15% - 20% add 1x-2x
10% - 15% 0x – add 1x
5% - 10% deduct 1x-2x
< 5% deduct 2x
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19. Pricing – How is Value Influenced?
7. Sale Process – Is the company only talking to one
buyer or has the company hired an investment banking
firm to create a controlled auction?
Factor Multiple Adjustment
Multiple Buyer Auction add 1x-2x
One Buyer Process deduct 1x-2x
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20. Pricing – How is Value Influenced?
• Two Strategies –
1. Strategic Sale
2. Leveraged Recapitalization
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21. Strategic Sale - Description
• Sale of the stock or assets of the company to a company
in the same business line or a similar business line.
• Sale can either be full or partial.
• Example: the 1996, $13.3 billion stock for stock merger
of Boeing and McDonnell Douglas, creating a larger
Boeing.
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22. Strategic Sale - Advantages
• Typically creates highest valuations (at transaction
closing) due to the value of synergies.
• Ideal for business owners who wish to maximize their
proceeds at closing and eliminate future risk
• Reduced post-closing role for selling shareholders.
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23. Strategic Sale - Disadvantages
• After a 100% sale, selling shareholders are unable to
take advantage of future growth opportunities.
• Culture of the company often changes to that of the
acquiring company.
• A strategic sale does not usually create an opportunity
for remaining management to obtain any ownership
stake.
23 Seven Steps
24. Private Equity Sponsored Recapitalization -
Description
• The sale of a portion (usually majority interest) of the
stock or assets of a company to a Private Equity Group
(PEG).
• A PEG is a firm that has raised a fund (or funds) to make
leveraged investments in privately and publicly held
companies.
• Ideal for business owners who need a financial partner
to pursue growth opportunities while reducing a portion
of their financial risk
24 Seven Steps
25. Private Equity Sponsored Recapitalization -
Description
• General Mechanics of Leveraged Recapitalization –
– Owner sells 100% of business –
• Receives cash (and possibly notes) and continuing ownership
interest in business
– Can be up to 49% as most PEG’s wish for majority ownership
– Continuing Ownership Stake is purchased on a leveraged basis (same
equity basis as the PEG)
– PEG and Owner work to aggressively grow business
– Company is typically sold (or recapitalized) four to six years later
– Attractive option if owner believes future value of business will
be materially higher than value at initial sale
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26. Private Equity Sponsored Recapitalization -
Advantages
• Allows ownership to monetize their investment in the
company, often maintaining a substantial (typically minority)
ownership stake.
• Ownership continues to run business
• PEG funds can materially accelerate growth through organic
and acquisition strategies as well as managerial assistance
• Provides remaining ownership with a “second bite of the
apple” when exiting the company.
• Post transaction culture of the company typically remains
intact.
• Potential opportunity for management to earn equity.
26 Seven Steps
27. Private Equity Sponsored Recapitalization -
Disadvantages
• The post transaction company is typically substantially
more leveraged than it was prior to the transaction.
• Enterprise values (at initial transaction) are typically less
than a sale to a strategic acquirer.
• Unlike a sale to a strategic acquirer, because selling
ownership typically reinvests in the new company, cash
proceeds at close are typically lower.
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28. Entity Structure is Important
• C Corporation
• S Corporation
• LLC
• Partnership
– General
– Limited
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29. Entity Structure is Important
• Stock Sale
– Buyer
• Takes entity liabilities and risk exposures
• No step up in basis of assets (lower
depreciation/amortization) absent § 338(h)(10) election
when eligible
– Seller
• Capital gains
• No continuing liability
• Transition may be secured by employment continuation
– May be required by current contracts not being assignable
29 Seven Steps
30. Entity Structure is Important
• Asset Sale
– Buyer
• Avoids entity liabilities and risk exposures
• Step up in basis of assets (higher depreciation/amortization)
– Purchase price allocation required
– Seller
• Different tax treatment between C corporations and pass-
throughs
• No continuing liability
• Transition may be secured by employment continuation
30 Seven Steps
31. Entity Structure is Important
C Corporations Pass-Throughs
• Generally limited to a Stock • S Corps, LLCs, Partnerships;
Sale (if corp gain on assets • Allows Asset Sale;
can’t be offset by NOLs); • Buyer get’s basis step up
• No Basis Step Up for Earnings • Seller avoids double tax and
Pre-Deal; basis increase for past
• Pre-deal dividend distributions earnings
subject to double tax • Post deal seller tax benefits
should drive higher purchase
price
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32. C Corp Conversion to S Corp
• Make sure you meet S Corp Eligibility Requirements;
• Elect S Corp Status
• 10 Year “Built-In Gain” Period;
• BIG Tax Paid on Conversion Date Gain in Assets if Assets disposed
within 10 Years;
• If Company is expected to appreciate substantially over the next 3-5
years prior to sale, this should be beneficial;
• Option to do a stock sale to avoid BIG tax still exists
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33. Recapitalization Structure
• Recap defined:
– Seller has a continuing interest
– Seller participates in future value creation to the extent of this
continuing interest
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34. Recap: S Corporation
• Use of LLC structure to facilitate sale can accomplish asset step up for
Buyer’s portion;
• Seller continues with a continuing interest;
• Target’s shareholders recognize gain (OI or CG) on the asset sale of
target’s assets;
• Special allocation of depreciation/amortization to the Buyer group;
• Be careful to avoid issues with continuing interest and anti-churning rules
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35. Recap: LLC or Partnership
• Seller continuing for a minority share can be accomplished more
easily with an LLC or Partnership;
• More flexibility in percentage interest retained by Seller;
• Buyer can get basis step up for consideration given to sellers;
• Special election made to achieve basis step up as a result of
purchase of seller’s units
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36. Recap: C Corp
• Buyer purchases majority control from seller;
• Buyer unlikely to achieve basis step up unless a deemed asset
election can be made and corporate level tax is sheltered as
previously mentioned
• Seller should receive capital gain on shares sold
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40. CBIZ Financial Solutions, Inc. Disclosure
CBIZ Mergers & Acquisitions Group is a division of CBIZ
Financial Solutions, Inc., which is a wholly-owned
subsidiary of CBIZ, Inc. (NYSE:CBZ)
Securities & Investment Advisory Services offered through
CBIZ Financial Solutions, Inc., member FINRA, SIPC
and Registered Investment Adviser
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