Memorializing the Agreement to Sell Your Business

This post is the final post of our All Set to Sell series about preparing to sell your business.  If you would like to get caught up, click here.

As a small business law firm, we are reminded time and time again that putting agreements in writing during business transactions is vital in mitigating risks.  It may come as no surprise than every agreement made between you and your buyer should be in writing and signed by both of you.  Even if you are selling your business to a family member or trusted employee, memorializing the agreement is necessary in reducing your risk and realizing your business’ value.  Most of the signing occurs at closing, where you will want to be sure that all of the following documents are properly drafted and executed or agreed to:

  • Any post-closing adjustments that might need to be made even after you walk away from closing, such as finalized valuations of inventory, etc.;
  • The Purchase/Sales Agreement;
  • Ownership transfer documents such as lease transfer, vehicle ownership, succession documents, ownership of patents or other intellectual property, etc.;
  • Any non-competition or employment agreements you have;
  • The bill of sale;
  • A form for Articles of Amendment to free-up the name of your business to be usable by your buyer;
  • The closing sheet listing all of the financial details of the sale, i.e. how credits and expenses are to be assigned to each party;
  • IRS Form 8594, the Asset Acquisition Statement to be attached to your federal income tax return, which will show an identical allocation of assets between you and your buyer; and
  • The buyer’s payment, either in full or with a sizable down payment according to the negotiated terms.

This list is by no means exhaustive; each business sale presents its own unique list of documents needed at closing day.

After closing day, your involvement in the business sale is not over.  Your business transactional attorney will help you ease into a full transition of all transfers necessary to complete the sale of your business.  Bring any additional documents or agreements you need drafted to your attorney so that you can work towards turning the page and starting a new, exciting chapter!

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Know What You’re Selling: Your Risks and Devaluations

January, February, and March on our blog are all about preparing to sell your business.  If you would like to get caught up, click here.

   In the process of selling your business, you face the continual risk of devaluing your business for your buyer.  Having a team of professionals assisting you through the transaction is important, as these are the people who are there to help you achieve and receive the full value of your business.  There are three elements that you want to consider as you assess where your risks are in selling your business.

   The “Going Concern” Value. When you sell your business, you are not only selling tangible and intangible assets (real estate, equipment, employees, vendor lists, etc.) but you are really selling your financial viability and “going concern.”  In the world of business transactions, the “going concern” value of a business is defined as the expectation that your business will function and maintain the ability to grow even when you are no longer part of the business.  The accuracy and reliability of the financial information you give to your buyer is crucial if you wish to see the value of your business fully realized when you sell it.  A healthy “going concern” value communicates to your buyer that your business is in no need of liquidation, and that it can, in fact, continue to operate as it has been.

Elements that contribute to a healthy “going concern” value would be well-trained employees, up-to-date licensure, reputable maintenance of equipment and systems, etc.  However, if you are the only “glue” that holds these elements together, then the “going concern” value of your business will seemingly crumble before your eyes.

   Due Diligence. One of the most prudent ways for a seller to communicate the value of their business is through due diligence.  During due diligence, the buyer will request a “laundry list” of records, documentation, licenses, and contracts that will evidence your business’ value to them.  Your responsibility as the seller is to provide accurate and thorough information during the due diligence process, which will require your [team of professionals] to gather what the buyer is requesting.  Items often found on a list of due diligence would be agreements with vendors, tax returns, statements of profits and losses, business licenses, etc.  Have your CPA and your Attorney keep eyes on your due diligence, as they will provide you with the support necessary in communicating the full value of your business.  Due diligence can feel daunting, and often takes plenty of time to sort through, but it is the key to unlocking the value of your business and communicating that value to your buyer honestly and thoughtfully.

I have encountered business owners who, when selling their business, were willing to disclose anything and everything to their buyer when asked or requested.  On the other hand, there are business owners who are cautious when being asked for documentation or reasoning for certain operations.  Your business transactional attorney’s job is to help you mitigate risks when interacting with the buyer in one way or another.  That being said, when you work through due diligence and there are missing pieces where you simply do not have the documentation being requested, you should assume that you will need an explanation as to why there is a gap if your buyer were to ask.

Again, your team of professionals are here to act as a buffer for you so that your business transaction runs as smoothly as possible.  Your business valuation certainly relies on the cleanliness of your financials; it also relies on discretion and diligence every step of the way, and your team of professionals are in the business of discretion and diligence.

Know What You’re Selling: Who is my Buyer?

Take a look back at last week’s post about the importance of realizing your business’ place in your industry when looking to sell.

Business owners who are looking to sell often find themselves in one of two camps when it comes to potential buyers; either you are selling to a person or business that you are familiar with, or you are marketing your business to a broader list of potential buyers.  No matter how familiar or unfamiliar you are with your buyer, knowing both the entry cost to the industry and the fair market value of your business relative to the industry must be taken into consideration in order to reach the true value of your business.

Entry cost.  For those new to an industry, entry cost is an unspoken “fee” that the buyer is willing to pay, depending upon the level of rigor and complexity of the specific business operations of the seller.  Each industry—along with the business transactions that occur within that industry—will either have a higher or lower entry cost, depending upon the nature of the work done and the resources required to operate the business.  For example, a dental practice has a pretty high entry cost, because the equipment needed is expensive and requires being up-to-date with current medical practice.  The operations of a dental practice also come with proper record keeping and specific medical training for most of the employees that work there.  The owner of a dental practice should know before they sell that their buyer must be able to meet the requirements of this high entry cost.  An example of a business with a lower entry cost would be a residential cleaning business; the products and training needed to meet the value of the business are not nearly as rigorous or complex as, say, a dental practice.  This is not to say that a cleaning business has any less value in general than a dental practice; rather, they are two completely different industries and must be evaluated accordingly.

Fair Market Value.  You may be planning to sell your business to someone you have familiarity with, such as a key employee you have had for years, or maybe even a family member.  It can be tempting in these closer business transactions to rely on handshake agreements and trust between you and your buyer.  It is important, however, that you sell your business at fair market value, especially to avoid negative tax consequences.  Whether the business you are “passing down” has a high or low entry cost, you cannot make an exception on the price just because this is a person that you know, or that you trust with the operations of the business.  Selling your business to them at fair market value not only avoids red flags for the IRS, but it will truly give your business successor a head start in owning and operating a business for everything that it is worth.  Let’s put it this way: If this person is truly prepared to take on the roles and responsibilities of owning a business, then they will appreciate you selling your business to them for exactly what it is worth and giving them the opportunity to learn how to value this business as their own.

When evaluating your business’s place within the industry, consider what is required to maintain and grow it and always be mindful of the fair market value of the competing businesses in your industry; this will make your business negotiation a win-win for both you and your buyer.

All Set to Sell: Know Your Business’ Position in the Industry

January, February, and March on our blog are all about preparing to sell your business.  If you would like to get caught up, click here.

When preparing to sell your business, it can be tempting to dive in head first and cut some corners in order to begin the actual transaction.  However, the most successful business sales are those that are researched thoroughly before any papers are signed or hands shaken.  Specifically, you and your business transaction team (your attorney, your accountant, and your broker) should all be on the same page by establishing what exactly your business’ position is in the industry at large.  Some fruitful questions to be asking are: What do other businesses in this industry sell for?  How is my business valued in the scope of the industry as a whole?  How well has my business done, relative to the patterns of the industry?  These questions are foundational in beginning your business transaction on a strong foot.  Let’s look at three “pieces of the pie” that will help you to establish your context as you begin marketing your business.

  • Know your industry. Just like starting a business, the success of selling a business relies heavily on how well you know the industry.  Are you selling a dental practice, or a graphic design company?  Are you selling an appliance repair business, or an accounting firm?  It will become clear early on that every business transaction will look very different across industries, but there will be a pattern within the industry that you will not want to overlook.  Invest plenty of time in finding out what exactly the business transaction “check-list” looks like for your particular line of work.
  • Know your market share. Your research will begin to narrow once you have a deeper understanding of the industry you are in.  Next, you and your team are ready to analyze your market share; in other words, how competitive are your business’ products or services compared to the industry as a whole?  Your market share is calculated by taking your sales and comparing them to the industry as a whole over a certain period of time.  For example, if you sold $200,000 worth of lawn care services last year, and the lawn care industry in the U.S. sold $400,000 worth of lawn care services, then you business’ market share would be 50 percent.  This calculation is important in assessing and marketing the value of your business in relation to your competitors.
  • Know your company’s performance. Establishing your market share will lead right into assessing your company’s performance.  Analyze, with the help of your team, all the “ups” and “downs” of your business over time can be accounted for.  Moreover, this will ensure that the value of your business is marketed fairly.

In such a fast-paced world, there is great value is slowing down to do your research and properly assess the value of your business before putting it on the market.

Your Business Transaction Team: The Broker

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Note:  This post is the third in a twelve-week series called “All Set to Sell.”  See our introduction video here.  Even if the sale of your business seems far away, preparation for your business’ ultimate succession is invaluable. 

If you’ve been following along in our “All Set to Sell” series, it may not surprise you that a “handshake agreement” is not the best way to attain true value from selling your business. One way to protect your best interests in an agreement between you and your buyer is to work with a business broker, an intermediary in a business transaction who will know the ups and downs of the market.

Your broker should have both honesty and practicality in mind for your business transaction. A broker on the selling-side of a business transaction will:

  • Interpret the market. A broker will know who is buying what, and how to find the best potential buyers for your business who have the right resources and credibility.
  • Hold to confidentiality. The news of the sale of your business will be safe with your broker; that way, you can let your loyal clients, staff, and vendors know about the sale whenever you are ready to do so.
  • Exclusive representation. A broker should only represent one party in a business sale. This exclusivity gives you the assurance that everyone on your team is working in your best interest.
  • Take care of administrative tasks. Selling your business is too big an undertaking to be able to simply “google” everything you need to know. Your broker knows what paperwork is needed and when, and he/she can handle the correspondence between attorneys, bankers, accountants, insurance agents, etc.
  • Protect your investment. When it comes time to sell, business owners tend to over-value their business, assuming their assets are worth more than fair market value by considering all of the time, effort, and creativity they have put into their business. It is possible that the actual value of your business may not match the number in your head, but a broker will work to get you the best number possible with the right buyer, the right negotiation terms, and the right timing of any and all communication between parties. A broker can talk-up your business in a way they are skilled and trained to do, getting your selling price closer to that number in your head.

You will invest in a broker so that they can invest their time and resources into the sale of your business. Selling your business is likely to be a daunting task without the helping hands of a broker – he/she will be a great addition to your team!

If you found this post helpful, check out my posts about the business transactional attorney and accountant.

Your Business Transaction Team: The Accountant

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Note:  This post is the second in a twelve-week series called “All Set to Sell.”  See our introduction video here.  Even if the sale of your business seems far away, preparation for your business’ ultimate succession is invaluable.

How often do you consult with an accountant? Do you have a person in-house who does all your internal transactional work for you, or do you only seek out an accountant in times of need (i.e. tax season)? Either way, it is in your best interest as a business owner to develop a good relationship with an accountant, no matter how near or far a business transaction might be.

In the case of a business sale, there is a strong likelihood that your buyer will request accounting and bookkeeping records during the “due diligence” process that I mentioned in last week’s post. To both improve and demonstrate your business’ value to your buyer, having an accountant on your side will make all the difference. Failure to follow through on clean record-keeping and value-appraising will likely result in a much lower selling price than you’ve envisioned for your business.

So, once you have decided to bring on an accountant for this business transaction, what responsibilities will he/she take on? An accountant can …

  • Substantiate and, in other words, prove the value of your business, bolstering the validity of the selling price;
  • Produce for your buyer an accurate statement of all your business’ accounts and financial records;
  • Communicate efficiently with your buyer’s accountant;
  • Help you to strategically minimize your tax liability and consequently keep the most money in your pocket; and
  • Review your due diligence and make sure every piece has been taken care of.

Think of an “accountant” in the same way you view “accountability.” Your business transactional accountant is there to hold your business accountable, and demonstrate that accountability to your buyer so that both parties in this sale can have peace of mind.

Read my first blog in this series, which discusses the role of an attorney in your business transaction. Stay tuned next week, where I talk about the importance of a good broker.

Your Business Transaction Team: The Attorney

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Note:  This post is the first in a twelve-week series called “All Set to Sell.”  See our introduction video here.  Even if the sale of your business seems far away, preparation for your business’ ultimate succession is invaluable.

As a business owner, you may have consulted with an attorney back when you first opened-up shop to help you form and organize your company.  You may be working with attorney now for the purposes of general counsel or potential litigation.  So, it may not be a surprise that it is important to find a reputable attorney who will assist you in selling your business, too.  Your attorney can play several roles in a business transaction…

Reviewing organizational documents. Part of your business sale is to present up-to-date organizational documents and material agreements to the buyer, a job well suited for your attorney.  For example, your attorney can assist you in drafting annual meeting minutes (namely, declarations and resolutions) for your corporation; these minutes state resolutions about the sale of the business in writing and are signed by your board of directors.  Whether you are a corporation or an LLC, these formalities are necessary for being thorough in your business transaction.

Negotiating contract terms. Negotiating a business transaction is a lot like a serious dating relationship, as funny as that sounds. There are three phases:

  1. The “Dating” phase. In the “dating” phase of selling your business, exclusivity between you and the other party is established. When you first begin working with an attorney on the sale of your business, your attorney should prioritize a standard non-circumvention and non-disclosure agreement early on. Non-circumvention here means that, once both parties learn of the other party’s suppliers/clients, neither party can bypass the other party to get to those partners. Non-disclosure, similarly, is there to prevent either party from disclosing important information to parties outside of the business transaction itself.
  2. The “Engagement” phase. After establishing a protected exclusivity between parties, we enter the “engagement” phase of a business sale. This is the phase that I see business transactions regularly glossing over and under-emphasizing. The “engagement” phase should illustrate a level of earnestness and good-intentions between the parties; strategically, this means agreeing to as many terms as possible early on (i.e. Does the buyer agree to the purchase amount? Get it in writing). Moreover, this is the period of time when any of your confidential information can be handled securely. You and your attorney can take this time to work together to ensure that all agreements before the official purchase are memorialized and handled with care.
  3. The “Marriage.” Finally, there is the much-anticipated “marriage,” where both parties agree to and sign the Asset Purchase Agreement, which often happens shortly before closing. When “marriage” time comes, you will be happy you had that time to be engaged (but not quite committed) to your buyer, rather than jumping right to “eloping”! [Note: The document that acts as a contract for the sale of a company is often in the form of an Asset Purchase Agreement (though other types of contracts may be more suited for your goals, such as Stock Purchase Agreements or a Merger Agreement).  Your attorney is able to review this document thoroughly and revise the contract as needed to meet the goals that you and the buyer have agreed to.  The Asset Purchase Agreement is one of many documents that will finalize the sale of your business, including financing agreements, due diligence review, and any remaining ancillary documents.]

Preparing agreements for financing. Financing can be a very strategic move in a business transaction, especially if you are selling your business to a partner, friend, or key employee with whom you have a reputable relationship. Even if your business is going to a person you trust, your attorney’s counsel is very important when it comes to financing agreements in a business transaction.  If seller financing (allowing your buyer to pay over time) is the route that you and the buyer have agreed to, then your attorney can be sure that your transaction protects both you and the buyer from future risk.

Reviewing due diligence. Due diligence is a list wherein the party requests certain documents and proofs of the business you are selling (this might include financial statements, inventory, liabilities, etc). You will be thankful for your attorney’s attention to detail when it comes to due diligence in your business transaction.  Specifically, your attorney will do the heavy lifting of reaching out to necessary parties to obtain any necessary documents.  I will talk more in-depth about due diligence in a future post.

Transferring intellectual property. Does your company own any copyrights or trademarks?  If so, an attorney can be sure that those things are transferred to your buyer properly.  Stay tuned for a future post, where I speak more in depth about what “intellectual property” means, particularly in a business transaction.

All along the way, your business transactional attorney can make certain that all documents are properly signed and dated, and that all exchanges (tangible and intangible) are memorialized.

Consider your attorney your “documents expert.” He/she is there to ensure that your business transactional documents meet your succession goals, protect you and your buyer from risk, comply with relevant statutes, and uphold a standard of professionalism and thoroughness as you move forward with selling your business.

Not sure how to go about selecting an attorney to help you with the sale of your company? Take a look at this article published by the American Bar Association, designed to help you select the right attorney.