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!

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.