Current Market Conditions For Selling Privately-Held Companies

M&A activity surged in 2010, and the year's valuations for transactions under $50 million exceeded the average for the past 10 years.

The inflated valuations of 2006-7, followed by the burst-bubble reckoning of 2008-9, are behind us, and thankfully, we're back to a more normal market.

We have several reasons to believe that activity will accelerate as more companies realize that the opportunities to come to market are now too good to pass up.
  1. The tax rate for sellers is at a historic low, but is highly likely to go up at the end of next year
  2. The cost of debt to acquire companies is at a historic low, but likely to increase later this year
  3. The general economy is improving, so buyers perceive it less risky to acquire
  4. U.S. corporate balance sheet assets are historically high, much of which will go toward making acquisitions
  5. Private equity buyers must spend their investors' funds, with over $400 billion needing to be invested
  6. Many companies that survived the downturn have improved their operations, thus improving not only their attractiveness but the aggregate attractiveness of the market
  7. Now that the Baby Boom generation is starting to retire, bringing more companies to market, competition for buyers' attention will only increase in coming years
At least daily, we are approached by corporate buyers and/or private equity investor groups seeking to acquire all or a part of mid-sized companies, across a number of industries.

Effect of the Economy and M&A Market

It is a truism in our industry that the best time to sell a company is when it is doing well and when the market is up, as that is the condition most attractive to buyers. 

Declining growth may make the sale more challenging, but it does not mean that it cannot be done, or that sellers must sell at a fire-sale rate to move their companies.  We have buyers who seek these opportunities.  Also, there are ways to structure a deal to mitigate buyers' concerns and achieve an outcome satisfactory to both parties.

In any case, the economy will influence the prospects of a company for sale.  As part of the service we provide, we counsel our clients on how to respond to the current market conditions, in order to best position their company for sale. 

But, "Sell When the Market Is Up" Is Too Simplistic

If you are considering selling the company, it is important to remember that the optimal time to do so is driven partly by internal and partly by external factors.  There are too many factors at play to boil that weighty decision down to a simplistic "sell when the market is up." 

Personal needs trump all others.

While the general economy is stabilizing, your industry may not see an "up market" again for a long time (this varies considerably by industry).

Trying to align all market, company and personal factors perfectly may result in missing the best opportunities for you or your company.

Other Factors to Consider

Here is an incomplete sampling of factors to consider.

Effect of Tax Code Changes

While it is not yet a legislative certainty, business owners must plan for an increase to the capital gains tax rate at the end of 2012.  The current maximum 15% capital gains rate will increase at the end of 2012 if no legislation is passed by Congress to extend the current, historically low rate (doubtful).

The large federal deficit must be addressed, and regardless how one feels about the political issues associated with changes to capital gains, it is only prudent to assume that it will happen.
For owners even vaguely contemplating a sale in the foreseeable future, it makes sense to begin the process now.  The net, after-tax effect of selling in 2011-12 versus 2013 may be substantial.

Burnout

Owner(s) who feel burned out and have lost their enthusiasm for running their company probably do far greater damage to their prospects for optimizing the sale price than a down economy.  The same notion applies to entrepreneurs who already have shifted their enthusiasm to the next venture.

Inability or Insufficient Capital to Take the Company to "The Next Level"

"There is at least one point in the history of a company when you have to change dramatically and rise to the next level of performance.  Miss that moment, and you start to decline."
 - Andy Grove, Former CEO, Chaiman, Intel Corporation

A company that is not actively pursuing growth will fall behind in its market. Companies must "keep running" to stay ahead.  After a certain point in the company's growth cycle, founding management of a company is often not the best team to manage the company in the next phase.  Additionally, it may be hard to raise growth capital if lenders do not feel that the right management team is in place.

In some cases, shareholders may build more wealth by selling and reinvesting the proceeds of the sale than by continuing to run the company. 

Effect of Interest Rates

A key factor in the sale rate of privately-held companies is interest rates.  While the currently very low interest rates are not a panacea for the overall economy, they definitely provide a business stimulus and are favorable to sellers and buyers of companies. 

A number of macro-economic factors point toward higher rates in the second half of 2011.

Debt Financing Availability

The traditional lenders such as banks are funding creditworthy deals, however their definition of "creditworthiness" is more restrictive than a few years ago.

Lenders look much harder at the creditworthiness of the acquirer and the acquired company than previously, and are generally much more risk averse than before.

Fear has been pervasive in the market, and has significantly disrupted it.  This problem is resolving somewhat, and there is plenty of private equity capital available to fund the acquisition of small companies.

Equity Capital Availability

At least daily, we have private equity investor groups contact us expressing a desire to acquire certain company types.  There is a surplus of equity capital in the market looking for good businesses to buy.  These funds raise money on behalf of investors, and are beholden to invest it for them.  They will fund acquisitions with a combination of that equity capital plus debt.

Typically, they are interested in retaining current management's involvement with the business, at least in some temporary capacity.

These acquirers generally seek companies making at least $1+ million/year in earnings before interest, taxes, depreciation and amortization (EBITDA), but in some cases will even consider unprofitable companies.

Effect of Corporate Layoffs

Corporate layoffs tend to introduce more individual buyers to the market, often with severance packages, 401 K's and IRA's that can help fund the acquisition of a company.  This factor tends to have a greater influence on very small companies than mid-sized ones, but nevertheless it is not uncommon for corporate executives with significant management experience and access to funds to acquire mid-sized companies in partnership with other buyers, such as private equity investors.

Overall Expectation - Transaction Timing

One effect of the economic downturn has been to slow the transaction process.  Acquirers, and their lenders, are more risk-averse and spend much more time in due diligence.
Including time to prepare the company, you should plan for approximately 6-18 months from establishing a relationship with us, valuation, company preparation, marketing, through closing the deal.  It may happen sooner, but this is a reasonable planning horizon.

Conclusion

If you want to sell your company soon, it would be wise not to delay the process, considering the possibility of a longer sale process and possible tax code changes.

Keep running the company as though your intent were not to sell.  Consider trimming discretionary expenses to maintain profit margin, but do not risk losing valuable employees, distribution, key contracts or consumer sales by cutting core costs.

Have your accounting advisors get your financial reporting system and statements in pristine shape, as this will greatly enhance the likelihood that the deal will close.

Be prepared to help a buyer understand what is required to maintain growth during a down economy, and by doing this, demonstrate that your company can weather the storm.  This will enhance the desirability of your company.

Please see When to Sell A Company also.