Coronavirus – The Perfect Storm – Part 2

Last month’s blog by our CEO, Achim Neumann, President of A Neumann & Associates, LLC, a New Jersey based mergers & acquisitions and business brokerage firm, was probably the most widely read and discussed blog we’ve ever produced in the past fifteen years.  A number of our readers asked us to drill down on the observations and recommendations contained in that piece, and this month’s blog is designed to do just that. I will focus on three topics: risk, timing, and preparation.

First, there is a cautionary tale about risk and timing.

One of our clients was in the roofing business.  In 2005 and 2006, he was approaching age 65 and thinking about retirement.  Business was great.  New construction was strong and the roof replacement market was booming.  He had a crew of several roofers, with subcontractors to handle the overflow.  Although wanting to retire soon, he just couldn’t.  Things were too good.  When we met him in 2013, things had changed dramatically.  In late 2007 and 2008, as the housing crisis and subsequent financial meltdown hit, roofing jobs evaporated.  By the time we talked about retirement and selling his business, his crew was gone, and although he was pushing 70, he was climbing roofs again himself.  When we performed a valuation of his business, it wasn’t nearly enough to support any type of retirement.  He was stuck.

The point about risk is that although a business is doing well and generating sizable cash flow, there are always going to be unforeseen risks – market risks, financial risks, and now, pandemic risks – that could disrupt any business of any size in just about any industry.

The point about timing is that it doesn’t work.  While in hindsight we can see that the roofer should’ve sold his business in 2007, nobody could possibly know enough to accurately make that call.  Timing simply doesn’t work.

So what does work?  Preparation.  We tell this to our prospective clients all the time, and a lot of them don’t take our advice.  For many, it’s just a case of the urgent crowding out the important.  Business is bustling, they have a million things to do – dealing with customers, suppliers, and, of course, employees – to take the time out to really focus on an exit strategy.  They promise to do it soon, but “soon” never arrives.

So what does preparation look like?  In our view, preparation first begins with operations.  It’s a sad fact that most businesses simply aren’t ready to sell.  In most instances they are too dependent on the owner for sales, customer relationships, supplier relationships, and unique operational expertise.  Likewise, clients may have weak or non-existent marketing, financial, human resources, and other key processes and procedures.

Beyond operations, businesses should always be prepared to actively execute a business exit strategy, even, and perhaps especially, now.  That means having a current, independent business valuation in place.  Valuations prepared through our firm, by our valuation business partners, reflect an objective market view of the worth of a client’s business as a going concern.  Our current guidance is to prepare valuations with the loss of revenue and profitability due to the coronavirus pandemic considered as an “extraordinary event.”

This means that to the extent possible, a temporary interruption in business operations will not be considered to be the new normal in calculating the value of an otherwise healthy and profitable firm.

And as the path to recovery becomes more visible, we, together with our valuation partners, are offering free valuation updates a year from now for valuations undertaken before June 30, 2020.

Upon completion of a valuation, should the owner decide to put his/her business on the market, there will be a number of factors to consider.  Depending upon the length and depth of any recession caused by the pandemic, it may be necessary to adjust the sale price somewhat or to alter the normal structure of the deal to reflect the uncertainty of the speed of recovery.  Deals can be structured so that if the recovery happens quickly, the owner can realize the value of the firm partly through a cash payment at sale, with the rest being available through an earn-out, the value of which would depend on the actual circumstances of the recovery.

As Achim, our President, indicated in last month’s blog, there is still a significant abundance of investable capital “out there,” and a major lesson learned from the 2008 financial crisis is that that buyers often look for “safe” mid-sized solid companies in which to invest. That’s why our firm’s buyer inquiries continue to significantly outpace seller inquiries.  Furthermore, the SBA has increased its lender guarantee and reduced up-front fees so that it’s easier than ever for a buyer to obtain funding for business purchases, and at rock bottom interest rates.

In summary, we say that there is risk in selling in this current environment, but there is also a risk in hanging on, and there is no way to “time” the market to guarantee the best result.  As a result, we recommend operational and financial preparedness, including taking steps to be ready to sell when a favorable situation presents itself.

We have created a Company Marketability Assessment that is available on our website for both clients and non-clients.  Please log on to www.CMA-Registration.com to participate in that assessment.