The Business Side
While doing seminars, I have been taking a very unscientific survey asking many questions including, “How many in attendance plan to retire in the next 10 to 15 years?” As many as 60 percent of those present express a desire to be retired in this time frame. The second question I ask is how many people are currently making plans on a transition of their companies to other owners. Usually about two or three raise their hands.
This column is not only for those who plan to retire, but also about great opportunities for those younger surveyors dreaming of one day owning their own company. Looking around at survey conferences and seeing a great sea of gray hair tells me that we are going to experience a great shift in company ownership in the very near future. So, let’s look at the answers to the following questions:
When is the right time to prepare for an ownership change?
- How do I get the company ready to sell?
- How do I know what the company is worth?
- How do I find or attract buyers?
- How do I limit the amount of taxes I pay on the sale of the company?
- Do I meet IRS rules on company value?
- How can I help the new owner to be successful?
- How do I preserve my good name after the sale?
I’ll explore the answers to the first four questions this month and the other four in the next column in July.
Question One: When is the right time to prepare for an ownership change?Most companies go through three distinct phases. First are the formative years—the period where a company struggles to get started, establishing itself in the marketplace and building a client base. The second phase is the middle life of a company that provides a living for owners and employees. The third phase is a natural slowing down, usually when the owner or owners are comfortable in their lifestyles and want to start enjoying other things in life besides working. It is during this slowing phase that owners need to start looking at how to transition out of the company into retirement or allow time to explore other interests. For most owners, this is about age 50. The telltale sign of this phase is the lack of desire to work 80-hour weeks to pursue every job.
At this juncture one needs to make some very important decisions. The most important is if the owner(s) wants the company to continue after he or she retires. A company can run as a cash cow, that is to extract all the profit while running the company and close the doors upon retirement. This is a viable business strategy. Another consideration is for the company to continue with its existing name. Another option is for the company to be sold and renamed to reflect the desires of the new owners. All of these options require pre-planning long before the close or sale of the company. To maximize the return, 10 years is not too soon to start the planning.
Question Two: How do I get the company ready to sell?At this phase, owners need to stop and look at the items that affect the possible price they could receive for the company. The most important aspect of this is the profitability over the last five years. This is greatly affected by geographic area. Most successful companies are located in or near a large population area. The way to develop a company in a more rural setting is to work over a larger geographic area. To build value in the company, one may want to consider moving the company to a more robust business climate or work over a larger area. Pricing structure is also important in making a company profitable. Have you over time been able to demand excellent rates for your services from valued clients? Maybe this is the time to start raising your rates. If your work backlog is more than a year, maybe you work too cheap. The only reason most clients will wait for more than a year to have a survey done is for a cheap price.
Another item that greatly affects the value of a company is the technology being used to develop the products. A company that does not use total stations with data collectors possesses equipment with little value for the sale of a company. This is also true of four- or five-year-old computers. The training of the staff is also an important consideration in determining the value of a company being sold. This may be the time to start upgrading these items, looking forward to receiving top dollar for the company when the time comes to sell.
Question Three: How do I know what the company is worth?There is a short and long answer to this question. The short answer is to know what price the company will bring on the open market. The longer answer is more complex. Remember that we can only sell these survey/engineering businesses to future owners registered in the state where the business is located. This greatly reduces the pool of potential buyers. Another important consideration is that many potential buyers are recently registered and not able to come up with large sums of cash. These facts determine that a company is seldom worth the value the original owner would like to realize from the sale. This, however, does not mean that the original owner cannot sell the company for a fair price if the proper planning is in place to make it happen.
This is a good time to stop and look at what the traditional value of a company may have been just a few short years ago. Many engineering companies sold for one-year gross revenues. To come up with this value, most companies included good will. This was for the most part the client base of the company. A new owner could borrow money from a bank on good will. One big problem with selling a company today is that the owners want to hedge their bet and wait to see if some large company will come along and pay them one-year gross revenue. While I will not say this does not still happen, it is rare and only with special types of companies such as aerial mapping and GIS firms. Most companies today sell in the 30 to 50 percent of one-year gross revenues. The main reason is that there is no client loyalty and banks will not loan money on good will. This is also true of doctor and lawyer practices. Today it is easy to borrow money or lease equipment and go down the street and open up a new business.
Question Four: How do I find or attract buyers?This question also has two answers. The most common way is to wait until you are ready to retire, then run an ad in a publication such as POB. I am sure there are some in this issue. The problem with this approach is that you are limited to a buyer that just happens to see the ad and is currently looking for a company. In many cases the buyer is registered but not in your state. Another way to attract a buyer is to offer the company as a branch office to a larger firm that wants to provide services in your geographic area. As the number of companies becoming available increases, the competition among sellers will tend to drive the prices down. I am sure as more companies become available, there will be brokers of survey businesses that offer their services.
Are you now ready for an internal sale of the company? Maybe the way to maximize the sale of the company is to develop the future owners of your company within the company. I see many advantages to this method. This is a method that needs to start years before you are ready to leave the firm. First you have the registration problem solved, as you will only consider employees with their registration. Second, you have the time to train them in the management of the company. Third, you can work with them on ways to accumulate the money. I do not believe in giving employees stock, but a system can be set up whereby they are investing in the company as the present owners are working their way out the back door. The biggest problem in making this work is a reluctance by the present owners to set up and execute a document that will let this buyout procedure work. Current owners many times keep promising the company to employees, but in reality are holding out for that big company to come along and offer the big price. Buyers beware! Set a deadline on how long you will work for a firm under a promise to sell you the company without a written agreement. I know of many cases where the employee continued on for many years working under the promise of ownership, only to see the company sold to another buyer at the last minute. Future ownership could be a tool used to attract the best and brightest employees to your firm.
In the next installment of The Business Side, I’ll answer the last four questions on how to buy or sell a company. The future looks bright for both the seller and the buyer; the trick is to have the right plan in place. If you fail to plan, you plan to fail.