The Importance of Maintaining Confidentiality in the Business Sale Process

The Importance of Maintaining Confidentiality in the Business Sale Process

The Importance of Maintaining Confidentiality in the Business Sale Process

When a business owner decides to sell their business, one of the biggest issues discussed with Sunbelt Business Brokers is how to maintain confidentiality during the process. When a business owner states they want the business sale to be done confidentially they mean they don’t want the employees, customers, vendors, lenders, etc. to know the business is being sold or even that it is for sale. In addition, confidentiality means that none of the important and confidential information about the business should be tossed about carelessly and wind up in the hands of someone that could use the information to harm the business and the seller. The protection of confidential information is a very important element of buying a business in Texas.

Confidentiality Agreements

Confidentiality Agreements (CA) are also often called Non-Disclosure Agreements (NDA). Nearly every business owner and business broker will want a potential buyer to sign a Confidentiality Agreement before releasing information specific to their business. In all likelihood a CA will need to be signed before the buyer is even told the name or location of the business. It is very important that you, as a buyer, understand the requirements in the Confidentiality Agreement. You will be expected to honor what you sign and commit to do. Failure to honor the terms of the confidentiality agreement could subject you to legal action and possible damages. If you are unable to understand the terms and commitments in the Confidentiality Agreement please seek appropriate legal advice.

Common Elements in Confidentiality Agreements

Time Frame: You will be expected to maintain confidentiality for a specific time.

Return of Materials: You will commit to return or destroy the information at the request of the seller. This includes all hard copy and digital copies. The seller can insist that you do this at any time the seller chooses. Also, you will likely be required to confirm in writing that you have destroyed the information.

Restrictions on Use of Information: Confidential information can only be used by you to evaluate YOUR interest in purchasing the business. For instance, you cannot “pass it along to a friend that might be interested in purchasing the business. You won’t even be allowed to state the name of the business for sale to non-professional advisers. You can only release the information to your professional advisers(CPA, Attorney, etc.) who you must then advise that the information is bound by a confidentiality agreement. Furthermore, you will be responsible for what your advisors do with the information. Make sure you tell your advisors the information you give them is bound by a Confidentiality Agreement.

Employee Contact: You will likely be prohibited from talking to or contacting employees without permission of the seller. You will also likely be prohibited from hiring employees or providing information to anyone who could use it in another business to hire or recruit the seller’s employees.

Vendors, Suppliers, Customers, Lenders Contact: The same restrictions as Employees, basically, without written approval from Seller you cannot contact any of these parties nor provide information so that others can.

Important Note: There are many different forms of Confidentiality Agreements, some have many more terms and very different terms than above. Make sure you read the agreement carefully and thoroughly understand your obligations before signing any Confidentiality Agreements.

Buyer Insider Tip #1: In order to buy a business on the best price and terms it’s important for the buyer and seller to establish a good relationship. A buyer can get an advantage over other buyers by telling the seller they understand the need for confidentiality and that they will absolutely honor the non-disclosure agreement. The seller will appreciate it and will likely be more comfortable releasing the critical information you expect to receive.

Why is Confidentiality During the Business Sale so Important to the Seller and Buyer?

The sale of a good business is not like the “going out of business sales you see on TV. If there is a going out of business sale the business owner has no interest in preserving the ongoing value of the business. Their only concern is selling the inventory and fixtures. In selling a good business the buyer and the seller both have an interest in preserving the value of the business in the process. Obviously, the Buyer wants the value of the business preserved so that its continued success is possible.

Employees

When word gets out that a business is for sale often the employees assume the worst. Employees may assume the buyer is going to fire them. When buying a business a significant part of the value is in the trained employees. A business buyer does not want the employees to quit. The employees and buyer have a common interest to keep the employees employed in the business. If the business sale rumor causes employees to look for other jobs then the seller is harmed and the buyer is also harmed.

Buyers occasionally want to talk to employees before they buy the business to make sure they aren’t going to quit. This is almost always a bad idea for the buyer and the seller. What we have found works best in most cases is that the employees aren’t told of the business sales until the sale is complete and then the buyer and seller together announce the sale to the employees.That way the seller can endorse the buyer and the buyer can assure the employees that they all have jobs. This sudden announcement might seem uncomfortable but actually, it eliminates uncertainty for the employees that might be created if they hear the business is for sale weeks or months before an actual sale.

Buyer Insider Tip #2: As you near the actual purchase date work closely with the seller on a plan to announce the purchase to employees. Experience tells us you want to make the sale announcement on the first day of the work week so that you, the buyer, has all week to start building a relationship with the employees. You probably don’t want to announce a sale on Friday afternoon then send the employees home for the weekend to sit around worrying about things.

Vendors, Suppliers & Lenders

If suppliers hear a business is being sold they may choose to alter their credit policies until the new owner is in place. If a seller has a vendor that normally sells a product to the business and allows the business 45 days to pay the bill and, because of a rumored sale, changes its policy to want payment in 10 days, that could have a significant and harmful impact on the day-to-day operation of the business.

Customers

For retail businesses, the buyer usually has no concern about the need for contacting the customers before the business purchase. However, for business-to-business companies, there are often concerns and issues to be addressed. If the business has significant customer concentration issues (i.e.,one customer represents 50% of the total sales of the business) the buyer may want to have some assurances that the business will continue after the sale.These assurances can be provided in a number of ways. Examples are contracts in place and/or service agreements that can be assumed by buyer. The Seller and Buyer must work together to determine how to accomplish the goals of both parties how to complete the business sale without damaging the business and also assure that the buyer has a good opportunity to continue the relationship with the customers.

Business Insider Tip #3: Virtually all business sales have a few areas where the buyer and the seller need to be creative to resolve a risk issue for the buyer that is a confidentiality issue for the seller. Buyers who work with the seller openly, reasonably and respectfully usually end up with the most favorable solution.

A Prepared Business Owner’s 9 Step Strategy to Sell a Business

A Prepared Business Owner’s 9 Step Strategy to Sell a Business

As every entrepreneur knows, selling a business is a big event, a milestone toward the next phase of life.  The majority of business sales are triggered by unexpected events in the owner’s lives. If you’re not prepared to sell, it is more likely that your transaction will be at a greater disadvantage, potentially reducing your overall valuation or causing a more problematic sale. It is very easy to get caught up in the daily business operations, leaving you more vulnerable should an unexpected event occur. Plan ahead with an exit strategy.

Planning Ahead: A Business Value Insurance Policy

Business owners buy insurance in hopes that they don’t need it, but when they do need it, they are very happy they have it. Often the insurance is for events that might cost them as little as $1,000. Being prepared to sell your business when you’re not planning to sell is like having a “Business Value” insurance policy. Without preparation (your insurance) you are “uninsured” for the loss of business value, which can cost hundreds of thousands of $$ or more.

1) Financial Statements.

Make certain your financial statements for at least 3 years are accurate, accounting practices are consistently applied year-to-year and all of the assets and liabilities on the balance sheet are accurate.  Here’s a good guide to what’s important in your business accounting.

2) Dispose of unused equipment.

Scrap or auction it, but get rid of it. You’re selling a business, no need to have useless equipment lying around.

3) Clean out dead or slow moving inventory.

Business owners often think that obsolete inventory doesn’t cost anything to keep on hand and maybe one day you’ll get a call from a customer needing that exact item. Get an accurate count of all your inventory, then get rid of the slow-moving or stagnant items.

4) Make sure your employment practices are documented and applied properly.

Is overtime being paid properly? Are your 1099 independent contractors classified properly? Have your employees been screened appropriately for their jobs?

5) Check your books.

Make sure the expenses recorded on your financials are all legitimate business expenses. The cleaner the books the higher the price.

6) Clean up any old partnership or ownership issues.

7) Make sure your tax payments are all up-to-date. Sales tax, FICA, etc.

8) Get an appraisal.

Have a business valuation or business appraisal done on the business so you can determine if the value of the business is adequate to provide the cash needed to secure your future.

9) Talk to your accountant.

Look at your corporate structure and determine what tax issues will need to be resolved to maximize the after-tax proceeds in a sale. Are you still a C Corp? If so, talk to your accountant to see if changing to an S Corp would benefit you in a sale.

Reduce the Risk

Why do these things increase the value of the business?  Because they reduce the risk to a buyer of a business. The lower risk for the buyer, the higher price a seller can expect.  In my 20 years managing business sales, I have found that the most successful business sales are completed because a business owner was PREPARED to sell when the opportunity arose.

Business Owner Year End Tax Planning

Business Owner Year End Tax Planning

A common comment we hear from business owners who contact Sunbelt Texas about selling a business is “I didn’t know a year (or 2 or 3) ago I would be selling my business so soon.”

Before you file your taxes, keep in mind that a buyer and the buyer’s lenders will look very closely at the financials of a business for 3 full years. That means that if you sell your business in 2020 or sooner, the Tax Return you’re about to file could have a significant impact on the value of your business.

Do your business tax returns clearly and accurately reflect the earnings of the business?

Tax Planning for a Future Sale

Here are 4 areas that we often see need significant improvements to obtain the highest value in the sale of a business. Talk to your CPA about how you can move ahead to increase the value of your business.

Inventory

  • Do you have an accurate inventory count and value booked into your financials?
  • Is all of your inventory in “good and saleable” condition?
  • Do you actually know what your inventory value is?
  • Have you written off the old and obsolete inventory?

Accounts Receivables

  • Are all your receivables good and collectible?
  • Have you written off the A/R you know your odds of collecting are remote?
  • Do you have customer deposits intermingled with the accounts receivables?
  • Do your receivables reflect what is actually owed to you by the customer? (We see companies that when they get a customer deposit for a job, they book the whole job as a sale and book the deposit as a partial payment even though they haven’t actually earned the sale yet)

Employees

  • Are your employees classified correctly 1099 vs W-2? Are your 1099 contractors really employees who should be classified as W-2 employees. (This is a very big issue and the government has an active program to crackdown on this….and the penalties can be severe).
  • If your 1099’s are really 1099’s, do they have an entity (i.e., LLC, S Corp, etc) you pay?
  • Do you have a properly written and valid independent contractor agreement with them?
  • Are your W-2 employees correctly categorized as hourly vs salaried and paid accordingly? You don’t want to lose a claim where, after years the employee claims you owe them thousands of hours of back overtime pay.

Owner Benefits and Compensation –
This is VERY important and can dramatically affect the value of your business:

  • Are the compensation and benefits received by the owners easily identified and properly booked on the financial statements and tax returns?
  • Do you have significant expenses that are not directly related to the business, expensed through the business that are buried in the company expenses?
    • Travel?
    • Entertainment?
    • Expenses run thru company credit cards?
    • Personal vehicles?

Tax Planning Action Item:

If your objective is to sell your business one day then you should get your financials in condition for easy due diligence and maximum value. “Burying” personal expenses in the business financials will reduce the business earnings and reduce the value to a buyer.

Our advice is for business owners to take any compensations as salary, bonuses and draws. Running non-business expenses through the business financials creates problems for proving the earnings in due diligence and raises the risks associated with potential tax liabilities

Conclusion

The most important element of business value is clarity of the business earnings and reduction of the risks associated with all aspects of the business. A buyer will only pay for the earnings that can be proven and the risks a buyer sees drives the multiple buyers will pay for a business.

A business with the lowest perceived risks will command the highest price multiples when being sold.