Business brokers are generally very diligent in working with sellers and their CPAs or financial advisors to ensure they understand what the Seller will likely net from a potential sale transaction. Frequently sellers comment when they see the potential net number that they don’t know if they can live on that amount. A possible reaction is for them to suggest to the broker, the sales professional, that they need to get them a higher price or cut their fees so they can net a greater amount.
This of course poses problems and potentially puts broker at odds with your seller. The business at any point in time is worth only what it can bring on the open market. What is a willing, qualified buyer, who seeks a specific return on investment with his or her interpretation of the risk involved, willing to pay? Generally, you cannot make it worth more than the market will pay.
Business Brokers perform valuable services, work hard, and earn your fees. The seller’s need for a higher net amount cannot be achieved by the Brokers sacrifice. Think of it this way: Let’s say for the Seller’s particular type of business the earnings (SDE) multiple is 3 and the earning/profit (SDE – Owner’s Benefit) is $100,000. Let’s use 10% as the Brokers commission. If the seller is like most of us, they send most of what we earn. Let’s say in this case he saves $30,000 per year (keep in mind the average savings rate is 5% in the US) and spends $70,000 (we will forget about Uncle Sam at the moment). So, in our example the business will sell for $300,000 the Broker will make $30,000 and the Seller keeps $270,000 (forgetting about Uncle Sam again). Bases on the Seller’s spending habits (270,000/70,000), this means that the Seller can continue his current life stile for just under 4 years. If the Broker made zero (0) commission, the Seller would be able to maintain their current lifestyle for a little over 4 year. The impact of the Brokers commission has little impact on the Seller retirement.
This potential scenario can be the product of short-sighted behavior patterns, unrealistic expectations, lack of proper planning, and sometimes just being uniformed. We encounter these situations on a too frequent basis:
- A primary goal of the Seller has been to pay the least amount of tax each year by limiting the profits realized on the seller’s business, regardless of entity structure.
- As the business has become more profitable over the years, the seller has ratcheted up spending to match.
- The seller has not taken stock of personal expenses the business pays on behalf of the owner and/or family.
- The seller has not considered how to pay for or replace those perks, post-sale.
- The seller has no idea how much money he or she will need post-transaction to maintain the current lifestyle.
- The seller is typically not well diversified financially and has saved very little outside of the business.
- The business usually represents the largest illiquid asset the seller owns.
- The seller expects the business sale proceeds, net of taxes and fees, to provide sufficient resources to maintain or increase his or her lifestyle.
- The seller does not know the range of value for the business in today’s marketplace.
Seller’s need to properly prepare, and they need to address these issues in advance of them consider selling. This might you avoid the worst outcome—they decline a sale after realizing the transaction will not provide them with the asset base needed to fund their future lifestyle.