Musings on business value, sale preparation, sale negotiations, sale structure.

Archive for the ‘Negotiation’ Category

Buy-sell agreements

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The scenario in many businesses which have two or more shareholders, is that if one of the shareholders is to die, the shares he owns are, through the process of liquidating his estate, handed on to someone else – his heir or heirs.

This might not be to the liking of the other shareholders, so to forestall any unforeseen effects, they agree (while everyone is alive and kicking) that in the event of the death of any of them, the others will buy the shares of the deceased. It is usually a non negotiable item; after all, who really wants “that woman” kicking around in AGMs asking awkward questions, and grinding away at that axe?

The event is insured by way of life policies owned by the other shareholders on the lives of one another. The arrangement is all good and well.

But what amount is insured for? Some training documents for the brokers actually call for using “an arbitrary value” as the business value. Then there are some other arrangements involving lose multiples of various outcomes.

If that seems like a recipe for dispute; well that’s because it often is. Why should Mrs Axe Grinder be paid for her late husband’s shares at a 30% discount to real value? In particular, why should she settle for that when her brother in law is a hotshot attorney who knows the Companies Act, even more particularly, has an intimate understanding of sections 163 and 165? You have probably guessed by now that those sections hold some magic; and they do: They provide all sorts of natural South African remedies for minority and other shareholders who feel they have been treated unfairly.

Conversely, what if the business is not worth quite as much as the life insurance person thinks it is, and the shareholders spend some years betting on a book at too high a price? Sure the money will be paid out, and it may be a very good deal for the deceased’s spouse, but perhaps the surviving shareholders think that it was all a bit rich, particularly when they are all young and fit, and he is fat, flourishing, and somewhat less than fit. They will have had to pay over the top on two accounts – the dead partner’s insurance was more expensive than theirs, and the business is not worth nearly what they have been paying for.

Just a thought…

We have many clients who have their business value reviewed on an annual basis, and in a way which allows for the value of the business to be decided fairly in the event of the mid term death or disability of a shareholder. So there is a defensible way of dealing with annual sales cycles, quiet times and peaks.

If you have partners, shareholders or investors for whom this would make a difference, and want to explore some easy way of making it happen for you, please drop me an email on


Best in the west

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There is a lot to be said for the west.

OK, so there is at least something to be said for the west. I grew up on the West Rand, and I still play games there. As stupendous as the discovery of Homo Naledi is concerned, the truth has been exposed: Ultimately we all originated from the West Rand of Gauteng. Yes, even Donald Trump and Jacob Zuma! But not Zwelinzima Vavi. Of course we’ll know for sure in about fifty years when the scientists have stopped arguing with one another about different theories.

“The best in the west” has a nice ring to it – a marketing call from the last century. Beyond the metaphor, it is what we are after. Consumers look for it in their monthly grocery shopping. We argue about the best cell phone signal. We haggle about value in the housing market. It is what business buyers are after.

Given the choice between two businesses, any investor will take the one which offers the best value for his investment Buck. In making that consideration he takes a lot of his own intention into consideration, but (more metaphors) “first impressions count”.

The initial presentation is absolutely key to the consideration he continues to give the prospect.

So it is with some trepidation that any investor will continue to look at businesses which struggle to produce a set of financial statements for the last few years, who take weeks to provide the latest management accounts, and which cannot easily provide details of the owners’ drawings, loan accounts, and other elements of value to the decision making process.

While these unnecessary delays are happening, there are other better prepared businesses out there competing for the same investment Buck. It is a hardy and dedicated investigative investor who will stick around with his decision making until the seller’s accountant comes back from leave, and starts putting the numbers together.

There are easy and well practiced methods of getting acts together, painlessly and in good time.


Options yield results

The first decent size business I sold in this century was at the dawn of the century. It was a wonderful operation; it was priced right, easy to run, a money spinner, recession proof, Rand hedge… all the good things. But the seller really needed to move on in his life. He was living to an emigration timeline.

We’d had several interested buyers traipse through the factory, drink coffee, ask lots of questions, and move on. In our very respectful way, we had been careful to space the potential buyers far apart so that they never ran into one another, and we gave them lots of time to ask questions… Always the same questions. Always the same answers.

Then my seller had to go overseas for ten days. During his time away I arranged to see at my office, as many new potential buyers as possible. For three days I saw one buyer per hour. It would have been murderous if the documentation wasn’t so well prepared. On the fourth day I arranged a factory visit at 4pm, as everyone was knocking off for the weekend. There were close to twenty different potential buyers present.

I addressed them all to the effect that this was a site visit only. I would answer questions to do with processes, markets and opportunities. All financial questions had already been dealt with, and there would certainly be no discussions about price and terms of the sale in such an open forum. These rules were mostly adhered to by all present. We walked through the factory together. They sniffed the air, they ran their toes through the dust, they kicked some tyres.

At the end of the visit, everybody was quite clear that they were not operating in a vacuum as a single buyer. In other words, they all knew that we had options.

The following week I was able to present four offers to my seller. He took a clean deal which gave him about 50% more than he had originally wanted.

If you have options you are likely to have control of situations. If options exist, you as a negotiator can get up from the table and walk away. Options yield results.

Those options begin early in the cycle and continue through it, with options for:

  • Knowing what the value of one’s business is. This knowledge gives options as to what to do to increase value if necessary, put selling plans on the backburner for a while, or in fact selling the business now.
  • Knowing that it is safe to sell a business either as an asset deal or an equity deal, because the legal framework is in place to do either deal.
  • Taking a business to many different potential buyers, willing and able to do a deal. Having only one buyer places unnecessary pressure on a seller to do any deal that offers itself. Buyers know this. Turn the tables.

Getting hoofed in the eggs

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“You are to terminate all discussions with other bidders and engage exclusively with us and our funders to enable us to assess the business in more detail”.

So reads a sentence within a paragraph, within a letter of intent, all dressed up to look like an agreement of sale.

To be fair, the business owner does not sell businesses every day, and the unsolicited approach had come at a time when he had once again started to toy with the idea of a retirement away from the traffic, the staff issues, the currency volatility and the elections.

The clear requirement of the purchaser is to have the beach to himself for a while so that he can install his own fishing nets. If the fish don’t bite, he is happy to let everyone else in to cast their lines. In the meantime the biggest fish may have been driven to the adjacent beach where his cousin has sole fishing rights.

Even if your intention is to sell to this single buyer, you owe it to yourself, your spouse and your kids to be a little more circumspect in giving away sole fishing rights to people who are vague about their intentions.

Nothing keeps a business buyer more honest and focused than the possibility of some competition skipping down the sandy dunes with bait, tackle and a cooler box.

Nothing is more at risk than a basket with all your eggs.

Sometimes having too many metaphors in a single blog entry is beyond the pale.

Trust your professionals

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Peter Carruthers wrote about it many years ago in his book Crashproof Your Business: Apart from much of the information he gave about frustrating creditors, he was particular about the wealth of experience a banker has versus that of a business owner when it comes to negotiating a loan. The banker does this every day, the business owner does it from time to time when he is under severe cash flow stress and will agree to a lot of silly things.

Similarly with selling a business. You will only do this a few times in your life.

  • It is probably not wise to ignore your tax professional who knows what tax laws changed yesterday. Some probably did change because they seem to change almost every day. Tax professionals do this work every day.
  • Using a lawyer is probably a good idea if there are any contracts to be signed. There are contracts. It is probably not a good idea to ask a friend who has been exposed to a few M&A deals for a listed giant to look at it for you. He would have had a team of lawyers covering his back. Lawyers deal with contracts.
  • Listening to your accountant and talking to him about stuff is also probably quite high up there. Accountants work with numbers all the time.
  • Using some sort of intermediary to negotiate the deal for you works well if you choose the right guy. They negotiate deals every day.
  • You continuing to run your business is probably the best thing you can do. None of the professionals mentioned above would dare to tell you how to best manufacture your widget. That’s something you do every day. That’s why you have a decent business for sale.

Why do I write this?

  • I am busy dealing with a divorce attorney who believes he can just as easily peruse and redraft (read: “cock up”) a commercial contract. The rules around conditions precedent are beyond him.
  • I am dealing with a book keeper who believes that he knows how to value businesses. He does not have the first clue. His 30 year old text book from varsity is not a lot of help, and nor is Google. Neither of those sources know a lot about what is happening in South Africa this year as regards buying trends, prices being paid, interest rate movements, developing alternatives and much more.
  • Another book keeper believes she is a tax expert. Something about a course she did five years ago. It may mean the difference between her client paying 13% tax and 34%. That difference alone, in this instance will be enough to pay all the best professionals, and still have a lot of money left over for some fun and games.
  • I am dealing with a jaded senior executive who sometimes gets to have another look at an agreement for his friends, when he gets home at night, and certainly after he has had his quota of Scotch for the night. He has negotiated multi hundred million Rand deals before. This little R5M deal is a walk over. Unfortunately for his friends, it is the only R5M they have. They deserve better treatment. The erratic and conflicting changes he keeps making late at night to their agreement means someone else will buy the business before they do. At least his ego is getting a good rub down.

So I suppose that further than listening to your professionals; choose the right professionals.



Long arms and preparation

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So we all know that the true value of something is the price that:

  1. is actually paid for it
  2. to a willing seller
  3. by a willing buyer
  4. in an arms length transaction
  5. with no hidden agendas between the buyer and the seller,
  6. the buyer being aware of what he is buying.

There are so many hidden things in there, it is almost unbearable: The agreed price has to be paid. It’s no good that you get an unbelievable offer on your business, the documents are signed, but you never receive all your money. While in certain industries and in certain leagues businesses do change hands with very little due diligence being conducted, particularly where other agendas are involved, the result does not represent true value, even if the seller and the buyer are in agreement, and the money is paid.

As a friend and client said to me at the end of last year, after the prospective purchaser had left the building: “Talk is cheap”. A buyer, prospective or actual,  will only ever part with his money when he is convinced of everything, if there is any substance to the buyer. As it happened in that exercise, the promised deposit was not paid, and still has not been paid. Had the agreement been amended in accordance with the buyer’s wishes, the seller would be sitting with a huge problem already.

I first saw that particular manoeuvre about twenty years back, when I was caught out. Since then it resurfaces regularly. I call it the Hindlick Manoeuvre: Once the buyer has the seller in the desired position, he says to him: “Lick my bottom*”. And then the nightmare begins.

Due diligence (DD) is a particularly strong tool in the hands of the seller if used correctly, and planned for well in advance of actually selling the business. The idea is that a DD should only be conducted on business sales once a price has been agreed and the purchaser is tied up properly, subject to the performance claims being proven. And that is where good preparation is key.

As a small business owner, you are potentially at great risk to competitors in a DD exercise. If there is a gap for a buyer to walk away having studied all your secrets, your business could lose a great deal of value immediately.

Do it like this:

  1. These are the performance figures of my business.
  2. If you like them, let’s agree a selling price.
  3. You pay a deposit into trust, to be paid out to me when the DD is completed, and I have proven my figures to you.
  4. You may not start the DD before your deposit is cleared.
  5. Ok, now the agreement states that if I have lied to you about the performance of the business, you (Mr Buyer) can walk away, or we reduce the selling price with this formula.
  6. If you do not pay the balance of your purchase price after the DD, then you lose your deposit, and will be sued for the balance. I keep my business.
  7. The DD is only about the figures I have represented to you. You cannot bring in other extraneous market analysis, “gut feel” woowoo information later, as an excuse to not consumate the deal. If you are uncertain about those things right now, go away and sort yourself out before we agree on a selling price, and sign this document.

There is no guarantee here that the seller is perfectly safe, but the odds have been shortened considerably in your favour. This is a game for big boys. Not for desperate folk with little experience.

And things still do go wrong.


*Not actually “bottom”.

Retrenchment liability

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So often I speak to sellers of businesses who tell me how concerned they are that the future of their staff will be safe after their businesses have been sold.

While this may be an admirable sentiment, it is rather more self serving than the sellers often realise. The failure of the purchaser to look after the business, keep it afloat, and keep the staff employed is something which should be rather closer to the heart of the seller than one would at first imagine.

For many years the common wisdom is that one only ever sells the assets and goodwill out of a company, and never the shares of the company. This is for reasons of safety. If you have signed any sureties on behalf of the company… and so on. That approach is rapidly changing to one of making darn sure that sureties are dealt with well in advance of a sale, and then selling the shares. The reason is all about capital gains tax and dividends tax. 34% versus 13% from one approach to the other.

Here is another consideration: If you sell the assets and goodwill out of the company, the seller remains liable for any retrenchment liabilities for twelve months after the sale.

So choose your buyer well. If he is undercapitalised and is unable to keep the business afloat, there will be no liquidation assets to pay the staff their retrenchment on liquidation, and you will be chased by them for the money.

If the purchaser decides to retrench to save money in order to avoid retrenchment, you may find yourself dipping into your sales profits.

Sudden resignation syndrome

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The subject has been beaten to death in the press, the public forums, on Bigot24, around the braai and in many other discussions. We cannot easily change the labour laws in South Africa; it all goes to elements of the constitution: When it comes to dismissing an employee, employers have their work cut out for them.

So we all know how difficult it is to get rid of that bad apple in your organisation without going to the CCMA for a detailed probe into your business, other employees, the subject employee’s sainthood and finally, your bank account.

How then is it that a bad apple who leaves your business of his own accord can make a life changing difference to your business, its value and your possible retirement, without going anywhere near the CCMA?

A staff member who unexpectedly resigns can have a very detrimental effect on any business, but what happens when that employee teams up with a potential buyer of a business and threatens to resign if a deal is not struck with the potential buyer, on terms not in your favour? It doesn’t have to be as blatant as I have outlined it here.

  • The negotiations progress well
  • The purchaser enquires about the importance of each of your employees
  • He notes that there is a linchpin manager or supervisor, and expresses a desire to meet with the person “to make sure we can work together”
  • First they meet in your office, with you present
  • Some more negotiations
  • At some stage the linchpin and the purchaser get together outside the work environment to work on the business plan
  • An agreement of sale is signed which includes some “conditions precedent” (CPs). (You may know them better as suspensive conditions – if they are not satisfied by an agreed date, the agreement lapses)
  • The conditions usually include things like the ability to raise finance, reaching agreement with the landlord on the lease, the successful outcome of a due diligence, and so on
  • Curiously, the purchaser asks for another CP: Reaching agreement with the linchpin on his employment contract
  • Soon after signing, the linchpin has a slight change of attitude, and things get nervous around your dinner table.

Perhaps you will never know because the threat comes about without you knowing that there is some collusion in the air. Perhaps there is no collusion. Perhaps he simply does not like the purchaser. Perhaps he was looking for a career change anyway.

Whichever way you slice it or dice it, you have a life changing threat on your hands.

And people ask us why we place so much importance on the exposure to staff members when we do our valuations for small and medium size businesses

Don’t do this

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Don’t believe that you  can retire from a small or medium business and live off the dividends which will flow, because they always have.

Here is the theory: The business is well run, it is managed by people who do everything for you. Yes, you are in the business on a sort of daily basis, but you don’t do much more than show your face. So why be there at all? You go away for a week here, and a week there. Never a problem…

So why not leave it like that, and go for one week long leave after the next, and then the next. What you’re suggesting here is that you retire, and leave the business to run in your stead, managed by the same people who are currently there, and doing a good job.

Here is the practice: You announce your retirement, and throw a small party. For a while, you have let “them” know what your plans are, and you have announced the anointing of your successor, “who really has been running the company for the last year, you know”, you will tell everybody.

Here is the outcome: The person managing your business is not an entrepreneur like you. She is a manager, and probably a very good one. But if she has no skin in the game, she will not pay as much attention as you do (even if you think you don’t). Like it or not, you really do a lot more than just go on leave. People really do need you to be there as a safety blanket, someone they can call for a bit of assurance, to confirm a decision, to give a gentle pat on the back. You know what I mean. You really do, if think about it for a short while.

So the outcome is that morale will fall, almost certainly from the first week. The brother leader has gone, for heaven’s sake! The new boss has not grown up in this environment of dealing with all the different aspects you have become accustomed to over the years; most notably the workplace politics.


Trusts, companies and CGT

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In recent years it has been all the rage to ring fence small business affairs to protect them from the ravages of creditors wanting what is owed to them. This is considered good business practice, and it embraces the spirit of “limited liability company” most effectively. Used carefully it may have even helped protect business owners who traded in insolvent circumstances – criminally.

A few things have changed in recent years:

  • The new Companies Act 71 of 2008
  • Capital Gains Tax (CGT) rates for companies

The first has effectively taken out the six month rule with regard to reversing transactions, and the criminality of trading in insolvent circumstances. Creditors have the power now to go after business owners in their personal capacities, piercing corporate veils if they can be shown to have traded recklessly. Very much motivated, creditors no longer need to rely on criminal prosecutions from an overburdened prosecuting authority. I suspect that some really gatvol creditors will prosecute civilly beyond the economically viable!

More to the point though, as I assume my readers do not trade in insolvent circumstances (ever!) is the change to CGT rates for companies. In 2012 the effective rate on CGT for companies was hiked by an amazing 33%.

The method of choice until recently (and I have preached it far and wide) is to sell the business out of the company, and distribute the funds which are paid, from there. But with the new tax rates, this means getting those funds out has increased by a whopping 40% and some change.

The reason for the asset deal instead of the equity deal (sale of shares) is one of future security for the seller. He remains protected by his limited liability vehicle until it is safe to liquidate it. That may take some years, or at least until any possible claims have prescribed. It is the safe, but now expensive, way of doing things. Much cheaper from a CGT perspective is to go the sale of shares route. But this takes time and planning.

Some more upside: Making the necessary changes to the way things are done will add to the value of your business.