3 Common Mistakes Startups Make When Selling Their Business

You’ve just read another news story about an average guy with a great business idea who just sold his business for millions of dollars and you cannot wait until your big payday arrives! Just take a deep breath and realize that your “big payday” will only arrive if you properly plan and avoid common mistakes startups make when they want to sell their business.

Common mistakes tend to fall into three categories – trying to sell your business too quickly, misunderstanding the process of business valuations, or being too eager to sell to the first bidder.

Mistake #1 Trying to sell your business too quickly

Potential company buyers are everywhere, but none of them are going to want to buy your business too quickly or too soon after it was founded. If these business investors wanted an early startup business — a company in its first few months or even a year of operations — they could just start their own.

According to Forbes, 8 out of every 10 startup businesses are out of business within 18 months. Those odds don’t look good to a potential buyer or investor. Attracting buyers and investors at the early stages of your business can be a huge challenge, especially if you aren’t willing to give up large percentages of equity.

Business buyers tend to avoid the risky odds of businesses during the first 18 months and even first few years of a business operation by waiting to see if your business survives the odds. Before purchasing or investing, they want to see that the business has a proven concept, a solid product or service, has found its market niche and has successfully differentiated itself from its competitors. Most buyers also want to see steady and increasing revenue that demonstrates growth that will help them reap a quick return on their investment.

One of the most important things to do is exercise patience and use the early years of your business to prepare for making the biggest impact on prospective buyers. Keep the following tips in mind:

• Methodically build your business into something you would be proud to own for many years to come, especially if no suitable buyer showed up to make you an offer.
• Aggressively build market share, build a great reputation and build name recognition among potential clients and competitors alike.
• Work out the kinks in your business processes and operations to make them streamlined and efficient, and as you go, create an operations manual that documents it all.
• Properly save and store your corporate records, business licenses, contracts, intellectual property records and other legal documents.
• Keep up-to-date, properly managed financial and tax records.

These details can pay off in spades when prospective buyers start sniffing around and placing valuations on your business. Properly kept records also reduce the likelihood of surprises or killed deals during the due diligence process that precedes any business sale.

Mistake #2 Misunderstanding how businesses are valued

Whether a business is worth a few thousand dollars, a few million or even a few billion dollars is all in the eye of the beholder. There are many different, entirely legitimate, ways that a business can be valued and you may not know which will be applied to your business by any given prospective buyer. A couple of common ways of assigning value are on the basis of assets or on a multiple of annual profits.

Asset Approach

In simple terms, valuing a business based on an asset approach is rarely used if a business is being sold as a going concern. Generally, the asset approach is only considered if the business is more valuable if liquidated for its assets then it would be if it continued to operate for cash flow. That said, patents and other intellectual property can be extremely valuable and often more valuable than the business as a whole.  This type of valuation is where you find businesses that are sold for millions or billions of dollars even though they have very little profit.  This is because the buyer has a platform where they can profit.

Multiple of Profits

Most often startups and other types of established businesses are sold based on a multiple of profits.  These types of valuations are called Income approach and Market approach.   Both of these approaches are based upon the financial benefits (Return on Investment, or ROI) that are expected from the future operations of the business.  This amount is multiplied by a number that takes into account all of the goodwill and on-going concern of the business. The multiple is determined by the amount of risk that the business is expected to face in the future. The multiple is then determined by looking at other businesses similar that have sold in the past.

Based off the valuation methods above, every business is valued differently. For example, a struggling service business with no profit may not even be sellable, while a struggling research and development company, who can’t seem to make a profitable launch of its products, may be able to sell one of its patents for $100M to a company needing its patented technology for their already developed client base.

Another time a business value may be far more specific is when a unique factor is important to one or two prospective buyers. For example, if you own a trade secret or process that could be used by another company to increase their production by a factor of 10 (even if you don’t have the infrastructure to support such an increase on your own), that can factor into a great sale price.

When you understand that there is not just one way to value a business, you widen your mind to more options, a wider field of prospective buyers, and you will be more prepared to exploit business building opportunities as you grow and get ready for eventual sale.

Mistake #3 Don’t get attached to the first bidder

There’s something magical about the first offer you get for your business. You’ve created something from nothing and now a stranger has assigned value and offered you something in exchange for your creation. However, the first bidder is not always the right bidder for your company and may not be the optimum value exchange.

The value of your business – any business – is what a willing buyer will pay and a willing seller accepts. Your business may be worth $10,000 or $10,000,000 depending on who you ask and what a prospective buyer plans to do with it.

Maybe your competitor wants to increase its market share by taking over your piece of the market pie, or a similar business wants to expand their product lines. Maybe they want one of your assets and plan to liquidate the rest. There are a myriad of reasons to buy your business and these motivations are details to which you won’t be privy. Thus, you need to cast a wide net to optimize the chance of finding the right bidders.

Obviously, you aren’t going to do this by just putting up a “For Sale” sign in front of your business headquarters when you think you are ready to go on the market. Start by getting to know a Merger and Acquisition professional now. Find out how they go about discretely finding prospective buyers to bid on your business. Find out if they already have a stable of vetted potential buyers upon which to draw and how they work with their clients to prepare for sale. Armed with an expert by your side, you will be much better prepared to evaluate bids, narrow down the list and find the best buyer for your business.

If you have a quality business with a proven concept… there is a buyer that would like to purchase your business.  The question is more about your preparation and presentation of that business to maximize your opportunity to sell the business.

AUTHOR BIO

Scot Cockroft is a serial entrepreneur and business broker who helps business owners realize their full potential in selling their business. He is passionate about the process, having created and sold four of his own businesses to date, and helped hundreds of other businesses do the same. As President of Sigma Mergers & Acquisitions, Scot is in the trenches day-to-day and is always looking for the next business to buy, grow, and of course sell! Scot is also working on his first book, The No B.S. Guide to Profiting From Selling Your Business.