Three Common Mistakes Business Owners Make When Selling Their Business: Part 3
Part 3: Auction Process
We all know what an auction is, the process of selling an item to the highest bidder. We’ve heard auctions in process such as Mecham Auto Auctions with the auctioneer rattling off numbers at hypersonic speed and magically somebody wins the auction and gets the car. How do take the public auction process and sell a business when the interested parties don’t want anyone knowing about it?
Is this really the best way to sell a company? What’s the difference between an auction process and the tried and proven (perhaps broken) business broker model of listing a company with a price and hoping the right buyer will purchase the company. This article intends to explain the key differences and shed light on the auction process.
The main difference between the two strategies is that in a standard listing, you very seldom (almost never) get more than the price the business is listed at, and frequently sell for less. This way often sets a ceiling price and everyone wants to negotiate down. In rare circumstances, if there are multiple buyers the broker can negotiate a higher price, (in effect creating an auction). However, it will most likely end up close to the initial asking price.
We know from watching auctions that if you get the right bidders vying for the product the price usually is higher than what was originally considered a fair price. How is this accomplished when secrecy is the most important consideration for most business owners?
Most Investment Bankers (IB) use a blind auction process. The auction process starts by creating a buyers list. The list is mainly comprised of strategic and financial buyers, but the business owners’ goals and opinions ultimately determine who makes the list. The seller is in control of who will learn about the sale of their business.
While the IB is creating the buyers list we are also working on the marketing collateral. We create an Executive Summary, Confidential Information Memorandum (CIM) and the Non-Disclosure Agreement (NDA), these documents are built using information supplied to us by the business. The owner reviews and signs off on all information created prior to sending it out.
The Executive Summary is an initial outreach document that tells a brief story of the business and includes a snapshot of key financial information, but does not give away the identity of the business. The NDA is included with the Executive Summary, and we are looking to get back as many signed NDA’s as possible.
After the NDA’s are signed, the CIM is sent to buyers with bidding instructions and timing expectations. The CIM is a comprehensive document that describes the business, how it was started, where it is going, complete financial information, cultural profile, employee profile, sales and marketing, etc. The information presented needs to be as complete as possible to facilitate the return of Indications of Interest (IOIs). Certain information, such as customer names, are not included in the CIM because we want to protect the sellers interest by sharing sensitive competitive information in a just-in-time fashion. At this point the buyers only need enough information to value the business and not the specifics that could disrupt your operation. We are gauging interest and learning what the market thinks the business is worth based on the information returned in the IOI’s.
This creates our first milestone in the auction process, there will be a wide range of offers at this stage in the process. We review all IOI’s with our client and discuss terms that they are happy with and those that would stand in the way of acceptance. We then start negotiating with the potential buyers about where they are stacking up and, if they want to be invited to the table, discuss the areas in which they will need to sharpen their pencils.
The seller is highly engaged at this stage as we go through the offers and decide who will make it to the next round. Once buyer candidates are selected, site visits are conducted, candidates meat the owner and management, and the discovery dialogue continues. The bidders will typically ask us questions after the site visits as they are working towards the Letter of Intent (LOI or purchase offer). The LOI’s are gathered and examined as the IOI’s were, creating the second milestone in the auction process.
The goal here is to get a minimum of 3 to 10 bidders working to win the bid and ultimately purchase the company. As we negotiate with the bidders, driving value and terms, we work with the seller to determine who will be the winning bidder. Of course, price plays an important role, but we have seen other terms come into focus, such as employee welfare. Most owners are very loyal to their employees and want to make sure they are taken care of, and we cannot forget legacy of the business and its ultimate survival.
The auction process is a full-time job. We spend resources and time drafting and perfecting the CIMs and Executive Summaries. Blue Sky creates videos depicting the owner’s story, business operations and cultural profiles. We generally utilize 2 to 4 team members to create the information and run the process. Emails are sent out with the information and phone calls are made to ensure delivery of the information and gauge interest.
Building the buyers list is a complex process of finding and vetting potential buyers. We need to ensure strategic buyers are interested in the industry as well as finding the right person at the firm to talk to about the opportunity. With financial buyers, most operate in strict financial metrics and will not consider businesses that do not meet their platform requirements and we need to make sure we fall within their limits.
The auction process is the second step in selling a business after determining the business value and should not be underestimated or entered into without a solid plan of action and contracts and agreements in place. Blue Sky has decades of experience running auctions and achieving results desired by our clients. Please reach out to us with any questions or thoughts that this article might have created.