Private Capital Report (Part 1)

The following are highlights relevant to facilitating private capital deals extracted from the Pepperdine University Private Capital Markets Report 2014. The report covers all privately held companies and not just main street businesses with revenue between $0 and $5 Million.

Business Types

Approximately 20 % of all transactions closed in the last 12 months (from a sample of 120 deals) involved manufacturing, business services (17%) and consumer goods and services (12%).Other business types in the mix included Manufacturing, Business services, Consumer goods & services, Financial services & real estate, Information technology, Health care & biotech, Wholesale & Distribution, Basic materials & energy, Media & entertainment, Construction & engineering.

Closing Rates

More than 30% of deals put in the market were not transacted. The top three reasons for deals not closing were valuation gap (26 %), unreasonable seller or buyer demand (21 %), economic uncertainty (12 %), and insufficient cash flow (12 %). Other reasons deals did not close include insufficient cash flow, Lack of capital finance and seller misrepresentation. For deals that did not close because of valuation gap, the gap was between 20% and 30%. 84% of deals required between 6 months and 12 months. The median time required to complete a deal seems to be between 8 to 10 months.

Typical items required to close a deal include reviewing Business Plans (1st quartile), meeting with the business and all stake holders (2nd quartile), creating proposal letters, term sheets and signing the letter of intent (3rd quartile).


The most popular methods used to value privately held businesses were: Recast (adjusted) EBITDA multiple (58 %), Revenue multiple (13 %) and EBITDA (unadjusted) multiple (10%). Other methods used to value privately held companies include cash flow multiple (9%), Net income multiple (4%) and EBIT multiple (3%).  Overall, re-casted EBITDA multiple and EBITDA multiple account for more than 2/3rds of all valuations completed.

For example, manufacturing businesses with EBITDA between $0 and $1 Million had an average multiple of 3.8.  Across all business types the average multiple for companies with EBITDA between $0 and $1 Million was 4.2. The average multiple for a business type increases as the EBITDA increases. For example, construction businesses with EBITDA between $0 and $1 Million had an average multiple of 3, but with EBITDA between $11 and $25 Million had an average multiple of 10.

There was a shortage of capital for companies with less than 10 million EBITDA and excess of capital available for companies with more than 10 million EBITDA.

Deal Structure

Business deals can be structured using several instruments including Cash at Close, Seller Financing, Earn out, Mezzanine Financing and Seller Retained Equity.  Approximately 40% of deals closed included contingent earn-outs covenants. Other financial instruments used to close deals included Seller Financing (30%), lowered multiple of EBITDA (20%), Rollover (17%) and adjusted amount of equity sold (13%).

One must determine the buyer person before negotiating a deal. Buyer personas include financial buyers, strategic buyers, passive investors, life-style buyers and so on.  One would expect strategic buyers to pay a premium, but report found 29% businesses sold to a strategic buyer did not witness a premium. 52% if businesses sold to a strategic buyer witnessed a premium of 1% to 20%.

Business Environment

The most important issues currently facing privately held businesses are Domestic economic uncertainty (34%), Access to capital (24%), Government regulation and taxes (20%), Political uncertainty / elections (9%), Global economic uncertainty (6%) and Inflation (3%). Domestic economy and government regulation are the biggest issues facing private held small and medium sized businesses followed by access to capital.  For smaller privately held companies, one would expect the main issues would be domestic uncertainty, access to capital and competition.

Canadian Small Business Data

Small Business Stats for CanadaThe following is a summary of small business statistics released by Statistics Canada in 2012.

Small businesses contribute between 25 and 40 percent to Canada’s GDP. At the end of 2012 there were over 1 million small businesses in Canada that had employees. Specifically, there are 1,107,540

employer businesses in Canada. Of these 1,087,803 are small businesses with 1 to 99 employees. 18,169 are medium-sized businesses with 100 to 500 employees and 1,568 large businesses with more than 500 employees. In other words 98% of businesses in Canada have less than 100 employees. Ontario has 381,001 small businesses, Quebec has 232,531 small businesses, British-Columbia has 169,178 small businesses and Alberta 151,866 small businesses. Ontario, Quebec, BC, and Alberta account for 934,576 (or 86%) of all small businesses in Canada. Of the 1,107,540 employer small-businesses, 55.1 percent have only 1 to 4 employees (also known as micro businesses).

Small businesses employed about 70% of total private labor force – that is more than 7.7 million individuals. More than 80 percent of small businesses that started in 2008 survived for one full year and 72 percent of small businesses that started in 2007 survived for two years. There were 3,200 bankruptcies in 2012, which is 56% lower than 2000.

Approximately 22% of small businesses produce goods. Goods producing businesses include manufacturing, construction, forestry, fishing, mining, quarrying, and oil and gas. The rest of the businesses provide services. Examples of businesses that provide services are wholesale and retail trade, accommodation and food services, professional, scientific and technical services, finance, insurance, real estate and leasing and health care. More than 550,000 (over 50%) small businesses are concentrated in wholesale trade and retail, construction, professional and technical services.

Wholesale and Retail Trade industrial sector is the largest small businesses employer and employs approximately 1.8 million individuals. Accommodation and Food Services is the second largest employer with 1 million employees. Other sectors with large number of employees include Manufacturing, Construction, Technical services and financial services. On an average, small businesses create 100,000 jobs each year and since 2010, over 530,000 jobs have been created by small, medium and large businesses combined.

Approximately 50% – 55% of firms in Canada have 0-10% growth rates and the average growth rate seems to be 5% for manufacturing and service sectors. Approximately 15-20% of all businesses have 11% – 20% growth and only 7.5% to 10% of businesses have more than 20% growth rates (high growth firms). Approximately 25% of all small businesses have zero or negative growth rates.

According to the Organisation for Economic Co-operation and Development (OECD), to qualify as a high-growth firm it must have an average annualized growth rate greater than 20% per year over a three-year period, and it must have 10 or more employees. Growth rates can be recorded in terms of revenue or in terms number of employees. Highest concentrations of high growth firms in Canada are in construction, business, building and other support services and professional, scientific and technical services. Canada has fewer high growth firms as compared to the United States.

Canadian enterprises of all sizes exported goods worth approximately $374 billion in 2011. Small businesses accounted for 23.9 percent, medium-sized businesses accounted for 16.2 percent and large businesses accounted for 59.9 percent. Unsurprisingly, almost 90% of Canadian SMEs export to the United States and only 32% export to Europe. China and Latin America ate emerging export destinations with approximately 20% and 10% small businesses exporting to these countries respectively.

Finally, the manufacturing sector within small businesses has the highest innovation. Transportation and warehousing has the lowest percentage firms innovating. Other sectors with high – level of innovation include knowledge-based industries and professional, scientific and technical services.

Determine Reason for Selling a Business

Reasons For SellingIn addition to understanding the business buyer persona, It is also important to understand a business owners motivation to sell a business. Business owners put in a of time, sweat and equity into building a business. Therefore, selling a business is could be an emotional experience for the seller. Businesses are sold for several reasons and similar to understanding the buyer persona, understanding the reason behind the sale can go a long way with negotiations and structuring the business deal. Regardless of determining the business buyer type and reason to sell, business valuation is the most important element for setting the price. Business valuation is pivotal and both the business buyer and business seller must get the business values, preferably using an independent business valuation professional. Additionally, both parties must use multiple valuation techniques to determine the intrinsic value of a business. Now that we have emphasized the importance of business valuation, the following are the most important reasons businesses are sold:


Many business owners are in the demographic that will soon be retiring. As per US and Canadian statistics agencies, more than 20% of the population will be over 65 by 2026. For Baby Boomers (people born between 1946 and 1964) business owners, selling their business is the most popular exit strategy to retire. As a business owner, there may be a glut of businesses coming to the market, which is good news for business buyers but may reduce valuation for business sellers.

Owner Fatigue

Business owner fatigue and burnout is the most common reason a business is sold. Additionally, business owners who have owned and operated their business for several years are also bored by the businesses operations. Restaurants, Coffee shops are examples of businesses that may be profitable with potential for growth but the business owner may be selling because of boredom.

Personal and Family Problems

Major changes in a business owner’s personal or family life can be an important reason to sell a business. For example, the business owners spouse or kids may be relocating. Divorce may be another reason to seek a business exit.


Majority of a business owners wealth is tied up in one company. A business owner may sell a part or all of his company to diversify. A balanced portfolio is a critical risk mitigation strategy.

New Challenges

The business owner may have found other businesses to pursue that have higher growth rates or profitability.

Buyer Interest

The old adage “Everything is for sale at the right price” applies to businesses as well. A strategic buyer may be willing to pay a premium for a business to gain from synergies, eliminating competition, gaining market share or several other reasons. For the business owner it is an opportunity to capitalize their hard work for a premium.

Competitive Threats

The business may be struggling because of competitive threats. In many cases a business has been around for several years and has not innovated. In many cases business owners may exit the business, which creates a good opportunity for business buyers if they can turn the business around.

Market Timing

Business valuation is the most important criteria to determine the transaction price. Assuming costs are constant, valuation is directly proportional to revenue, earnings and cash flow – depending on the valuation technique used. When the economy is strong, businesses have the highest valuation and it is a good time to exit. The best time to sell a business is when a business has been up for three years and the best time buy a business is in the third year of an economic downturn.

Lack of vision

Perhaps the worst reason to sell a business if lack or vision. In many cases business owners go instant gratification and losing out on long-term growth from the business.

Role of intangible assets in Business Valuation

Business ValuationIntangible assets are assets that are not physical but have legal rights attached to them and create value for the owner. They sometimes make up a very large component of a business but are not factored into intrinsic valuation of the business. A lot of value is created out of the accounting system and intangibles assets could account to as much as 80% of the intrinsic value of a business in some cases. As important as intangible assets are, business owners usually do not have a clear understanding of these assets. While rule of thumb valuation techniques factor in some of these benefits, valuing intangible assets and then adding it to the intrinsic valuation should be the preferred approach to valuing a business.

The time spent in planning, marketing, human capital, building relationships and developing a corporate culture are expensed on the income statement to calculate net income or net profit. While this is appropriate and required from an accounting point of view, cumulative investment in areas like developing an agile and customer focused corporate culture must be identified recognized as intangible assets.

Intangible capital of a business usually falls in the following areas:

  • Brand value which is the Net Present Value (NPV) of the estimated future cash flows attributable to the Brand. A strong brand is a distinct asset owned by a business and can be easily monetized by keeping prices higher than the competition.
  • Systems of differentiation developed by the business to compete in its marketplace.
  • Customer relationships which includes a loyal customer base and loyalty systems. Businesses should leverage concepts such as customer acquisition cost (CAC) and life time value (LTV) of a customer to value its customer base.
  • Business Processes related to customers acquisition including paid and unpaid activities.
  • Internal Business Processes and technical expertise.
  • Favorable location for the business.
  • Patents, Copyrights, Trademarks, Trade names, Non-compete agreements and R&D.
  • Relationships with partners including supply chain related business processes.
  • Supply agreements, Licensing agreements, Service contracts and Franchise agreements.
  • Unique corporate culture and corporate reputation.

When a buyer, seller or investor is conducting due-diligence on a company, he/ she must value at intangible assets in addition to calculating the intrinsic value of the business. All parties must be aware of all intangibles and know if the company has low intrinsic valuation with high intangible assets or vice versa. That said there may be an arbitrage opportunity if one party recognizes an intangible asset that the other party has discounted or not identified. Understanding intangibles also provides a view into the health of an organization.

The process of valuing intangible assets starts with first identifying and listing all intangible assets, which requires thorough understanding of the business. The next step is to attach a fair value to each intangible asset and to estimate the economic life of each intangible asset. Finally, businesses can get a value by using the company’s discount rate to calculate the present value of all intangible assets listed.

Other approaches to factor intangibles into the value of a business are to add a premium to the intrinsic value of the business. The magnitude of the premium will depend on the industry and the sector. Alternatively, a few intangible assets like patents can be added as assets to the balance sheet as long as it allowed by the accounting standards.

Determine Business Buyer Persona

Business for SaleDo develop a negotiating strategy the business seller needs to understand the buyer of the business (Seller Due-Diligence). There are several types of business buyer personas where the buyer can be an individual or a business.

Financial Buyers – Financial buyers look for value, spruce up the business and then sell it. Financial buyers are looking for profitability or signs of profitability and stability that are right around the corner. Sometimes they are looking to merge a business with another to benefit from synergies (Synergistic Buyer) with another similar operation in the industry. Financial buyers analyze the businesses numbers in great detail and calculate the price using valuation metrics and comparable deals. They are most driven by proven return on investment (ROI) and tend to get large amounts of financing to purchase a company. In summary the objective of a financial buyer is to negotiate a deal where the deal can be paid of through operating profits, growth over time or immediate profits from some arbitrage.

PE groups raise capital raised through high net worth individuals, family trusts, pensions and others and are the most common type of financial buyers. Their objective is to maximize value for their investor pool.

Strategic buyers – Strategic Buyers look for buy and hold opportunities where they can enter new markets, increase the market share or foreclose some element of competition. Typically these buyers come from the industry (Industry Buyer) and understand the business and its marketplace. A strategic buyer may be a big company already operating in the industry and wants to acquire a business as a platform to enter a new market or to add new products and services to the marketing mix. Sometimes the purchase can be about getting people or management. Strategic buyers may pay more because they understand the value of the acquisition is more than the financial value of the business. The acquired business provides a new leverage. Strategic deals get done quicker and are usually preferred. Strategic business deals tend to be of larger sizes.

Special-Purpose buyers – There are many types of special-purpose buyers. They may be business buyers are private citizens doing private deals. The buyer may be a public company attempting to defend decreasing market share or defend market share from a competitor. In some cases these deals are emotional and the buyer just cannot stand by and watch a business being sold to someone else. For an emotional buyer, price is not the most critical factor in the sale.

In addition to the above classification, an individual buyer can be classified as:

Lifestyle Business – An individual buys a business that revolves around his / her hobbies, personal interest or social life. Sea sports, nigh-clubs, fashion shops, dancing schools are examples of life style businesses.

Owner / Manager – The business buyer wants to make a living and a profit from the business by operating the business.

Owner / Manager as required – The buyer is capable of running the business but does not want to manage the business personally on a day to day basis. Typically absentee owner businesses are non-cash businesses. Cash businesses like cafeterias and bars are very difficult to control without the owner.

Passive Investor – High net worth investors invest in businesses in the same way as they would have listed in shares, bonds and property. They usually hire professional management to run the business.

The business seller must identify the persona (or archetype) of the potential business buyer. Business buyers for main street businesses ($0 – $ 2MM) tend to be individuals who have experience in the sector or companies acquiring businesses for growth. Small main-street businesses with valuation of less than 500K are almost always individuals. First time buyers tend to buy smaller businesses that typically have a valuation of less than 500K.

Business buyers in the lower middle market ($2MM – $5MM) are dominated by strategic corporate buyers and private-equity groups. Private equity groups buy twice as many businesses as compared to strategic corporate buyers, so lower middle market businesses must target private equity groups. In the same vein, the best time to sell a lower middle market business is when private groups have raised a lot of money. As such, it helps to keep a watch on business cycles for private equity groups.

Small Business Valuation using Stock Market Data

Business Stock MarketBusinesses must conduct formal valuation before buying a business, selling a business or merging with another business. However, business must also value their company one or two times a year to keep track of progress and for planning. Informal valuations may be completed internally by the owner or his delegate.

The secret sauce for any valuation is coming up with a valuation multiple. Rule of Thumb valuation is one approach to determining a multiple for your business. Rules of thumb are established from previous business sales. Businesses can get the rule of thumb for an industry from the respective industry association or a business broker who specializes in the industry. For example, Grocery stores are valued at 15% of annuals sales + inventory. However, many times the rule of thumb is not easily available or does not exist. Businesses may also not want to use rule of thumb for valuation. Another approach, discussed at length in this post, is to use market based multiples for valuation. In such cases valuation can be based on publicly traded companies within the same industry.

Enterprise Value (EV) is a commonly used for valuation. Conceptually, Enterprise Value is the take-over the value of a company. It is the net amount of cash required to acquire a business. In the event of a buyout, the acquirer takes on the debt and the cash in the business. So, Enterprise Valuation can be calculated using the following formula.

EV = Market capitalization + Debt + Minority Interest + Preferred Shared – Cash

EBITDA (Earnings before interest, taxes, depreciation, and amortization) is fundamental to valuing a business. EBITDA is a rough estimate of a businesses Free Cash Flow (FCF) and is the most commonly used metric for business valuation. Smaller businesses tend to use Sellers Discretionary Earnings (SDE) for valuation, which is also derived from EBITDA.

Once a business calculates its EBITDA the business value can be calculated by multiplying EBITDA with the Market Valuation Multiple. Market valuation multiple by industry is listed in table below. The following steps and assumptions were used to calculate the market multiple:

  1. US public company data has been used to calculate the multiple as such the data may not be relevant in other countries.
  2. Data is used in the calculation is from 2nd-Jan–2013.The EV / EBITDA multiples may have changed in the last few months.
  3. All public companies have been classified by industry.
  4. Step 1: Calculate EV / EBITDA for each company in the US (includes NYSE and NASD).
  5. Step 2: Calculate the average EV / EBITDA for each industry.
  6. Step 3: Public companies are much larger and demand a premium. So, we have discounted the multiple by 25%, 33% and 50%.  The table includes the original values as well, so you may discount it by a different amount for you industry

Market Multiples Business Valuation

Industry EV/EBITDA (EV/EBITDA)  Discount 25% (EV/EBITDA)  Discount 33% (EV/EBITDA)  Discount 50%
Precious Metals 11.370 8.528 7.618 5.685
Financial Svcs. (Div.) 14.660 10.995 9.822 7.330
Natural Gas Utility 9.960 7.470 6.673 4.980
Public/Private Equity 6.750 5.063 4.523 3.375
Shoe 7.130 5.348 4.777 3.565
Investment Co. 15.720 11.790 10.532 7.860
Retail/Wholesale Food 7.360 5.520 4.931 3.680
Packaging & Container 7.200 5.400 4.824 3.600
Entertainment 12.610 9.458 8.449 6.305
Trucking 9.410 7.058 6.305 4.705
Metal Fabricating 8.350 6.263 5.595 4.175
Heavy Truck & Equip 9.530 7.148 6.385 4.765
Semiconductor 16.220 12.165 10.867 8.110
Household Products 11.750 8.813 7.873 5.875
Auto Parts 13.100 9.825 8.777 6.550
Engineering & Const 13.240 9.930 8.871 6.620
Reinsurance 3.310 2.483 2.218 1.655
Metals & Mining (Div.) 16.270 12.203 10.901 8.135
Air Transport 5.960 4.470 3.993 2.980
Electric Utility (East) 9.210 6.908 6.171 4.605
Electrical Equipment 17.900 13.425 11.993 8.950
Retail (Hardlines) 9.340 7.005 6.258 4.670
Office Equip/Supplies 6.340 4.755 4.248 3.170
Petroleum (Integrated) 5.080 3.810 3.404 2.540
Water Utility 10.730 8.048 7.189 5.365
Petroleum (Producing) 14.980 11.235 10.037 7.490
Retail (Softlines) 11.050 8.288 7.404 5.525
Beverage 17.550 13.163 11.759 8.775
Railroad 11.020 8.265 7.383 5.510
Wireless Networking 15.640 11.730 10.479 7.820
Electric Util. (Central) 10.210 7.658 6.841 5.105
Pharmacy Services 11.760 8.820 7.879 5.880
Advertising 5.380 4.035 3.605 2.690
Furn/Home Furnishings 7.950 5.963 5.327 3.975
Retail Automotive 12.090 9.068 8.100 6.045
Insurance (Prop/Cas.) 4.240 3.180 2.841 2.120
Toiletries/Cosmetics 9.480 7.110 6.352 4.740
Steel 10.320 7.740 6.914 5.160
Telecom. Equipment 19.450 14.588 13.032 9.725
Bank (Midwest) 4.590 3.443 3.075 2.295
Telecom. Services 9.160 6.870 6.137 4.580
Telecom. Utility 5.670 4.253 3.799 2.835
Bank 4.590 3.443 3.075 2.295
Oil/Gas Distribution 18.060 13.545 12.100 9.030
Building Materials 21.240 15.930 14.231 10.620
Power 19.300 14.475 12.931 9.650
Electric Utility (West) 8.300 6.225 5.561 4.150
Cable TV 7.430 5.573 4.978 3.715
Healthcare Information 25.140 18.855 16.844 12.570
Oilfield Svcs/Equip. 13.070 9.803 8.757 6.535
Entertainment Tech 13.850 10.388 9.280 6.925
Semiconductor Equip 7.680 5.760 5.146 3.840
Hotel/Gaming 16.440 12.330 11.015 8.220
Retail Store 8.930 6.698 5.983 4.465
Maritime 14.740 11.055 9.876 7.370
Coal 5.850 4.388 3.920 2.925
Thrift 4.390 3.293 2.941 2.195
Publishing 6.090 4.568 4.080 3.045
Recreation 15.070 11.303 10.097 7.535
Chemical (Basic) 7.290 5.468 4.884 3.645
Chemical (Diversified) 9.440 7.080 6.325 4.720
Electronics 13.170 9.878 8.824 6.585
Aerospace/Defense 16.860 12.645 11.296 8.430
Foreign Electronics 4.460 3.345 2.988 2.230
Human Resources 10.380 7.785 6.955 5.190
Computer Software 38.060 28.545 25.500 19.030
Food Processing 11.200 8.400 7.504 5.600
Med Supp Invasive 25.060 18.795 16.790 12.530
Newspaper 8.330 6.248 5.581 4.165
Educational Services 4.760 3.570 3.189 2.380
Industrial Services 20.230 15.173 13.554 10.115
Automotive 8.290 6.218 5.554 4.145
R.E.I.T. 10.460 7.845 7.008 5.230
Insurance (Life) 7.330 5.498 4.911 3.665
Pipeline MLPs 15.630 11.723 10.472 7.815
IT Services 20.350 15.263 13.635 10.175
Chemical (Specialty) 11.380 8.535 7.625 5.690
Funeral Services 11.670 8.753 7.819 5.835
Internet 35.070 26.303 23.497 17.535
Information Services 22.140 16.605 14.834 11.070
Natural Gas (Div.) 14.550 10.913 9.749 7.275
Medical Services 12.410 9.308 8.315 6.205
Securities Brokerage 6.020 4.515 4.033 3.010
Machinery 12.120 9.090 8.120 6.060
Restaurant 9.34 7.01 6.26 4.67

Disclaimer: Businesses must work with a business professional such as a business broker or chartered accountant (CA) to get a formal value for their business. The techniques described here can be used for informal internal valuations.

Primer on Business Due Diligence

Business Due DiligenceDue diligence is the process of finding out undisclosed information and confirming that the information provided is accurate. For a business buyer, it is the process of working through all the details provided by the business seller.

During the due diligence phase the business buyer must access to all the businesses books, financials statements and other records. The due diligence phase provides the business buyer with a window to determine if the information provided is accurate. The process can take several days and sometimes up to a month. The Due diligence process is broad and must include financials, marketing and strategy amongst other things. Financial due diligence also includes business-valuation, identifying undisclosed liabilities and a lot more.

Due Diligence Approach

Due diligence is the process of systematically evaluating the target company’s documents and other artifacts. If significant discrepancies are found it can result in being a deal breaker or result in the deal being re-negotiated.

Overall, due diligence can be classified in the following categories:

• Management Due Diligence
• Legal Due Diligence
• Financial Due Diligence
• Marketing Due Diligence
• Operational Due Diligence

Information required within each category must be acquired through interviews, financial statements and legal and other documents. The person conducting the due diligence may need to contact the target businesses lawyers, bankers, accountants, clients and suppliers to gather details about the business.

Financial Due Diligence

Financial due diligence requires the business buyer to look into the financial health of the company. It provides the business investor or acquirer information on the debt of the company, capacity to expand and more. Understanding the capital structure of the business is a critical element of financial due diligence because too much debt or poor cash flow can prevent growth and sustainability of a business.

Typically financial due diligence involves review the following documents:

  1. All published financial statements for the last 4 to 5 years including balance sheets, income statements and cash flow statements. This includes interim financial statements for the current quarter.
  2. All tax returns and tax payment schedules
  3. Appraisals on tangible assets including real estate owned by the business

Cash Flow (Financial) Due Diligence

Cash flow is the amount of cash being generated or spent during a specific period of time. It is the change in cash position or in the cash account due to revenue, expenses, operating costs and investments. Cash flow is typically impacted by:

• Accounts Receivable  (AR)
• Accounts Payable (AP)
• Capital Expenditures (CAPEX)
• Debt Servicing
• Tax Payments and other timing issues

Managing Cash flow is of paramount importance to operating a business on day to day basis. Accounting rules that govern the creation of financial statements are used to measure profit and loss. Therefore Balance Sheets and Income Statements do not provide an accurate and timely view of a company’s cash position. Not managing cash flow can result in a cash crisis. For example, if cash is blocked in accounts receivables (AR) and investments, a business can find itself in a cash crisis even though the balance sheet is healthy.

Cash flow can be classified as:

• Cash from Operations
• Investment cash flow
• Financing cash flow

A Cash flow statement is a financial statement that shows companies incoming and outgoing cash for a specific duration. When buying a business, studying the businesses cash flow statements (3 to 5 years) plays an important role and must be completed during the due-diligence process.

Marketing Due Diligence

Marketing Due diligence involves the review of the overall marketing strategy and marketing plan of the business being acquired. Typically a summary of the marketing plan is provided in the investment proposal.

During the Due diligence process the investor or the acquirer must review the underlying market research including the size of the market, market segmentation, competitive pressures, threat of new entrants into the market, threat from substitutes and more. It is important to understand the overall size of the market (industry) the business operates in, the size of the market for the business and more. Reports provided by external agencies provide significant credibility to the marketing plan.

• Review marketing plan and marketing strategy documents
• Marketing material for last few years
• Interviews with the marketing manager or the person involved with marketing
• External and internal research data

Legal Due Diligence

Under legal due diligence the business buyer needs to make sure the business does not have legal problems and is being correctly operated. Legal Due diligence requires the business buyer to review all legal contracts and agreements made by the firm. Several legal artifacts must be reviewed including:

• Review all contracts. A company in business can have several contracts in place including contracts with suppliers, customers, employees and others.
• Agreements with employees
• Corporate charter and bylaws
• Non-Disclosure Agreements (NDA) with employees
• Patents, copyrights and other assets in the company
• Minutes and consent from board of directors and shareholders
• Litigation related documentation and summary of current and pending disputes
• Review tax documentation from a legal stand point
• All artifacts related to the issuance of securities

There are several checklists available online to guide you through the process of conducting legal due diligence.

Why list a Business for Sale Online

Business OnlineBusiness for Sale listings used to be posted by business brokers and business owners in print media.  However, listing businesses for sale in print is rapidly declining for several reasons.

To start with space is limited and only a brief summary of business can be listed. If the user wants more information there is no mechanism for him to get it besides calling the business buyer. The print format is just not well suited for business for sale listings, which tends to be more complex and has several attributes attached to it. On business sellers can list up 20 images, several videos and any number of documents. Additionally, business sellers can use deal-rooms, which allows business sellers to securely share documents with selected users only.

Print media tends to be expensive, slow with limited reach, so business brokers and business owners have to advertise in a publication for several months to get any attention. In that duration, changing the advertisement can be onerous and time consuming and because there is a physical media involved – expensive.

Online listings are confidential. Business for Sale listing on can be set-up with varying levels of disclosure depending on the sellers requirement. The business seller cab decide what to include or exclude from the listing.

Finally, the most important reason print media does not work for business listings is because print readership is declining rapidly and readership not targeted. In the US, only 6% of time is spent on print media. Radio and TV, as an advertising medium, is just not suitable for business for sale listings.


Time Spent on Media

On the flip side, Internet and mobile account for 36% of time spent on Media. The Internet is the first place business buyer’s start the buying process and potential business buyers spend time researching and looking for businesses to buy on multiple sites. On an average, buyers can take between one to two years to complete the buying process and a large portion of the search is conducted online.

Internet traffic on is highly targeted because Google and Bing match keywords to Websites so that only relevant users are directed to the site. Dynamic nature of the Web allows business sellers to login to a site and de-list their business listing or change the content of their business listing at any time. Additionally, online sites allow business sellers to track and manage leads generated. When a potential business buyer asks for MORE information, the business seller receives the request and the lead instantly.

The ability to syndicate deals online and share business listings on social media is adding fire to the fuel for online business deals. Business deals can be syndicated through a trusted network, through email or through other business-for-sale sites.

Finally, the best part of listing online is the price. Online listings are cheaper than print media and and makes business listings even more inexpensive. Being mindful of these facts one can safely assume almost 100% business for sale listings will move online in the next few years.

Typical businesses listed online

Almost any business can be listed online, but given the semi-confidential nature of online listings it is best suited for main-street businesses (Businesses valued between $0 and $2 Million). Businesses commonly listed online include E-Commerce businesses, Health and fitness clubs, Websites, Convenience stores, Restaurants, Auto repair, Bars, Fast food franchises, Bakeries, Gas stations, Delis, Printing businesses, Pizza Delivery Businesses and several others.

Non-Financial Due-Diligence (Business Buyer)

The following are a few non-financial due-diligence considerations a business buyer must account for:

Establish Customer Concentration

An important element of business due-diligence is to determine customer concentration. Customer concentration may be defined as the percentage of revenues coming from a single customer. For example, a business may have five large customers responsible for 60% of its revenue.

Customer concentration is directly correlated with the purchase price and the cash at close component of the deal structure. Let’s say there are two similar companies with equal revenues, margins and net income. The business with lower customer concentration will demand higher price and higher cash at close as compared to a business with lower customer concentration. A business buyer should always model the business losing a few customers when ownership changes. If customer concentration is high, losing large customers when the business changes hands can hurt the business significantly.

Non-Compete Agreements

When a business changes hands the former business owner still has a relationship with all customers. This relationship becomes a critical element of the due-diligence process if the customer concentration for the business is high. It is possible that after selling a business the former owner may restart the same business in the same area. The business buyer can protect himself from such behavior through non-compete agreements. If the former business owner could be a competitive threat, the business buyer must work with his lawyer to draft a non-compete agreement and get it signed as a part of the deal.

Sources of Financing for Businesses

Businesses for sale can be classified by deal-size. Businesses that are valued below $ 2 Million are classified as main-street businesses, businesses valued between $2 Million and $5 Million are classified as lower middle market, while businesses that are above $5 Million are classified as upper middle market. This blog tends to focus on main-street and lower middle market businesses.

Main-street and lower middle market businesses need to raise money for several reasons. Some common reasons are business growth and expansion, working capital fluctuations, refinancing existing loans, replacing existing equipment, and paying the owner. Financing for growth and expansion is the most common reason for main-street and middle-market businesses.

There are several sources for financing business operations or businesses acquisitions. Some of these sources are:

  1. Friends and Family
  2. Government grants
  3. Crowd sourcing
  4. Trade credit
  5. Personal credit cards
  6. Personal loans
  7. Business credit cards
  8. Lease
  9. Bank and Credit Union loans
  10. Asset based lender
  11. Angel Investment
  12. Venture capital
  13. Private equity investment
  14. Mezzanine lender

Bank loans are the most common source for financing business acquisitions and business operations. Asset based lending is also commonly used.  Asset based lending refers to lending secured by an asset. If the loan is not paid the asset is taken over by the lender.

Angel investment, venture capital investment and private equity investment plays a key role in raising money. These investors provide capital for ownership equity or convertible debt. Interestingly, business and personal credit cards are also commonly used for short-term financing of business operations.

Mezzanine lenders provide the additional (incremental) funding required for completing a business acquisition or business expansion project. It is usually structured as a hybrid between debt and equity financing for business expansion. Mezzanine financing may be debt financing, but gives the owner the right to convert debt to ownership equity in the company at a set price.