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Can You Sell Your Company to An Outside Third Party?
Making the Case for Transfer to Insiders

We talk to business owners every day who “plan” to exit their companies via a sale to a third party because they believe that they’ll get more cash up front (and more overall) than if they sell their companies to insiders (family members or employees). Consequently, they believe there is far less risk selling to a third party sale than to insiders.

Are they correct? As diplomatically as possible, we suggest that they just might be dead wrong.

Third Party Sales Involve Risk

1. Sales to a third party are less risky than sales to insiders only if a business can be sold for all cash or if there’s simply no time to implement a carefully designed sale to an insider.

Investment banker Kevin Short reminds owners that unless a company meets the following criteria:

• has more than $1 million (or even $2 million) in EBITDA;
• is in a attractive market sector;
• has strong fundamentals; and
• enjoys a unique competitive advantage;

it is unlikely to sell to a third party—much less sell for all cash.

2. Selling to a third party requires a third party wanting to buy. In a difficult M&A market, being in an attractive market sector is more important than ever. According to investment banker Kevin Short, “hot” or “niche” industries include: power, alternative energy, health care, medical services and healthy-living products. Companies engaged in construction, retail, real estate, automotive and consumer products will find it difficult, if not impossible, to attract a buyer in today’s (late 2009) marketplace.

For most companies, today’s M&A market today is decidedly cool if not stone cold; few companies meet the criteria above. The most realistic owners quickly realize that there simply are no third parties interested in their companies.

3. Waiting involves risk. We suspect that some owners hold to the belief that there’s little risk in waiting for a third party buyer because it provides an excuse to “avoid the hassle” of planning. “No risk?” we ask.

• What if a qualified buyer doesn’t show up?
• What happens if, when you are ready to sell:

• the M&A market is dormant; or
• your industry niche has fallen out of favor; or
• your business and/or the economy is in decline or worse?

Why subject your future financial security to these uncertainties? Why not assume control of your exit—your life, really—by creating an exit strategy that allows you to:

• choose your buyer;
• name your sale price;
• control ownership until you are fully paid; and
• shift the burden of the company’s future performance from your back to the buyer’s?

Insider Sales Require Time to Plan

Sales to insiders require work on the owner’s part, but it is our job to help owners to understand that sales to third parties can be just as much work and just as time consuming.

Once owners understand the realities of third party sales, they usually agree—especially if their companies are too small to attract a third party buyer—that transferring to insiders is a far better course than liquidation.

We will describe the components of a well-designed transfer in future issues of this newsletter, but let’s talk about one last myth surrounding the insider transfer: Insiders do not have to have money to begin buying your company.

That’s true today, but they can and will if:

• your company has a good management team that desires ownership
• your company has good cash flow;
• you have ample time before leaving to both design a tax-sensitive transfer plan and to implement that plan.

Insider Sales Yield Cash

Owners can often get as much cash (with no more risk) in an insider transfer as they can from a third party sale if, as noted above, they have time to work with their advisors to design and to implement an exit. If owners enjoy the luxury of time (and skilled advisors) there’s no reason that the insider transfer cannot yield as much cash, if not more as the third party sale.

Keep in mind that all-cash sales to third parties are not commonplace even when the market is booming. Mr. Short notes that even when the M&A market is flying high, less than half of the sales in the M&A mid-market for companies with less than $1 million in EBITDA are for all cash. And any amount of the purchase price not paid at closing is typically reflected in an unsecured promissory note from the buyer to the seller leaving sellers hoping that their buyers are successful enough after the sale to pay them off.

In the next issue of this newsletter, we’ll outline the elements of a well-designed transfer plan. If you have questions about this topic (or about exit planning in general) please give me a call.

Subsequent issues of The Exit Planning Review™ discuss all aspects of Exit Planning. The provider of this Newsletter (Paul Honeycutt) offers you unbiased information about what you may need to know — How To Run Your Business So You Can Leave It In Style™.