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Selling your business

The decision to sell your business is often a difficult decision to make. As a business develops and as owners age, we find that developing a good exit strategy for business takes time and thoughtful preparation. For many small business owners, the business has no real value without the active participation of the owners, making selling the business very difficult. If a business owner starts planning early, however, a transition plan to family, a loyal and reliable employee or a competitor may be very lucrative. Some considerations:

  • Do you have partners who can keep operations running after you retire?
  • Is there a buy-sell agreement?
  • Is there a competitor or strategic buyer available?
  • What is your business worth?
  • Can you make more money running the business v. selling the business?
  • What are the tax ramifications of a sale?
  • Are you available to consult and assist with the transition after sale?
  • Are your ready for due diligence?
  • Are your financials a true and complete picture of the business operation without you as an owner?

We strongly recommend that business owners know what they want and what to expect, both financially and emotionally when considering a business sale. Selling a business is at times like separating from a child you nurtured. At other times, it is a true relief of burden. Most importantly, however, is understanding what your business is worth and what to expect to receive as a fair purchase price.

Very often, a close corporation owned by a single or very few owners may have financials that do not reflect true business capacity because the owners have chosen to have generous expense policies and distributions to owners. As a result, the business shows almost no profit year over year, supported by tax returns that show no profit year over year. Although this may seem like a good idea at the time, it is a problem when it is time to finance the business or sell it because the bank or buyer will see a barely profitable business. To normalize the financials, a seller needs to look at all expenses outside of the ordinary course of business and distributions to owners and determine if these expenses and distributions would occur if a third party owned the business. Removing these expenses and distributions from the financials is a starting point; then, add in the cost of a salary and expenses which would be incurred by a non-owner filling the position the seller will vacate. Once this is complete, you will have a better assessment of true profitability. If the business does not have an accountant or attorney to assist, this would be a good time to seek advice.

Keep in mind that the deal may be structured in a variety of ways, including a lump-sum payment, earn-out, a seller note, consulting and employment services, with a non-competition agreement. If a bank is financing the purchase price, the seller may be asked to subordinate payments to be received under a seller note, earn-out or consulting agreement. Working with experienced and practical seller's counsel will help ease the risk and enable a structure that works for the seller.

The tax implications to the Seller will also vary based upon the tax structure of the company being sold. Whether the sale price will be a capital gain or ordinary income will depend on the duration of time the owner held the assets. Further, a entity taxed as a C-Corporation will address the tax implications at the corporate level while an entity treated as an S-Corporation, or as a disregarded entity or partnership will address tax at the owner level. Gain will be calculated based upon purchase price allocation and will be impacted by prior tax elections and distributions. Allocations of the purchase price to "goodwill" are always beneficial because goodwill is taxed at capital gain rates to the seller. Selling your company without considering tax implications could result in a significant tax burden and diminution of the actual cash benefit to the seller.

Business liabilities should also be considered when selling a business. Often, the owners have been required to personally guaranty real estate leases, operating leases for equipment, loans, supplier agreements and other obligations. When selling the business, it is important to seek releases of each of these guaranties. Further, there may be liabilities that arise post closing and the seller will want indemnification from the buyer for all post closing activities of the buyer. The buyer will rely on the seller's representations and warranties contained in the asset or stock purchase agreement and will likely be indemnified for misrepresentations or misstatements. Disclosing issues in the agreement may protect a seller from future claims of the buyer. Further, wording the representations and warranties appropriately to avoid hidden meaning is imperative.

If you are working with a broker, please read the page regarding working with a broker. Brokers can be very helpful in establishing value and identifying potential purchasers, but a seller needs to recognize that the broker is neutral and motivated by closing the sale.

Although engaging counsel may cost money, the practical and actual experience of counsel can help a seller protect themselves from later claims, assist in structuring the transaction in a manner that protects the purchase price, offers the most favorable tax treatment and can guide the seller through the process as the seller's advocate.

At the AEGIS Law, we pride ourselves on offering practical and solid legal advice to sellers and buyers. Contact us to discuss our strategy-based services.

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