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Your Biggest Sale ...
                    Ever!
Part Three
See also:
Your Biggest Sale ... Ever! -- Part One
Your Biggest Sale ... Ever! -- Part Two
Your Biggest Sale ... Ever! -- Part Four

C
losely-held corporations prudently develop restricted sale agreements well in advance of their expected implementation. They may involve difficult bargaining between the present owners and the prospective owners whose individual interests are often not concurrent. Subtle relationships among professional colleagues and/or family members can exacerbate these emotionally-charged negotiations. Generally, these agreements are updated at least annually, formally ratified at a meeting of the partners or board of directors, and recorded in the minutes book. These agreements assure the orderly transfer of ownership between family members and/or key managers in the closely-held corporation or partnership. Quite significantly, these freely-accepted agreements are usually respected by the Internal Revenue Service in determining the fair value of equity for purposes of income, capital gains, and estate taxes.

          A special form of restricted sale agreement is the employee stock ownership plan — an ESOP. Most ESOPs (approximately 85 percent) are in closely-held companies, often smaller ones (but with more than 20 employees). This is because the ESOP offers special tax benefits for owners of closely-held companies (e.g., they can sell and avoid paying capital gains taxes) and because it can be a useful divestment vehicle (e.g., it provides a market for their shares, it allows the owner to sell bit-by-bit while retaining control, etc.)

          An ESOP is generally funded by yearly contributions from the company to the ESOP trust. Occasionally, the employees' pension fund (an existing defined benefit or defined contribution plan) purchases the business often assuming substantial debt to fulfill the transaction, and the pension fund is eventually compensated via profit sharing contributions made from the future profits of the acquired company. Of course, many larger companies have not used an ESOP to buy-out the entire company, but have introduced it as another employee benefit, making 5 to 10 percent of the company's stock available to the employees.

          These plans are complicated, and are not fitting for very small companies. One of the nationally-recognized professional firms specializing in ESOPs should be engaged if this kind of restricted sale plan is appropriate and contemplated.1

          However, if an open sale is anticipated, the strategy and tactics will be totally different. This moves the transaction from an essentially private negotiation into a public arena. While preparations should be initiated well in advance — usually several years in advance of the expected divestment — a paramount rule is that everything must be undertaken in the strictest confidence; it must never be known that "the company is for sale." For a company to be known prematurely to be "in play" may disrupt relationships with customers and competition, adversely affecting the ultimate valuation upon sale. The right professional advisors can guide the company in making early strategic as well as operational decisions to enhance its ultimate divestment value. This has been called, "dressing the bride."

          One element of these early preparations is the development of an authoritative valuation of the enterprise. Obviously, this valuation should strive for the highest possible sale price. However, since almost all prospective purchasers will be knowledgeable operational and financial analysts, this venture valuation must be fully credible. A "valuation" simply based upon hope and hype is likely to preclude serious negotiations with a sophisticated prospective purchaser.

          Even though it may need to later be presented to only one or two prospective purchasers, competent advisors often prepare a formal Offering Memorandum. This document seeks to provide the answers with full substantiation to all of the questions likely to be posed by an informed prospective purchaser in undertaking their "due diligence" examination of this possible acquisition. Naturally, the valuation as well as pro forma business plans will be part of this Offering Memorandum. To the uninitiated, the Offering Memorandum will be similar in scope and detail to the Prospectus required for a public offering of equity conforming with all of the requirements of the Securities and Exchange Commission (SEC). Of course, if the sale is to be achieved through a public offering of equity, Prospectus will be the title of this document.

          An equally important part of these early preparations will be a careful determination of the most appropriate prospective purchaser(s). Generally, the most appropriate purchaser will be the corporation or institution that can derive the most value from ownership of the enterprise to be divested. This calls for exceptional perception and innovation. While our initial thoughts may naturally turn to larger companies within our own industry — e.g., customers, suppliers and even competitors — far-ranging imagination often divulges new business combinations warranting consideration. Commonly, this may not appear to be a "scientific" or even an orderly process; as with most combinatorial inquiries, it is highly intuitive.

          At this point, the preferred mode of divestiture will begin to guide subsequent actions. A forthright sale to a larger public (or private) corporation will entail launching a carefully controlled courtship with the preferred (targeted) acquirer. This is a delicate proceeding undertaken with the utmost skill and finesse. Assurances of confidentiality must precede all explorations. There is no good text book for these kinds of discussions and negotiations. Most commonly, seasoned intermediaries are retained who can assure confidentiality, objectivity, know-how and tough experience; they are not cheap, but the guaranty of effecting a successful contract usually warrants their role. In some cases, sagacious CEOs negotiating mano a mano with their counterparts have worked out fine agreements with notable speed and efficiency. Once the decision has been made to proceed with the divestment of the business, the whole process can usually be completed within a period of three to six months, although cases dragging out over a year or two as well as other cases closed within only a few weeks are not rare.

          The continued examination of the eventual sale of the business itself will be the focus of a subsequent column.

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1 See, e.g., The National Center for Employee Ownership


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Thomas A. Faulhaber, Editor

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Revised:   March  13, 2017 TAF

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