September 26, 2024
As a business broker and valuation specialist, I’m frequently asked about the challenges involved in selling a family business.
Ideally, family business owners should begin planning for the transition of ownership well in advance. One of the first steps in this process is to identify potential buyers and understand the characteristics of each type.
Below, we’ll explore both internal and external sales of family businesses.
In an internal sale, the buyers are typically family members from the next generation or a combination of family members and key non-family employees.
Buyers may use various financing methods, including seller financing after an appropriate down payment. Often, the older generation will finance the sale to a promising member(s) of the younger generation. When opting for this approach, it’s essential to clearly outline how the debt will be managed, formalized in a legal note, and backed by a security agreement.
Additionally, bank loans guaranteed by the Small Business Administration (SBA) can sometimes cover 75 to 85 percent of the appraised business value. For larger businesses, an Employee Stock Ownership Plan (ESOP) could offer a tax-advantaged option for the sale.
External buyers of family businesses generally fall into three categories:
Job Buyers
These individuals are essentially purchasing a job for themselves and typically seek small to medium-sized businesses. They will often have the financial capacity to provide a down payment of 15 to 30 percent of the purchase price, along with a sufficient credit rating to secure financing for the remainder.
Financing is commonly secured through an SBA 7(a) loan, amortized over 10 years, or 15 years if real estate is part of the deal. For this buyer, the business must (1) generate enough cash flow to cover their salary, and (2) make monthly loan payments on the acquisition. If your family business can meet these requirements, it stands a good chance of attracting a job buyer.
Financial Buyers
Financial buyers are usually seeking larger businesses. This group includes private equity firms and sophisticated investors. Typically, these buyers are not looking to operate the business themselves; they’ll either retain the current management or bring in a new team.
Their primary focus is on financial returns, often with a plan to grow the business through additional capital investment, management talent, new products or services, and geographical expansion. Financial buyers generally have an exit strategy in place, aiming to sell the business after three to seven years, following significant growth.
These buyers may use advanced financing structures to facilitate the acquisition.
Strategic Buyers
Strategic buyers are firms already operating within the industry of the business they’re looking to acquire. Their goal is often to expand into new markets or achieve economies of scale.
Strategic buyers may be either horizontal or vertical operators in the industry, seeking to realize specific synergies through the acquisition. Financing arrangements for strategic buyers can vary and may include an earnout agreement, where the seller is compensated over time based on the business meeting certain financial targets under the new ownership.
Depending on the size and type of your business and your goals, you may have interested buyers from several of these categories. The good news is that our platform will give you access to all of these types of buyers.
