Most fam­i­ly-owned busi­ness­es will at some point seek to trans­fer own­er­ship. Now, with a sig­nif­i­cant per­cent­age of the US pop­u­la­tion at or approach­ing retire­ment age, these dis­cus­sions are hap­pen­ing more fre­quent­ly. For a fam­i­ly-owned busi­ness, when is the right time for a sale? While per­son­al cir­cum­stances may play a large part in this tim­ing, there are cur­rent­ly some key eco­nom­ic indi­ca­tors that we believe make the imme­di­ate future an ide­al time to pur­sue an exit transaction. 

Eco­nom­ic fac­tors impact­ing sell-side engagements

We believe that the US Fed­er­al Reserve Bank — the Fed — will con­tin­ue to raise inter­est rates. This will like­ly take us to a lev­el of at least 5.0% next year. This puts pres­sure writ large on the econ­o­my and boosts the cost of cap­i­tal for any­one seek­ing to acquire busi­ness­es. There is broad con­sen­sus that a mild reces­sion will com­mence in the sec­ond quar­ter of 2023. Spend­ing capac­i­ty in the US will be impact­ed by high­er inter­est rates and infla­tion, which will cause val­u­a­tions for pri­vate com­pa­nies to decline.

Com­pound­ing these issues is the fact that talk of a reces­sion can lead to reces­sion-like con­di­tions, putting addi­tion­al down­ward pres­sure on val­u­a­tions. Pub­lic val­u­a­tions rose over many years until ear­ly this year when declines set in. Pri­vate com­pa­ny val­u­a­tions had also been on the mul­ti-year rise, but they began to flat­ten in the third quar­ter of 2022. This sug­gests that we could see a decline in pri­vate com­pa­ny val­u­a­tions in the near term. Now is the time to take advan­tage of this plateau and con­sid­er sell­ing in Q1 of 2023 before any fur­ther uncer­tain­ty begins to take its toll on valuations. 

Options for exit transactions

Should an own­er decide to pur­sue an exit trans­ac­tion, there are gen­er­al­ly two paths for­ward: a straight sale or a recap­i­tal­iza­tion. With a sale, a con­trol­ling inter­est of up to 100% of the busi­ness is sold off to a buy­er. This gen­er­al­ly occurs when the exist­ing own­ers of the busi­ness have not found some­one to take over the busi­ness when it comes time to retire, so the busi­ness is instead sold in its entire­ty. Alter­na­tive­ly, the exist­ing own­er may want to retain a minor­i­ty posi­tion or may be encour­aged by the pur­chas­er to retain some inter­est, espe­cial­ly if the pre-sale own­ers will con­tin­ue in man­age­ment posi­tions. Many buy­ers, espe­cial­ly pri­vate equi­ty buy­ers, may pre­fer this con­tin­u­ing par­tic­i­pa­tion. With a recap­i­tal­iza­tion, some­one else with­in the com­pa­ny takes over — like a child tak­ing over for a par­ent — but cap­i­tal must first be raised to buy out the exist­ing own­ers’ interests. 

Nav­i­gat­ing the sales process

For fam­i­ly-owned busi­ness­es, work­ing with an attor­ney to do estate and gift tax­a­tion plan­ning should trig­ger the need for an inde­pen­dent appraisal or val­u­a­tion of the busi­ness. The IRS will rarely accept the busi­ness owner’s esti­mate of val­ue, and absent an actu­al third par­ty trans­ac­tion, inde­pen­dence is essen­tial. The stan­dard of val­ue for this, Fair Mar­ket Val­ue, has to com­ply with sev­er­al IRS rules that can be very technical. 

With a val­u­a­tion secured, the busi­ness must then be set up to look its best for poten­tial investors. The per­son prepar­ing the doc­u­ments — whether that’s a team work­ing at an invest­ment bank or per­sons inter­nal to the com­pa­ny — will explore the company’s exist­ing finan­cials and com­plete finan­cial mod­els. The mate­ri­als should be com­plete and con­vinc­ing so as to cre­ate the great­est amount of inter­est among buy­ers. Based on this infor­ma­tion, they’ll cre­ate pitch­books and 1­­ — 2‑page teasers for investors to review. When done cor­rect­ly, these deliv­er­ables will posi­tion the busi­ness as an attrac­tive invest­ment to the right set of buy­ers and max­i­mize val­ue. Dur­ing this process, a data room is cre­at­ed and main­tained, as well as a con­fi­den­tial infor­ma­tion mem­o­ran­dum (CIM) for buy­ers to review after they sign. 

Next, the busi­ness will be mar­ket­ed to buy­ers. The team in charge of the trans­ac­tion will seek out a pool of buy­ers; should an invest­ment bank be used, the sale will be mar­ket­ed to an espe­cial­ly broad net­work of investors that have already been vet­ted. A key ele­ment is mar­ket­ing con­cur­rent­ly to a tar­get­ed but broad audi­ence in order to cre­ate com­pet­i­tive offers for the busi­ness. The list of poten­tial buy­ers will then be refined until only the most seri­ous investors are left to bid.

Final­ly, once the buy­ers have bid for the busi­ness, the most attrac­tive offer is select­ed and then due dili­gence is per­formed. A pur­chase agree­ment will be draft­ed, and work­ing cap­i­tal nego­ti­at­ed. The select­ed buy­er or investor will get exclu­siv­i­ty for a set peri­od of time to allow the sell­er or seller’s rep­re­sen­ta­tive time to ver­i­fy the oppor­tu­ni­ty and get paper­work drawn up. It is often the case that the own­er will be asked to stay on for a spec­i­fied time peri­od to ensure a suc­cess­ful transition.

In the case of a recap­i­tal­iza­tion, a val­u­a­tion often must be con­duct­ed. For fam­i­ly-owned busi­ness­es, this step is usu­al­ly trig­gered when the busi­ness own­er begins work­ing with a lawyer to com­plete estate or gift plan­ning. Should the busi­ness own­er want to hand a cer­tain num­ber of shares of the com­pa­ny to their grand­child, those shares must first be priced for tax pur­pos­es. The stan­dard of val­ue, which is ​“Fair Mar­ket Val­ue”, has to com­ply with sev­er­al IRS rules that can be very tech­ni­cal. An inde­pen­dent appraisal or val­u­a­tion deter­mines the val­ue of each share, and upon learn­ing that val­ue, some busi­ness own­ers choose to move for­ward with a sale. 

Why part­ner with an invest­ment bank

For busi­ness own­ers, the sales process rep­re­sents a sub­stan­tial effort and time spent away from core busi­ness func­tions — and an addi­tion­al stress when retire­ment and inter­nal tran­si­tion plan­ning are top of mind. From val­u­a­tions to finan­cial mod­els and invest­ment pre­sen­ta­tions to buy­er mar­ket­ing and due dili­gence pri­or to the trans­ac­tion, the aver­age fam­i­ly busi­ness sell-side engage­ment requires 1,000 hours of labor to com­plete. An invest­ment bank like Chi­ron han­dles the entire process and removes that time-con­sum­ing and labor-inten­sive work from the company’s list of responsibilities. 

Plus, with pro­fes­sion­als com­plet­ing the sell-side engage­ment, fam­i­ly busi­ness­es can achieve bet­ter val­u­a­tions, bet­ter sale terms, and a smoother trans­ac­tion process. Invest­ment banks like Chi­ron are staffed by for­mer CEOs and exec­u­tives with deep indus­try exper­tise, enabling us to fur­ther posi­tion a com­pa­ny for a suc­cess­ful sale based on knowl­edge of the indus­try and its outlook. 

Final­ly, few fam­i­ly-owned busi­ness­es have a ready net­work of investors, know what all those investors are look­ing for, or are pre­pared to man­age a process that may involve con­tact­ing hun­dreds of buy­ers simul­ta­ne­ous­ly in an effort to max­i­mize real­ized val­ue. Invest­ment banks have a vast pool of promis­ing buy­ers — and they know what to say and what infor­ma­tion to pro­vide to cre­ate the kind of bid­ding war that results in the most val­ue for their clients.