03 August 2015
Why is it so hard to sell my business?
The founder CEO of a company who came to see us recently is
rightly proud of his company and what it’s achieved. The technology is good,
the products win awards and the customer list is impressive. But as he
approaches retirement, why can’t he find a buyer for the business? What’s he
done wrong?
The company earns about €2 million of revenue and makes a
reasonable profit. It sells globally in a niche market. The founder is the sole
shareholder and his expectations are sensible: he’s more looking for a good
home for the business than a high price.
A closer look shows the industry dominated by large players,
none of which is interested in acquiring his business. He knows them all, and
has spoken to them all. They like his business but there’s just no compelling
reason for a strategic trade buyer to buy his business: it wouldn’t move the
market share needle for them and the niche he operates in is quite specialized.
The company is too small for Private Equity, unless as a bolt-on to an existing
portfolio company.
It’s easy to forget that, in addition to profit and revenue
multiples, the company needs to be of the right size to appeal to buyers: big
enough to make a difference to their business and small enough to be digestible
and affordable.
He may be best offering the firm to his colleagues in a
management buyout, in which he is the provider of the finance. It sounds a
little like selling your house to someone and providing the mortgage but,
structured properly, an equity-to-debt swap can work really well for everyone.
A discounted Rights Issue can force the hand of reluctant shareholders.
This case is not unusual: we’ve been talking to a dynamic
young CEO with reluctant investors. The company in question raised some money
from angels and a VC and is facing resistance from the existing investors to
invest more, even though the company may well fail without an urgent injection
of €500k. The business is sound, but it developed more slowly than expected;
some investors are impatient and others are now outside their investment
window. Cash is so tight that the poor founder CEO has not been paid for a few
months.
Only one shareholder has expressed interest in investing
more; the others are either unwilling or unable. The shareholders have agreed
that the company is worth €5 million but, surprise surprise, no-one is actually
prepared to invest at that valuation (which of course means it’s not worth €5
million).
One option the CEO should consider is a heavily discounted
Rights Issue. Here all shareholders may invest in proportion to their holding.
Here’s what a Rights Issue would look like, to raise €500k with a valuation of
€5 million:
Here is what it looks like if, for example, if only the CEO and
Shareholder 4 take up their rights and Shareholder 4 also taking up everyone else’s:
No wonder no-one wants to reinvest at this point of crisis:
there is minimal dilution for quite a large risk.
But what about saying the company is worth just €50k? It
sounds farfetched, but if the company’s future is at risk, the company is
flirting with a zero valuation. The effect on the cap table is dramatic, with
the CEO and the investing shareholder becoming the dominant owners:
Won’t the shareholders just resist it? They may not like it,
but such a Rights Issue is hard to resist: the company demonstrably needs the
funds and all the shareholders are being treated equally.
How does the CEO find her share of the money? By converting
the debt in the form of unpaid salary into shares (tax and social security
costs will need to be found, of course).
So this would certainly get the shareholders’ attention, and
may be a route to a solution. Just be careful: a discounted Rights Issue does
not of course work if any of the shareholders have liquidation preferences.
