How do you know when your business is ready for sale?

My friend Joyce Colson, top-notch tech lawyer, wrote an interesting article on evaluating whether your startup is ready to sell, and with her permission, I reproduce it here. It’s good reading even if you aren’t ready to sell because it gives you a good sense of what factors go into evaluating a company and seeing a specific worth…
The recent sale of YouTube for 1.65 billion dollars spawned headlines about the return of the dot com boom. We wouldn’t go that far. However, we have heard enough conversations about the sale and seen enough stories about companies on the hunt for the next big thing to know that entrepreneurs, software or otherwise, think about selling their businesses.
How do you know when your business is ready for sale? Over the years, we’ve gleaned some tips on determining whether a business is ready for sale:
1. Customers: Do you have them? Do you have sufficient numbers not only in customer numbers but volume? How profitable are they? In other words, what did you have to do to your bottom line to get those customers, especially the big ones? Speaking of big ones, are you reliant on only one or two large customers? If so, how embedded are you in that large company, how many different subsidiaries do you do business with? By the way, what do those customers say about you? Are they planning on increasing or decreasing the amount of business they do with you? Are they unhappy about price, deliveries or service or all of the foregoing? Buyers will ask.

2. Corporate House Cleaning: We are not suggesting getting rid of management. Rather, do you have articles, bylaws, corporate minutes, secretary of state reports filed? Have you paid federal, state and local taxes (including income, sales, employment, disability, unemployment and franchise taxes/ Do you have the current regulatory permits and approvals required to do your business? What about insurance — are you current on worker’s compensation, directors and officer’s liability insurance and CGL premiums?
3. Employees. Do you have compensation and stock option plans up to date? Do any of your key employees have claims or potential claims for equity that have been “promised” to them? We have found that those equity claims always surface once word is out of a potential sale. Do you have any other employee disputes or claims? The buyer will likely ask how you plan to retain key employees. Deferral of such issues does not make them go away or less costly.
4. Contracts. Do you have them? Where are they? Are they signed? Believe it or not, these are three very tough questions for many companies, including giant companies, to answer. You need to know if these are the most current versions, updated to reflect current pricing or other terms. Often contracts will have prohibitions against assignment or transfer or require the consent of the other side, e.g. your customer, vendor or lessor. Guess what happens when the other side in a contract learns you are about to sell your business? It’s either time for them to renegotiate or cancel. That’s why item 1 above regarding customer relationships and the assignment language in your contracts really matter.
5. Assets, IP and otherwise. Do you have them? Where are they? Do you own them? Like the contracts mentioned above, these simple questions are often tough for big and small company alike to answer. While assets like equipment are easy to identify and listed on schedules, other assets like intellectual property (IP) and goodwill are often not. Do you have good title to your IP and licenses for all other IP that you use but do not own? Was that work done with an independent contractor under an agreement that assigned it to your company? Do you have standard assignment agreements with your employees? These are just a few of the issues raised in answering the identity, location and ownership questions on company assets.
6. Finances and Accounting. We will presume you have talked to or will be smart enough to talk to your accountant, chief financial officer and/or financial gurus about your company finances, valuation, and pricing issues up front before putting your company on the block.
Three areas that are often overlooked until the last minute are lender restrictions, taxes and accounting. We have seen numerous deals become far less attractive, and in some instances die, because of tax issues for either the seller or the buyer or both. Likewise, the covenants, restrictions or other impediments contained in loan documents are often forgotten until the final hours. And those can block a sale. Lenders are far easier to work with when they get advance notice.
On the accounting side, is the buyer going to require your financial statements be audited by outside accountants or require your financials to be compliant with GAAP? If so, can you meet those standards, or if not, what will it cost to bring financials into compliance? Accounting issues can add significant costs to a deal.
7. Founders. Key Stockholders. Is everyone on board for the sale of the company? What do your corporate documents require for the sale of the business, e.g. simple majority, super majority, approval of preferred shareholders? We are presuming that you are wise enough to have a shareholder or operating agreement. If not, get one pronto. There is nothing like the potential of a sale to get people fighting over what may or not occur because of their failure to allocate who owns what in the company.
You may not undertake the above analysis but rest assured your buyer will. Asking and answering these questions will help you to get your business in shape and maximize price.
Joyce and Rob Quinn are partners in the Boulder law firm Colson-Quinn. Colson-Quinn represents established business companies, as well as emerging growth companies, in a variety of areas, including general business, technology and intellectual property. This article is © 2006 by Joyce Colson and Rob Quinn and is reprinted with permission.

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