Free Advice

The Business Buying Climate (July 2002)

At least in the Seattle area there are more business buyers in 2002 than there have been over the past few years. Not as many as the early to mid-nineties, but it's on the upswing.

The buyers I'm meeting are more qualified than ever (both financially and skill wise) and are motivated. Many of my current clients and prospective clients have owned businesses before or own one now. Those who are corporate refugees have done more and had more responsibility than previously. I'm sure there's a message in here about the state of the economy but I'm not going to try to figure it out.

Finally, these buyer's are finding good businesses to buy. Not just one or two, but numerous companies that fit their criteria and have adequate profits. Seattle area business brokers may be asking where all the companies are coming from (as it seems listings are slow) but they are out there if you work hard enough to find them.

Prices

Earlier this year a broker told me he'd have a lot of listings if the sellers could sell based on their 2000 financial statements (not the 2001 statements). Prices are definitely down from a couple years ago. That's because earnings are, on average, down and because expectations aren't as "rosy" as they were a year or two ago. 

Now, there are pockets that, as always, defy the averages. Some businesses are counter-cyclical, some deal in regulated or essential services and some just have it figured out so their plan works in any economy. I've noticed that industrial related firms have still not bounced back like many other industries. It's tough if you deal with aerospace, paper mills, etc.

Financing

The seller who gets "cashed out" is rare. The seller who insists on 100% cash at closing isn't going to sell. Recently Business Week and the Wall Street Journal have written about how credit getting tighter. That carries over to business acquisition loans. Recently some buyers I'm working with have been made to jump through hoops on the following issues:

1. Collateral - while bankers are quick to say that without the first source of repayment, cash flow, they want as much secondary source of repayment as possible. This is collateral and if there aren't enough tangible assets within the firm they want stocks, bonds, home equity, etc.
2. Experience - This is getting an even tougher look than before. Some institutions use this as their first line of rejection. However, beauty is in the eye of the beholder. One client had a couple banks tell him is background was perfect for the acquisition candidate while others rejected him immediately on this issue.
3. Buyer (and seller) money - The more money the buyer and seller have at risk the easier it is to get a loan. That means the deals where the buyer puts in 10%, the seller holds 10% and the bank finances the balance are rare. More common will be deals where the bank finances a small percentage to get the down payment higher than it would be otherwise.

Of course, the best deal from the buyer's perspective is to put 25-33% down, from his or her pocket, and have the seller finance the balance. A buyer will put a lot more faith in the company if the seller has a large portion at risk (vs. getting 90% cash at closing). And the buyer will protect themselves if they adhere to the 50% rule, that is, no more than 50% of profit to acquisition debt. This should provide enough of a cushion to weather any situation.

© Copyright John Martinka 2002. All rights reserved.