January 19, 2012

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Business Broker or Investment Banker

Who should I hire to help sell my company?

By Guy Downing and David Martinez

January 19, 2012

When it’s time to sell a company, owners often find confusion over understanding the differences between a traditional business broker’s services and those provided by investment bankers. What type of professional advisory services are appropriate for a particular company or transaction? Here are some of the differences you should consider when explaining the major distinctions can guide business owners to decide which approach makes the most sense for their company: Short Answer:  Business Brokers: A business broker is usually the most viable alternative for a small, family-owned business, a single-entity restaurant, a drycleaner, small fabrication shop, or similar type of business. In sum, a business broker is often the best option for a business with less than $5 million in sales, and/or a valuation of less than $5 million.  Investment Bankers: An investment bank is generally a good choice for large or sophisticated businesses, especially those with scalability, complex diligence issues or dynamic competitive concerns. Typically, the business will have more than $10 million in sales and at least $2 million in recurring EBITDA (earnings before interest, taxes, depreciation and amortization). Sales Approach:  Business Brokers: The sale process a business broker uses is relatively simple and is similar to selling a house. Usually, an asking price is established between the broker and the client/seller. The broker will then advertise the opportunity on various sales trade networks. Upon receiving inbound inquires, they will execute a Non-disclosure Agreement (NDA) on the client’s behalf and will forward basic information to the prospective purchaser. If interested, the prospective purchaser will submit a purchase offer; buyer and seller will negotiate, and if successful, agree on terms of the deal.  Investment Bankers: The sales process in an investment bank is sophisticated and proactive, and is typically termed a “controlled auction process.” It is designed to create a competitive sales process that maximizes valuation and obtains optimal deal terms. A well-designed and executed controlled auction process can often result in 20 to 40 percent higher valuation levels compared to one-off negotiations. The process begins with a four- to eight-week due diligence period within which the investment bank gathers data. A comprehensive and compelling offering memorandum is then prepared, which articulates the opportunity and highlights the key investment considerations and components of value for prospective purchasers. Separately, the investment bank will identify the universe of potential buyers (both strategic and financial buyers) who are most likely to have a strong interest in the company. Once an appropriate non-disclosure agreement is in place, this package of information is proactively marketed to the targeted buyer list, which typically consists of 50 to 100 qualified purchasers. The investment banker will then manage every stage of final due diligence and documentation, and see the deal through to the finish. Cost:  Business Brokers: Typically, business brokers charge 5 to 10 percent of the sales price upon close of a transaction, and typically have little to no upfront costs.  Investment Bankers: The majority of an investment bank’s compensation is also paid upon successful close of a transaction; however, you can expect that high-quality investment banks will also charge a monthly work retainer to compensate for the significant investment of time and effort to run a thorough and effective controlled auction process. Licenses:  Business Brokers: Typically, a business broker will be licensed as a general real estate agent and be associated with a firm that has a real estate broker license. State law may require other licenses as well, and companies working with business brokers should check their credentials accordingly. Such credentials are generally sufficient when selling the assets of a small, local business to a local buyer.  Investment Bankers: A qualified firm will have a FINRA (formerly NASDAQ) broker-dealer license, and each of the affiliated investment bankers will have Series 7 and 63 licenses. Additionally, the principals will hold a series 24 license. This registration requirement is very important, since engaging an unlicensed firm that holds itself out as an investment bank could result in unintended and unfavorable consequences. By using an unlicensed broker-dealer to sell a company’s securities, the seller can open the door to a subsequent claim by the buyer/investor to unwind the transaction and go after a full return of the sales proceeds in the event the transaction did not work out as the buyer hoped. Essentially, the buyer could be empowered with an option to unwind the deal for any reason on the basis that it was an illegal security transaction.  Business owners should speak with a good securities lawyer regarding the legal implications of working with an unregistered firm, and should check out the licensing status of any investment bank before hiring the firm or the individual. Experience and Expertise:  Business Brokers: A good business broker should have a basic working knowledge of business valuation and business due diligence, and a successful track record of selling similar-sized businesses. Unfortunately, there are individuals or groups out there who don’t, so check references thoroughly.  Investment Bankers: Carefully compare the bios and deal experience of the firm and, most importantly, the specific individuals that will execute the company’s transaction. Significant middle market deals of $10 million to $100 million require a sophisticated team that has experience in negotiating and structuring complex transactions that typically include earn outs, stock vs. asset sale considerations, tax implications, control or governance issues, financing complications, as well as other material factors. Guy Downing and David Martinez are managing directors at Columbia West Capital, LLC.
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