If you are a senior business owner, this edition of “Deal Talk” is especially for you. You may have a pretty good idea of what your business is worth, but if you haven’t spoken with a certified valuation consultant, you could be setting yourself up for disappointment, and that’s not all. As our guest shares today, the individual you sell your company to when you’re ready to retire might very well be a long-time employee, manager or vendor, so it’s important to know how to start preparing for your exit, which might include a responsible succession plan. Michael Meagher, founder and president of MWM Associates in Edina, Minnesota, joins us to share his expertise from years of working with baby-boomer owners.
If you're looking at somebody who's really getting ready to retire, it's important to look at what is their emotional state right now, are they really ready to retire? Sometimes the conversation gets as simple as, "All right, you sold your business yesterday. What's your day going to be like today? Are you really ready for this?"
- Michael Meagher
Jeff: Let's find out a little bit about you, Michael, first of all. If you don't mind sharing for just a moment or two a little bit about your background and what you do at MWM Associates.
Michael: Certainly. I started my career as a commercial banker, actually. I was working for Chase Bank in New York, and later got in their international department and spent some time in Brazil. Came back to San Francisco, the Bay Area where I was originally from and started a grocery delivery business. I was the CFO of that for about five years and eventually sold that to some other investors. And then I got back into more of a financial services and I was working for Merrill Lynch in investment banking activities there. And eventually I just decided to start my own company. And since I'd had experience both an investment banker working with investments and also as a business owner I felt that I could add value to business owners as a financial consultant to them. And so I got certified as a certified business appraiser by the Institute of Business Appraisers, and I offer a variety of services primarily the valuation services but I also end up doing some part-time CFO work for the owners and just some general consulting on how to improve the value of their business.
Jeff: Really, from a financial perspective and a business owner perspective because you've owned a couple of businesses now you have a really great way of being able to relate to a business owner because not only have you owned business, obviously you sold your own and you were really intimate with the numbers and the financial aspects. And sometimes as we found out, many business owners, small business owners in particular are sometimes disassociated I guess or they're not real close to some of the really important pieces of information that they should have their arms around maybe a little bit more closely, and I'm talking about the numbers, the accounting, the financial aspects of their business. Let me ask you first of all, Michael, I'd like to start by asking you what was it like having that grocery business in San Francisco and selling that business? You're selling your business for the first time, what kind of experience was that like for you, and did that give you an appreciation for what business owners today all around us have to go through?
Michael: Right. I actually ended up selling it to one of our key employees, and that employee found an investor group to help him with the purchase. And so I wasn’t really dealing with someone completely from the outside, it was someone who understood the business, who felt that they had an ability to take it forward to another level. And I think one thing I learned from that is that in many cases if not most cases the person who's going to buy your business is somebody pretty close to you, often an existing employee, a manager, or it could be a vendor or customer of yours. So it's usually someone who is pretty familiar with what the operation is and what can be done going forward into the future. So if I learned anything, it's that. It's a little more unusual just to sell a business to somebody out of the blue that you don't know. It certainly happens but in many cases you find that the purchaser is someone who's pretty close to the business already.
And I think one thing I learned from that is that in many cases if not most cases the person who's going to buy your business is somebody pretty close to you
Jeff: Think of it, really, that's about as close to having a turnkey situation as you can possibly imagine. I mean although they may want to make changes, the new owner that is. Maybe he's worked for the same company 15-20 years, or maybe less than that. Maybe he's fairly new at it. Two to five years, he comes in, he wants to buy his former boss' business as it were. It's not like coming into a brand new situation and not being familiar with the operations of a company. You've been there, you know how it works, you've had a chance to become intimate with the operations of the business. And while you may want to make some changes you couldn't ask for an easier situation perhaps to step into, and so I can certainly see the advantages to purchasing a business as a new business owner from someone that I've worked for. And it seems like it would be an ideal situation, Michael, in any case.
Let me ask you this. Fast forward a little bit now, you've had a chance to work with many business owners that have come to you. They're getting on in their years and they are ready to sell or they're talking about selling and they've come to you. Maybe they've been referred to you. And you start the conversation. Do you find that these business owners may have an idea about the value of their company that really is much higher than the actual worth of their company and that maybe they're surprised when you kind of tell them "I don't think so"?
Michael: I would say in most cases that I'm dealing with that is the case, that the owner feels the business is worth more than I actually come up with this valuation. And I think there are a couple of reasons for that. One is that you think of it, if you’ve owned the business for 10, 20, 30 years it's your life blood. And so to you maybe it's worth more than to someone coming in fresh and taking a look at it with new, fresh eyes. And I think the other thing is that sometimes a business owner who’s getting ready to retire has a number in mind that's less related to the actual value of the business and more related to what that owner needs financially in order to retire. And so there's this gap sometimes that we need to work with. And there's where I get involved in the consulting, almost psychological consulting in some ways to bring the owner back to a little bit of reality as to what the business is really worth today. And to talk about how you might be able to increase the value to get closer to maybe what he needs financially in order to take that step into retirement.
Jeff: Great lead in to my next question then Michael because everybody is different, and everybody's situations are unique. Can you tell us from some real-life examples how you have recommended for some business owners to improve the value of their business prior to the sale? They may be anxious and they may be thinking you'll come back with this glowing report and a glowing appraisal or valuation of their company. They don't get it and yet you sit down and you talk with them. These are some things that we can do to, as you'd mention, close that gap between what you believe your business should be worth and what I'm telling you it’s worth. What have you recommended in the past some things that business owners can do to improve the value of their companies?
Michael: Some of the things might include, often it's better financial statements. Sometimes I find myself dealing with statements that are a little bit hard for me to understand and I'm a financial analyst and a former banker. If a financial statement is hard for me to understand, you can imagine that it must be really hard for a new owner who maybe doesn't have that financial expertise to understand. So that's one of the things. But there are other things involving maybe training manuals for new employees, because you've got a business owner coming in. Maybe they have a little less familiarity with the business, they're going to want to be trained into all the aspects of the operations of the business, that's one area. And then there are some things involving the actual customer base and the vendor base. For example, maybe you have too high a percentage of your business with one or a couple of customers. And the risk there is that if that customer walks away, let's say that the customer has an intimate relationship with the owner, and if the owner is going away, maybe the customer is going to say, "Well, if Joe's not there anymore maybe I'll take my business someplace else." If that happens and let's say 40 percent of your business goes away that's a significant risk. So often I recommend that the owner try to diversify that customer base, so that's another thing. I think those are probably the main things that I can think of right now.
Almost psychological consulting in some ways to bring the owner back to a little bit of reality as to what the business is really worth today.
Jeff: Have you ever ... Talking by the way, if you're just kind of listening in over someone's shoulder there at the office. We're talking with Michael Meagher. He's is the founder and president of MWM Associates in Edina, Minnesota and you're listening to Deal Talk. My name is Jeff Allen. Michael, have you ever had to sit down and just have a real frank conversation with a business owner and say “Martin or Mr. Stevenson, this is not the ideal time for you to sell your company, not right now. You want this. I can't guarantee you're going to get close to that. You're going to need some more time to fix some things”?
Michael: Yes. Particularly if we go back seven years to 2008 and we've got the great recession that was the time when I was really advising people not to sell at all because the value of the business would've been maybe half of what they thought it would be worth. And so I've advised holding off, maybe that means let's look at this again in say three years, but then I would come up with a list of here's what you should be working on over the next three years in terms of improving your financial statements, or eliminating some of the risks of the business, those kinds of things. So yes, I've advised people to hold off. And it's not uncommon, in fact I really advise people, business owners to start thinking about selling the business maybe three to five years before they're really ready to do it. And then you're going to want to sell the business, maybe staying on in kind of a consulting advisory role for a couple of years, so that's a way to transition out, maybe step down. Let's say you've got a manager that you're going to give a 10 percent ownership in this year and gradually increase that over a three to five year period to majority or full ownership of the business.
Jeff: And of course, it still allows that individual on as an adviser or in a consultant role to still generate income really from their involvement in helping out with the transition.
Michael: Right. So if you take a three year consulting position that's exactly right. It doesn't cut the cord completely, financially, or emotionally, but it gives you a chance as the owner to help out in transition, to earn some money while you're doing it, and to really make sure that the new owner gets off on the right foot and is really established and successful in his or her own right.
Jeff: Michael Meagher, are there any concerns or issues that you have faced specifically that are kind of unique to this group of owners, the senior owners, those folks who have owned their business for 35, 40, sometimes 50 years or more, that one really needs to focus on when assisting them with their succession plans? Can you share anything with us from your experience with them that might be of interest to those senior owners who are listening right now?
Michael: If you're looking at somebody who's really getting ready to retire, it's important to look at what is their emotional state right now, are they really ready to retire? Sometimes the conversation gets as simple as, "All right, you sold your business yesterday. What's your day going to be like today? Are you really ready for this?" I know it sounds great to be out on the golf course every day but if you've been working for 30, 35, 40 years in this business, is that really something that's right for you, or should you be looking at maybe doing something else? Maybe starting another small business, something like that, just to keep your hand in, in some way. So for me I like to look at the emotional state of the owner, are you really ready to retire? And in some cases people are. They're just totally ready to just retire and move down to Florida, take life easy. But in a lot of cases I find they're not really ready to do that. And so my conversation with them tends to get into the psychological consulting side of where they are exactly in their life and are they really ready to retire. That's why often this consulting agreement the last couple of years is a good way to transition out completely because it gives that owner a couple of years to really grow accustomed to not being there 24/7, not having to worry about it all the time and gives them a little chance to absorb all of that.
If you're looking at somebody who's really getting ready to retire, it's important to look at what is their emotional state right now, are they really ready to retire?
Jeff: Yeah, it really does sound like an ideal situation for many people who quite frankly are so involved in the operation of their business that it's difficult to walk away ultimately, and let's face it, there are a lot of us who are real workhorses out there and work is what we're about. And eventually at one point we're going to want to step away entirely. My name is Jeff Allen and we're talking about valuation of business that are run by folks who have owned those businesses for years. I'm talking about the senior most business owners out there. And we're talking with Michael Meagher, someone who has a lot of experience in working with senior business owners. He is of MWM and Associates in Minnesota, and we're going to talk with him some more about this very important subject when Deal Talk returns after this.
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Jeff: Welcome back to Deal Talk, I'm Jeff Allen with my guest Mr. Michael Meagher, president and founder of MWM Associates in Edina, Minnesota talking a little about valuation today and some of the unique circumstances of issues that follow, or involve that is, older or senior business owners, and we're going to kind of ... We've talked a little bit about that the first segment of our show, and now we're kind of going to move into talking about really the main approaches to valuing a business, and there are three of them Michael that you use, and I'd like to kind of touch on each of these approaches. First of all, the income approach to valuing a business, can you talk a little bit about this and why this is an approach that you would use?
Michael: Yeah, the income approach is probably the most important approach, because the income shows you the cash flow that the business is going to generate for the new business owner, which is his really primary concern. So what I need to look at there is I need to normalize that income for the new owner. And what I mean by that is are there certain elements of the income statement that the owner, particularly if the owner is a 100 percent owner, has control over that might not be the same as the expensed for a new business owner. For example, are there some expenses like country club membership? Or what about the salary that the owner's paying him or herself? One question I like to ask the owner is you're a 100 percent business owner, you're paying yourself X dollars per year. Now, if you were to step away and have to hire someone in to fulfill all of the duties that you perform for this business, would you pay that person the same amount that you're paying yourself? And the answer to that is usually “Of course I wouldn't” because the owner is paying themselves whatever income is available to be distributed, which in many cases is more than the market value of that position. So what I have to do is to make adjustments to the financial statement, the income statement, so that it reflects what it would look like if a third party owner who was not managing the business, just has to hire someone in to do all of the aspects of running the business would have to pay that person. So that's really the income statement that I look at, and that's the primary approach for the income approach.
The second approach is the market approach, and in that I'm looking at any comparable sales of business, any business that's really comparable to that. And I've got a couple of national databases and local databases that I look at to see what are some recent sales of businesses like that. It's a little bit difficult sometimes to use this approach because in many cases the business I'm looking at is kind of unique. So in the case of a restaurant for example, that's an easy one, you can use the market approach for that, that allow the businesses that I'm dealing with. There are no real comparables. So depending on the situation this approach can be very useful, somewhat useful, and in some cases not useful at all.
The third approach is the acid approach. In that approach that is really more useful for a liquidation kind of situation where the owner is really not looking at selling the business to someone else but is looking at just selling all of the pieces of the business. So with the acid approach we look at, what is the value of the fixed assets, what is the hard value of the accounts receivable? Going line item by line item through the balance sheet, both the assets and liabilities, and figuring out what is the actual value if I had to just parcel out this business to whoever would buy it. So when I look at these three approaches normally I would use the income and market approach, and I tend to weigh the income approach quite a bit more heavily in looking at the value of the business. So I might put a 70 percent weight on the income approach and 30 percent weight on the market approach. But again, my use of the market approach really depends on whether it is in fact true comparable sales that I'm looking at, or whether it's just giving me sort of an idea, in which case I put less weight on the market approach.
Jeff: Now you're saying you're putting weight, so am I to understand that what you're talking about there is you will sometimes use or need to feel that you need to use a combination of these approaches in order to put together a proper valuation for a company?
Michael: Right. I often will do that. For example, let's say the income approach tells me that the business is worth a million dollars but the market approach tells me that it's worth $700,000. Well, the number that I'm going to end up with is somewhere in between those two numbers, probably closer to the number I get with the income statement depending on how much weight I put on those two different approaches. So if I put a 90 percent weight on the income approach my number's going to be a lot closer to what I develop from that approach.
But again, my use of the market approach really depends on whether it is in fact true comparable sales that I'm looking at
Jeff: Let's take a step back just a moment with respect to the income approach, any adjustments that really need to be made as an appraiser to the cash flow that's reported on the income statement by chance?
Michael: Yes, that gets back to what I was saying about the expenses primarily. Usually the revenue side is pretty fixed. I don't end up making a whole lot of adjustments to the revenue side, but on the expense side, again, you get back into is the owner paying himself more than the market rate, or are there some perks in there that if you pull those out will change the numbers? So it tends to be those items that maybe are just tangentially related to the operation of the business and more related to up the owner's lifestyle. Maybe a fancy car or, as I said, a country club membership that's there. And he can justify, it's, well, for marketing purposes and this country club membership is a value to the business, but is it really necessary and at what expense? So those are the kinds of adjustments that I end up making to the cash flow.
Jeff: After you've had a chance to consult with for the first time a client, do you already know pretty much which approach you're going to need to take or do you have to kind of get in there in the books, look at things, and go out and walk the property for example before you really have a good idea of how you're going to appraise this thing?
Michael: Before I really get out and talk to the business owner and do a walkthrough I try not to make my mind up in advance. Really the first thing that I do with the business owner is to set up a meeting, to sit down and spend maybe half a day talking about the history of the business, getting a walkthrough of the entire operations, seeing how it works, meeting key employees, looking at all of the fixed assets just to get a feel for what condition the whole business is in, particularly the fixed assets. We talk about the history of business from day one when it was founded or at least since the owner took over. If there have been any changes in ownership over the years, if there have been any significant changes in the operations, changes in key customers, or changes in supply chain, those kinds of things. So once I've spent three or four hours meeting with the owner, going through all of that, then I have a pretty good idea of how to start. And at that point I try to get a full set of financial statements, three years, five years if I can get it. Usually three years is what I end up with, tax returns, and then going through each of the individual balance sheet items, getting aged accounts receivable, aged accounts payable, a list of marketable securities if there are any. inventory summaries, those kinds of things, a list of stockholders, and number of shares owned by each, and then company documents, marketing literature. That really helps me to understand how the business owner tries to position themselves out in the market, those kinds of things. So once I have all that then I can sit down and really start to think through what approach I need to take and how I'm going to really start the valuation process. Once I get all of that information, which can sometimes take a few weeks, or sometimes a month for the business owner to put together, then it'll probably take me three weeks or so to actually complete the valuation.
Before I really get out and talk to the business owner and do a walkthrough I try not to make my mind up in advance.
Jeff: Which really isn't too long when you think about it. It just really depends on how quickly you're able to get all of that needed documentation from company ownership. Michael we are beginning to run short of time and I can see that with your depth of experience, again, as I mentioned that we may have cause to have you back on again before too long and maybe before the end of 2015 here. But what I was wondering, what would be a couple of really important pieces of advice that you would leave with our audience today here. We've got about 60 seconds. Take aways either from this discussion or just words of wisdom that you would pass along to anyone who is considering selling their business. And maybe they are 60, 65 years old. They've been at it for a while and they're looking at calling a valuation consultant for the first time?
Michael: Well, I would say the sooner you can do it the better, and certainly as I've said if you're planning to sell the business within two or three years you should be talking to somebody in the valuation area now. One key point I think, if you're a business owner is, what I suggest is look at it if you can from a point of view from someone who does not know your business, who's never going to associate with your business, they're going to write you a check and walk in the door, and they're going to run your business. What chance of success do you think they would have given that set of circumstances, and what do you really need to do for that brand new business owner to be successful, whether that's training manuals, or have yourself available as a consultant for a year or two, or improving your financial statements so that they're really understandable to somebody coming in brand new. So try to put yourself in the position of somebody who's a blank slate, doesn't know anything about your business, who’s going to walk in and run it today. What needs to happen before you can really expect that person to be successful at it?
Jeff: And think about it too, really, if you can make it easier for someone to come in and run your business you're going to make it easier for you to sell your business. I think that's really key there. Michael, if anybody out there has a specific question for you that only you can answer, or they've got a situation that they would really like you to take a serious look at for them, how can they reach you?
Michael: I would say, just pick up the phone and call me. My number is 612-759-4833. Other than that my direct email is firstname.lastname@example.org
So try to put yourself in the position of somebody who's a blank slate, doesn't know anything about your business, who’s going to walk in and run it today
Jeff: There you go. Michael Meagher, we're out of time. It's been a pleasure, sir. Thank you so much for taking time out of you schedule to join us here on Deal Talk today.
Michael: Thank you for having me Jeff, have a good day.
Jeff: That's Michael Meagher, president of MWM and Associates.
Deal Talk has been presented by Morgan & Westfield, the nationwide leader in business sales and appraisals. If you’re thinking about selling a business or you're thinking about buying one call Morgan & Westfield at 888-693-7834 or you can visit morganandwestfield.com. And don’t forget, for more valuable information and insight from our growing list of allied small business experts, and we've got a bunch of them. Michael Meagher is one of them. Make sure you join us again here on Deal Talk. I'm Jeff Allen, thanks again for listening and we'll talk again soon.