Editor’s note: This is Miriam V. Gold’s first column for Beauty Store Business. Jean Warshaw will return with her column in our July issue.
Congratulations! You have decided to sell your beauty business. Before you find a buyer, you need to do your homework. Doing so will not only facilitate the sales process, it might very well result in more profit for you. Selling a business is very different than operating one. You need to determine all of the elements of your business that provide value to the business or subtract value from it. Identification of the value enhancing or value destroying aspects of your business will help you to:
Typically, you form a team to conduct this process, which is sometimes referred to as “reverse due diligence.” The earlier a team is formed, the more likely the issues that arise will be addressed in a timely way. For important areas, make sure to use experts. In the long run, they will be cost-effective because they will quickly cull the wheat from the chaff.
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Why are you selling the business? Are you the only “seller”? Do you have partners? Does your team share the same vision?
Any agreements (shareholder agreement, operating agreement, partnership agreement and the like) that might deal with the sale of your business need to be considered. Who needs to agree to the sale? What are each of your rights and obligations? How do you share the sales price? Even in the absence of a written agreement, relationship issues need to be considered. Ensuring that everyone on the selling side has the same vision of what selling the business means is sometimes especially challenging in a family-owned business, even when only one member of the family is actively involved in the operations. Had grown children intended to join the business? Does Uncle Joe need to continue to work? Are you intending to retire, or do you want to maintain some ongoing relationship with the company? Is timing important? Are you going to want a buyer who will display loyalty to your employees and the community and will be a good steward for the business into the future? Understand where you are willing to compromise and where you won’t. Ensure that everyone on the selling side has a shared vision of the end state of the deal.
Once you fully understand all of the objectives of your transaction and have prioritized those objectives, you should try to attract the type of buyer who best meets your goals for the sale. Strategic buyers and financial buyers have very different motivations. Small buyers have different plans and needs than bigger buyers. Private buyers are, of course, different from public buyers. Knowing exactly what you are selling and the relative value of each of the components in the transaction will ensure that you are positioning your business optimally for the type of buyers you want to attract.
How will you structure your transaction? As a stock deal? As an asset deal?
How your deal is structured can impact your profits from the transaction. Tax and liability issues are often, but not always, the driving considerations in structuring a transaction. Most deals can be structured as either a stock or an asset deal, and the form will impact the benefits to each of the parties. In a stock transaction, the business entity itself is transferred with all of its assets and liabilities. In an asset deal, the buyer is able to select only those assets and liabilities it wants to assume, subject to some exceptions. In the sale of a family business, the ability of the buyer to set apart assets and liabilities may be more theoretical than real, as you likely will want to transfer the entire enterprise. Reverse due diligence will help your advisers determine the best arrangement for the transaction.
What exactly are you selling? Will some assets be of more value to some buyers than to others? Do you want to—or are you willing to—retain ownership of any of those assets?
Not all assets of a business are of equal value to all buyers. Some buyers may see more value in some of the assets than you do. You might also find that some buyers don’t want certain assets (for example, a contract for payroll administration or an expensive building) and might even value the business higher without them. While in a stock deal, as opposed to an asset deal, the whole entity is being sold; this analysis is still important.
Intellectual property generally consists of patents, trade secrets, copyrights, trademarks and trade names. You may have patents on your new ideas, such as product formulae or the way to make your products, or you may hold that information as trade secrets. Many types of names can be trademarks, such as your store name or a name of a beauty product or service. Symbols, logos, photographs, slogans, packaging shape and color can also be trademarks. Names for services are called “service marks.” Just like your brand, all trademarks and service marks set your offerings apart and show their source. Copyrights could cover literature, product brochures or the content of your website. Make sure you own what you think you own. If you are selling only part of your business, think about how some of the intellectual property that relates to several different product lines may be divided in the transaction.
The same issues exist about your rights to real estate. Make sure you have good and transferable title to your real estate if you own your premises. Any issues with title and any liens should be addressed before the business is marketed. Recognize that buyers may be particular about real estate because of concerns with environmental issues. Cleanliness is important. Just like showing a home for sale, a clean location makes a far better impression than a dirty, run-down one.
Is the real estate in question just suited to the current use? If the buyer isn’t interested, are there other buyers for this property? Is the asset worth more as part of the sale than it would be if you sold it separately? If the real estate is leased, can the lease be assigned to the buyer, or are there opportunities to terminate the lease early, and at what fee, or to sublet the property?
The quality and quantity of your inventories are both important. What is your percentage of obsolete or nonconforming inventory? Does it make sense to rework or discard such inventories before sale, or is it better to expect the buyer take it on? Having too much defective inventory on hand could suggest to the buyer either a problem with the manufacturing process, suppliers or internal controls. Some buyers might want extra inventories to carry them through the transaction. Is more capital than is necessary tied up in inventories?
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Are your credit terms customary? Do you collect receivables in a timely fashion? What percentage of your receivables is aged, and how aged? Is more money than is necessary tied up in accounts receivable? In an economic downturn, such as we’ve experienced recently, will your wholesale customers be likely to go into bankruptcy and will your retail customers continue to spend money on your products and services? Consider whether making the effort to tighten up your collections will be worth it.
Employees are always impacted by a sale, and employees have a disproportionate ability to impact the sale. There will be some employees of yours whose continued loyalty will be significant to the ongoing vitality of the business, and a few who are so important the buyer will insist on knowing that they will stay. There will be some who will be essential only during the transition, and some whose jobs will be terminated. While the fate of each employee can’t be decided until later in the process, you should think about what you can do to ensure that the employees you need to retain stay committed to the business during what can be an unsettling time for many. Do you have severance policies in place? Would you consider retention bonuses for significant players? Consider also the shifting of loyalties that inevitably occurs in a sale, from you to the buyer, who will be the new employer.
Some employees may have contracts. Review those carefully. Don’t forget that there may also be federal or state laws that require prior notice in the event of layoffs. Employees will be concerned with whether or not they will retain their positions as well as their benefits. The mechanics of how that will be handled need to be addressed and communicated.
All contracts need to be reviewed to ensure they are current and to determine whether they will transfer to the new owner. Depending on the form of the transaction, you will have to review assignment clauses or change in control clauses. During a diligence exercise, I sometimes find that some contracts have long expired or that the written terms of the contract no longer reflect the practice between the parties. To the extent a contract is critical to the business, you might want to negotiate an update. What is a critical contract depends on the business itself. It could be a contract with important customers, large suppliers or suppliers of unique products. It could be a supply contract that provides a price advantage not available on the open market. It could be a license for technology essential for your processes or products. If there are critical contracts that are nonassignable by their terms, or might terminate with a change in control, assess how best to address that. Sometimes your buyer might be able to persuade the third party to deal with it. Sometimes there might be an alternative you can identify. Remember also that the software you use to run your business might be subject to restrictions on the number and locations of users, among other things.
Important relationships might not be subject to a contract. How will you be able to persuade your buyer that those relationships will be transferred to it with the business? This is especially important where the third party is a considerable portion of the customer or supplier base of the seller. Understand the motivations those parties have to conduct business on the same basis they have historically.
What liabilities does the business have? Do you intend to transfer those to the buyer? Can you? How might those liabilities impact the purchase price?
As the seller, especially if it’s a family business, you don’t want to keep any liabilities. The buyer, on the other hand, wants to limit the liabilities for which it will be responsible and to quantify every liability it will assume so that it can factor the cost into the purchase price. It also wants to be assured that the business is currently in compliance with the law, so it doesn’t buy a business that might expose it to penalties or additional costs to come into compliance.
Every business has creditors. Among others, there are suppliers, whose debts may be reflected in accounts payable; banks and other financial institutions, whose obligations will typically be secured and fully documented; and contingent creditors, such as potential plaintiffs.
How carefully are accounts payable being managed? Do you pay your bills on time? Do you pay your bills too early? Remember that your trade creditors might be considered an asset to the buyer.
Institutional credit arrangements typically have prohibitions on assignments and on changes in control. Does it make more sense to the transaction to pay these obligations off or to transfer them, assuming that can be done. Have you guaranteed any of the debt personally? Before you find a buyer, you need to determine when and how to approach these lenders.
Buyers will want to know about your current and historic litigation track record. Has your beauty business ever been sued? Is it mostly in one area (product liability or employee issues) or is it spread across different facets of your business? Think about whether your litigation history is consistent with a beauty business of your size and type, and if not, why.
Is there any reason to think that the company might be operating in material noncompliance of any laws and regulations? Are there systems in place to manage compliance obligations? Is there any history of noncompliance? Are you current with all your tax obligations?
The work you do up front preparing for the sale of your business will help you facilitate the transaction and obtain the most attractive after-tax net profit. Good luck!
This copyrighted article is intended to help make you aware of some of the issues that you may face, but it is not exhaustive and does not constitute legal advice. You should consult your lawyer for legal advice about the particular circumstances of your beauty business.
Miriam V. Gold is a lawyer in private practice in White Plains, New York. She provides advice on business law. She can be reached at firstname.lastname@example.org.