One of the big assumptions, or constraints, that holds back a business transition plan is that the owner assumes there is a future demand for the company. Before you determine how much a buyer is willing to pay for your business, you have to confirm there actually is a potential buyer.
Having no future buyer is an “undesirable effect” that can be addressed and eliminated by applying the Theory of Constraints “thinking process.” If you are concerned that there may not be a potential buyer, this is your current reality. The next step in the thinking process is to identify what can be changed to attract a potential buyer. This may include things like clean accounts receivables and strong credit terms, upgraded equipment, a highly trained and stable workforce, cash in reserves, profits and a transferable customer base. Other considerations may include:
- Long-term demand for the products
- Intellectual property
- Well documented processes and systems
- High cost to enter the industry
- Easy access to debt financing and capital
- Favorable tax structure
The Theory of Constraints emphasizes that increasing throughputs is more important than cutting expenses — something that seems contrary to traditional accounting. However, throughput has no limits whereas you can only reduce expenses to zero (rarely). In addition, net profit is derived by throughput minus operating expenses. In a manufacturing environment, efficient production and improving net profits are attractive to potential buyers. By contrast, inefficient production and low expenses are less attractive.
To determine the true demand for your business in the early stages of business planning, a calculation of business value can be performed to provide a baseline from which to pursue a more formal business transition plan. It will remove the constraints of owner procrastination and assumptions by putting real numbers to your future net worth.
Continue Reading: Identifying Weak Links to a Successful Transition
Gary Jackson, CPA, is a tax partner at Cornwell Jackson. Gary has built businesses, managed them, developed leadership teams and sold divisions of his business, and he utilizes this real world practical experience at Cornwell Jackson and in providing tax planning to individuals and business leaders across North Texas.
Contact him at gary.jackson@cornwelljackson.com.
