The 18- to 36-month period before a transaction is a critical window to assess the state of your business, get your financial house in order and address potential risks. Regardless of the path you choose—transition to the next generation, third-party sale, sale to an employee stock ownership plan (ESOP), dividend recapitalization or an infusion of growth capital—many of the steps to prepare your business for a sale or transfer are the same. 

Preparing for an ownership transition or infusion of growth capital

Each business and prospective transaction will have unique characteristics. The common framework for leaders contemplating an ownership transition or infusion of growth capital includes eight steps.

1. Boost quality of financial reporting and control

Companies with high-quality financial information and controls often command a higher valuation. This is often the most impactful step in preparing your company for sale.

Best practices

• Maintain accurate and detailed financial records using consistent accounting practices and assess moving to annual audited financial statements, depending on exit timing.
• Develop realistic financial forecasts with appropriate supporting documentation and rationales.
• Engaging a reputable sell-side quality of earnings advisor can help validate financials and strengthen buyer confidence.

2. Minimize business risks

Strong risk oversight can protect performance and facilitate smoother due diligence. Buyers, lenders, ESOP trustees, and their advisors and investors evaluate risk concentration as a primary factor in valuation.

Best practices

• Identify what differentiates your approach to risk mitigation and downside protection.
• Implement strong financial, operational and technology controls with regular review processes to prevent threats.
• Work with third-party advisors to prepare thoughtful responses to potential buyers’ concerns about business risks, including customer and vendor concentration, technology and external events. Scenario planning can help you answer these questions.

3. Assess your balance sheet

An efficient balance sheet signals financial discipline to buyers and can accelerate the business sale process. Evaluate your balance sheet to help ensure liquidity coverage and capital ratios signal industry alignment, and operating activities are financed efficiently.

Best practices

• Find ways to improve the cash-collection cycle and other free cash flow-generating activities.
• Identify and remove personal assets from the company balance sheet ahead of a transaction; these can create noise in the financials and may be at risk of transfer in an asset sale.
• Consider moving company-owned real estate into a separate LLC and entering into an arms-length lease in advance of a transaction, preserving flexibility to retain or sell the asset post-transaction.

4. Build governance

Creating a board of directors can help professionalize the business, provide management with oversight, offer guidance and mentorship to the next generation, and help minimize conflicts of interest. Strong governance is a signal of operational maturity that buyers and investors look for during due diligence.

Best practices

• Most businesses start with an advisory board to assist ownership and management in a non-fiduciary capacity. 
• Bring on advisors whose expertise aligns with the company's greatest areas of need, recognizing that advisors may change as those needs evolve.
• Business owners looking to retain their businesses multi-generationally may look at creating a fiduciary board or transitioning an advisory board to a fiduciary board at a later date.

5. Increase operational efficiency

Efficiencies in business operations can free up resources, support revenue-generating activities, reduce operating expenses, improve margins and strengthen your valuation in a transaction.

Best practices

• Review core business processes and assess cost-effective solutions, such as technology and automation, to improve efficiency and reduce operating expenses.
• Continue investing in the business as if a transaction is not going to happen. Deferred capital expenditures, aging technology and underinvestment in people compress valuation multiples.

6. Assemble your transaction advisors

Bringing together a reliable team can help you keep the process moving smoothly and ensure all parties are aligned and focused on your long-term success.

Best practices

• Engage your advisory team earlier than feels necessary—waiting in an effort to avoid fees can end up being more costly if issues are discovered in due diligence, instead of addressed proactively.
• Consider including an M&A advisor, a transaction attorney, an estate planning attorney, an accountant, your lender and a private banker.
• Don’t assume your advisors are talking to each other or have the full picture. Misalignment between your advisors can result in unexpected tax consequences and missed planning opportunities.