Accounting for Law

Adequate preparation time crucial when selling business

Selling a small to medium-sized business requires planning, strategy and due diligence — but many entrepreneurs are surprised by the time commitment required in order to successfully carry out this process, Calgary business lawyer Cameron MacCarthy tells

“It’s usually a two-year process for most small and medium-sized enterprises. If you have a two-year window you’re probably going to be able to do everything that you need to do to help maximize value on that transaction,” says MacCarthy, partner with Shea Nerland Law.

The most common misconception for many owners, he adds, involves the ease at which one can actually sell the business that they’ve spent a considerable amount of time growing.

"Many people don’t have succession plans for their business. By the time you start talking about succession, it’s often too late. I’ve had clients who say ‘it’s July and we want to retire by December.’ If they haven’t already been actively doing things to condition the business for sale, that’s a very large undertaking,” says MacCarthy.

“You get so caught up as a business owner in the day-to-day that it’s a real challenge to think three years down the road and think strategically about it,” he adds.

But depending on the type of business, he says, “there’s this question of who is the right buyer and how do you find an audience with that buyer, how do you properly market your business, how you go about that process in a way that helps to maximize value. And that’s the thing that many people take for granted,” he adds.

Another challenge many owners of small to medium-sized enterprises face when planning for the eventual sale of their business is the emotional side of the equation.

For them, the business is their baby. And so, there’s always a concern that the culture that they have developed will be lost, that the identity of the business will change, that the new owners will do things differently and different doesn’t always mean better. It’s that whole process of letting go that is emotionally challenging for many entrepreneurs,” says MacCarthy.

At the same time, he says, many business owners are at the stage where they need to somehow monetize the equity in their business to help facilitate retirement.

Those who haven’t done any planning — either personally or at the corporate level — are potentially restricting their ability to access the capital gains exemption on the sale, says MacCarthy. Currently, each individual is entitled to a lifetime deduction of just over $835,000 on the disposition of qualified small business corporation shares.

“So that could be a significant issue when you’re looking at people trying to create a nest egg to fund their retirement.“

From a planning perspective, says MacCarthy, a two-year window allows business owners to start to work with a lawyer and financial advisor in order to do proactive due diligence on the business and get it ready for sale.

“The more that we can get that material prepared in an organized manner, the easier the due diligence process is going to be for both buyer and seller.”

Part of the two-year process, he adds, also involves ensuring the retention of essential personnel and ensuring goodwill is transferred to the business by the owner, and making that owner redundant.

“It’s about making sure that you’ve got the right people on board, that you’ve got the right processes and systems in place. And none of that can happen overnight,” says MacCarthy.

On the legal side, says MacCarthy, good counsel should take a holistic view to figure out any risks that need to be addressed — for example, whether or not there is adequate documentation in place to formalize all key arrangements throughout the organization, both internal and external.

The lawyer’s role in the sale of a business, says MacCarthy, changes depending on the nature of the relationship with the client. Occasionally, he says, lawyers are brought in as special counsel on the transaction itself without a previous connection, but more commonly, counsel have an ongoing relationship with the client, and have been involved with and are knowledgeable about the business.

“You’ve got to understand your client’s business in order to help ensure that they’re getting the most out of the deal that they can. And then I think it’s really about making sure that the clients get adequate support from other advisers — whether it’s the accountant, tax professionals, financial advisers and that everyone is working as a team and understands what the objectives are and what the concerns are and what’s being done to achieve the objectives and address the concerns.

“Typically, we see legal counsel playing quarterback in many respects. But if it’s not legal, then for whoever is going to play quarterback, it’s all about communication, dialogue and managing the whole transaction.”

In terms of transferring a business to the next generation, MacCarthy says the big issue at the moment is around financing — namely, how the buyout of generation one is going to be structured to enable generation two to take over without putting the company or the new owners in a problematic financial position.

“There are many sources of capital to help with that transition. But it’s about making sure that you’re getting the right financing from the right source. I think the key is to really find a capital provider that understands what that transition looks like.”

As private equity and private capital markets have recently started to focus on the lower part of the mid-market, MacCarthy says it is also important for small to medium-sized enterprises to have advisers “that have a strong and deep understanding of who your buyers are, your natural sources of financing, who your potential investors are — that is all rapidly changing.”

“I have people that are surprised by the fact that private equity is interested in their business because they assured that they were too small. But we’re seeing a focus on smaller transactions by private equity players which is reshaping people’s expectations on how they’re going to exit the business.”

Ultimately, says MacCarthy, even if the sale does not end up going through, any work done in preparation can prove to be beneficial to the business.

“We’ve actually found, going through that process with clients where a transaction is abandoned, that everything they’ve done has actually strengthened and improved the business anyway.

“I don’t think you would look at it as a lost cause or lost opportunity. It’s probably things that the business owner wanted to do but just hasn’t gotten around to doing because they’ve been so caught up in the whirlwind of day-to-day operations.”

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