Now that you’ve listed your business for sale, one of the next steps is finding a buyer. Not just any buyer, but the right buyer.
On a recent deal at MidStreet, we received over 170 inquiries from interested buyers. We also built a list of 50+ potential acquirers such as private equity groups and strategic buyers.
But after a thorough screening process, how many of those buyers received the confidential marketing materials for that business?
That’s right. Out of 170 buyer inquiries and outreach to 52 private equity groups and strategics, only 34 were eligible to receive the marketing materials. Out of those 34, 5 offers were received.
So, how do business brokers filter out all those buyers and find the best fit for your business?
It starts with a conversation about your vision for the future.
When working with a business broker, you should discuss what your goals are for selling to give them an idea of who to target, and who to filter out.
In this blog, we’ll break down how to ensure only buyers with the right financing, credentials, and aligned goals for your business stay in the buyer pool so that you receive great offers from the best possible fits for your business.
Let’s jump in!
NOTEIn this blog, we use the term "business broker," but the buyer screening process discussed also applies to M&A advisors and business bankers. While there are differences between the three, best practices for qualifying buyers remain very similar.
Overview of the Screening Process
Before we get into the specifics of how buyers are qualified, it’s important for you to know the steps that take place from start to finish. Here’s a quick overview of the screening process:
2. Your business broker builds a list of potential buyers.
3. Interested parties submit inquiries and your business broker performs outreach to the list they created.
4. Your business broker has an initial interview with prospective buyers and determines if they will receive an NDA (Non-Disclosure Agreement) and questionnaire.
5. Qualified buyers receive, sign, and return the NDA and questionnaire to obtain marketing materials.
6. Buyers who are interested in the opportunity after viewing marketing materials have an introductory phone call with you and your business broker to determine if they’ll be a good fit for the business.
7. Selected buyers submit letters of intent (LOIs) with their offers.
8. You choose from prospective offers with the assistance of your deal team.
Now that you’re familiar with the screening process, let’s take a look at how buyers are filtered out as they move through each stage.
Confidentiality (Determine Intentions)
When screening buyers for your business, there are two main goals in mind: protect your sensitive information and find the best buyer.
Like most owners, you probably don’t want your employees, customers, suppliers or competitors finding out that you are selling the company.
If a competitor is granted access to your confidential information, it could represent a significant liability to your business.
Keeping your information out of the wrong hands requires your business broker to be tactful. Buyers (sometimes your competitors) will fish for information so they can qualify your business without signing anything. They’ll ask questions like “where’s the business located?”, “how many employees does the business have” or even “what’s the square footage of the building and how many loading docks does the facility have?”
Your broker is there to safeguard this information and qualify the buyer, not the other way around. They should know how to screen a buyer depending on if they are an individual, private equity group, or a strategic buyer.
While competitors could use your information to leverage the sale against you, employees and suppliers finding out about the sale can also pose a problem.
Sometimes employees, suppliers, vendors, etc. become anxious if they get wind of new ownership.
We’ve all heard the horror stories of private equity companies taking over small businesses and ruining them. Sadly, the negative press always gets the most attention, and there are many examples of successful sales that end up making things better for all parties involved, including employees.
Types of Buyers
The type of buyer inquiring on your business has the largest impact in determining how they’ll be qualified.
Individual buyers will need sufficient net worth and experience to be approved by an SBA 7(a) lender, whereas financial and strategic buyers will be using different capital sources and are typically qualified based on their portfolios or previous acquisitions.
Let’s break down each type of buyer and discuss the criteria used to qualify them in greater detail.
Qualifying Individual Buyers
When an individual buyer inquires on your business listing, your business broker should require them to have cash on hand for at least a 15% down payment plus ≈$100k of post-closing liquidity before sending them a non-disclosure agreement (NDA).
Most companies sold to individuals priced at less than $6 million will be funded by the buyer using an SBA 7(a) loan. The 7(a) loan has several requirements that buyers must meet, and banks that are part of the 7(a) program often have even stricter requirements.
For example, if your business is priced at $3 million, an individual buyer would need to have at least $550k in cash and liquid funds (ex: stocks/bonds or 401k) for them to continue through the process.
How does this break down?
The down payment works out to be roughly $450k ($3 million x 15%). They’d also need somewhere around $100k of post-closing liquidity. If a buyer can't meet these requirements, there's no point in pushing them through to the next stages.
Besides their financial capabilities, individual buyers will also be qualified based on several other criteria before they receive an NDA, including:
- Willingness to relocate – Simply put, if an individual buyer is unwilling to relocate to manage a business, they likely won’t be qualified to purchase it.
The lender (and your broker) need to see commitment on behalf of the buyer. Individual buyers are likely to replace the role of an active owner-operator, which means they’ll need to be present on-site or close by to successfully run the business.
- Background and interest – If a buyer lacks basic knowledge about the industry the business is in, your business broker and any potential lenders should proceed with at least some caution.
Think about it. Would you fund someone who was purchasing a company with little/no experience in the industry? Would a tech entrepreneur be a great fit for a pool servicing business? Oftentimes, the answer is no.
But what if that individual had committed to studying the pool service industry and had mentors in the industry to help guide them? In that case, the buyer would be a much stronger fit.
Lack of experience or commitment to an industry also displays lack of commitment to the deal, as most often the best buyers are doing their homework well in advance.
- Length of their search – Individuals who have been searching for a business for years with little to no progress are generally not taken seriously by business brokers.
This may sound unfair, but there are several “tire-kickers” out there who will inquire on business listings as a hobby and never actually move forward with a purchase.
We like to call these “Perennial Buyers.” Given the time and resources necessary to sell a business, your intermediary will generally want these inquirers off their list as quickly as possible, or they’ll risk wasting everyone's time and resources.
Qualifying Strategic Buyers
Strategic buyers are companies within your industry, or in an adjacent industry who see value in purchasing your business.
When a strategic buyer inquires on your business listing, or when your business broker reaches out to potential strategic buyers, they should always get these companies approved by you.
This should be done to make sure you’re comfortable with sharing the confidential marketing materials if the initial conversation goes well.
There are many different types of strategic buyers. Some want to acquire your entire business and the real estate it operates out of.
Others might only want to buy the business and not the real estate.
And still others might only want to acquire your customers and employees, but don’t see value in the other aspects of your company.
In any case, your business broker should ask a strategic buyer about the following:
- Acquisition history – some strategic buyers have had several successful acquisitions, while others close up shop within a couple years. Your business broker will be much more comfortable with a strategic buyer if they have a successful acquisition history, and if the business owners who sold to them have positive testimonies.
- Industry/Adjacent Industry – If a strategic buyer is inquiring on your company, they should be within your industry or in a related industry. If neither of those are true, they will likely be disqualified.
- Geographical Preference – Some strategic buyers are looking for a very specific geography. If your company is not in a desirable location for a prospective buyer, your advisor can determine this early in the process; there’s no reason for the strategic to see your confidential information in this case, even if they do complete an NDA.
Qualifying Private Equity Buyers
Private equity buyers are typically vetted based on their acquisition portfolios. If their portfolios show they have made similar investments and successfully grown their acquired companies, they will likely be qualified to receive your business’s marketing materials.
Other factors used to qualify private equity buyers include:
- Platform or add-on acquisition – whether your company will be purchased as a platform or as an add-on (or roll-up) can determine how the business will be managed after the acquisition.
- Committed capital – the amount of committed capital a private equity buyer has will inform your business broker about the size of the group, and their goals for an acquisition. If they claim to have “pledged” capital but won’t disclose their committed capital, they will likely be disqualified.
- Hands-off or Hands-on – The level of involvement a private equity buyer has in your business after an acquisition can vary greatly.
Some private equity buyers are extremely hands off, meaning they’ll check in on management once a month or a couple times each quarter, but still provide significant value with their capital and finance expertise.
There are also private equity buyers who are extremely hands-on, and will want more of a say in the day-to-day operations of the company. These buyers may assign tasks to the management team and check in on a weekly basis to offer their input and feedback.
One isn’t necessarily better than the other, but your preferences for how you’re managed after an acquisition will determine which end of the spectrum you’d like to stay closest to.
MIDSTREET TIPPE groups will often request edits to your non-disclosure agreement. Seek the help of an attorney with transaction experience for guidance on which changes are acceptable and which aren't. We've seen everything from small changes to entire rewrites of the NDA. How many changes the client will accept often depends on how desirable the buyer is.
Finding the Best Fit
Once buyers have been qualified, it’s time to narrow the scope and find the best fit for your business. Think of this process the same way you would think of buying a home.
Let’s say you’ve been in the market for a house for a couple of weeks. Your realtor has found four homes that fit your budget, along with your location and size preferences. They all look great on paper, but one really feels like home as you start to walk through each room and step into the backyard.
Maybe it’s because it reminds you of your childhood home, or you can picture your family dinners taking place in the dining room, but whatever the case, you know you’ve found the right house.
Choosing the best buyer for your business should be a similar experience.
Your business broker may find a handful of individual buyers who are financially capable and willing to relocate.
They may also find a strategic buyer who is in your industry but outside of your market, or a private equity group with a successful acquisition portfolio. But, until you speak with them and learn more about their goals for your business, you won’t know who the right buyer is.
This is where your preferences start to play a bigger role in choosing a buyer.
Choosing a Buyer
Once buyers have been qualified, it’s time to pick the best fit using your preferences. If you’re choosing from a pool of interested buyers, you should consider the following information regarding buyers:
- Values and personality –sellers often prefer a buyer they actually like to purchase their business. This person or group will be managing your business and your employees, so if you don’t think their values and personality align with your company culture, they may not be the best fit despite their qualifications.
- Goals for the business – A buyer’s goals for your business are one of the most important considerations you can make.
If they plan on relocating the business or adding new products or services you don’t think will be successful, they may not be a great fit.
Strategic and private equity buyers may also plan on eliminating any redundancies in your company like unnecessary facilities, management, or marketing teams.
If it’s important for your business to continue running with its current staff and location, you’ll want to choose a buyer who intends to keep things the way they are.
- Your role in the company – strategic and private equity buyers could potentially want you to retain a management role in the company and offer a majority recap, whereas others prefer a full buyout. If this isn’t something you’re willing to do, then you’ll want to focus on buyers who won’t require you to stay involved.
Trust Your Gut and Your Business Broker
At the end of the day, you should hire a trustworthy business broker to screen buyers for your business.
An experienced broker will know a few tricks of the trade when it comes to spotting uncommitted buyers, which makes them an invaluable asset during a business transaction.
Remember, business brokers usually don’t get paid until the business is sold. This means they can spend several months working to complete a deal with no guarantee of being compensated for their time.
This provides great incentive for them to find the best possible buyer for your business.
A good broker will want to keep the bad fits from wasting everyone’s valuable time and resources.
It’s also in their best interest to prevent any inquirers with malicious intentions from accessing your sensitive information, which can ruin the business’s chances of being sold for what it’s worth.
For more information on how MidStreet qualifies buyers for your business, check out our blog “How Does MidStreet Qualify Buyers?” This will guide you through our specific process, which we’ve fine-tuned throughout our years of experience as business brokers.
If you're ready to begin the process of selling your business, or you have questions about what it takes, contact us today. We'd be glad to steer you in the right direction.