It is no secret that the number of corporate deals completing in 2009 is significantly less than previous years. There are many reasons for this (too many to list in this blog) – one important factor is the perception of vendors on the valuation attributable to their company. 

If an entrepreneur has spent 20 years creating a profitable business, it is natural that he or she will wait for the right time to sell. It instinctively feels like the wrong time to sell - valuations across all asset classes are low in comparison to those seen in recent years (though the markets are showing a small recovery as I write, they are still substantially lower than 2007 levels). The sale of shares in private companies are also generating lower valuations – though not as low as many people expect.

Valuations are always subjective and each valuer will probably treat the impact of the recession differently. From my perspective, the additional considerations for a valuation include:

• earnings valuations – in my experience multiples have reduced by 1-2, and earnings forecasts must be revised to reflect the maintainable profits in the medium term (on average this will be a lower figure than would have been projected in previous years). Please note that three recently completed deals have seen multiples in the 4-5 range (pre-tax).
• net asset valuations – an adjustment should be made to reflect diminishing stock values, and the valuation and recoverability of trade debtors should be considered in detail. Freehold values may have reduced since surveys undertaken even three months ago.
• discounted cashflow – earnings levels should be considered in light of the economic down turn. For the discount factor – the cost of capital must reflect the long term outlook, assuming that today’s low interest rates will continue could create substantial overvaluations.

There are some genuine recession proof sectors – but even in these areas, valuations should be reviewed, as the reduced availability of finance can place additional risk on a business.

Julian Dobbin is a partner at Mercer & Hole. Please contact him directly to talk about multiples and valuations relevant to your business.

The views given in this blog are personal to the author.

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Once you have made the decision to make an offer to invest in, or acquire, an SME you are probably past the point at which your accountant should be brought in to the process. Not only can the accountant provide sound advice on the ‘corporate finance’ aspects (for example the valuation, key terms etc), it is crucial to set an appropriate structure from a commercial and taxation perspective. 

This is particularly important in distressed situations. Mercer & Hole have recently advised on a distressed management buy out – under the initial terms, the acquirers were effectively taking on all old group liabilities (even though the majority did not relate to the division in question). This is clearly not an acceptable approach – and after several calls / emails the deal was very different. 

Beware of sellers that say ‘we can do this without the accountants and lawyers’ – they are likely to have their own interests at heart…

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This scheme will support bank lending, of 3 months to 10 year maturity, to UK businesses with a turnover of up to £25 million who are not able to access the finance they need. It will provide loans of between £1,000 and £1 million and is currently available until March 2010.

The guarantee can support new loans, refinance existing debt, or conversions of existing overdrafts into loans to release capacity to meet working capital requirements.

It is a very flexible tool in comparison to the previous scheme – the parameters in size have been widened significantly, and an interesting new feature is the flexibility to use the EFG in 'share' transactions.

Only time will tell whether the EFG will be a success. The decisions to lend are delegated to the banks, who will apply their own criteria. However it appears to be a step in the right direction, and I for one hope that the EFG scheme will provide a lifeline for the many viable, but cashflow pressurised, SME’s in the UK.

See guidance from Business Link by clicking here.

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When forming a business most people do not go to the trouble of drawing up a formal shareholder agreement – many thinking that it is not necessary.

However, in circumstances where shares are held by different parties we would recommend that clients give this subject some careful thought and consider entering a formal shareholders’ agreement and taking appropriate life insurance – let me briefly explain why:

A shareholder agreement, in addition to covering various detailed statutory matters such as voting rights and the decision making process, can cover methods of financing used by the business, the obligations of director / shareholders and perhaps most importantly, provision for dispute resolution and exit strategies.

Let’s consider an example of a small family company managed by two married brothers who both work in the business, each having an equal shareholding with a good personal and business relationship and no business issues - circumstances under which many people would believe a shareholder agreement is not necessary.

In this example, if one of the brothers died, his shares would usually pass to his spouse, meaning that the surviving brother would have a 50% equity owner who had no involvement in the business and who might want to release their capital quickly – a recipe for potential conflict if the expectations of the parties involved differ.

In these circumstances, a shareholder agreement might stipulate a method of valuing the shares and include a “purchase” clause entitling / enforcing the surviving shareholder to buy the deceased shares using the proceeds of the life insurance. This would enable the widow to realise her investment and the surviving brother to secure control of the business.
 

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I have mentioned before that the key to a smooth transaction and therefore maximising the value you will receive is preparation. 

When selling your business you may receive several visits from advisors dealing with financial, legal, commercial, environmental, property and pensions due diligence. It may seem that you are asked for the same paperwork thousands of times.

To keep you sane, I have a few tips :

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It may sound obvious, but I thought I would raise the issue of ‘preparation’ in business sales as many transactions I have been involved in recently have illustrated a distinct lack of it.

I have written previously about making the business as autonomous as possible from the current owners – this is the key method to successfully inflate your sales price. There are several other simple procedures which a vendor should undertake

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The most simple way to add value to your small / medium size enterprise is to make yourself, as the owner, as un-important to the business as possible.

Contract negotiations – Let someone else do it
Finances – Read the accounts, don’t prepare them
Customer relationships – Leave it to your number 2
Making sales – Teach somebody else

Whilst this is extreme, the principle is still important. The owner should provide strategic guidance, ensure relevant controls are in place and supply relevant training to staff. If the owner is too important in any of the operational areas mentioned above, the value of the business will be intrinsically tied to them as an individual. This can have a serious effect on the company valuation, when you look to exit the business.

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