In a market environment fueled by historically low interest rates, record levels of corporate cash and private equity dry powder and unprecedented merger and acquisition activity, many business owners are no doubt asking themselves, “Is now the time to sell?” For family business owners, there is an added layer of complexity, as the company is truly more than just a job or source of income – owning a business results in a significant increase in the time family members spend together, defines the family’s legacy in the community and is often the source of great pride and emotional connection.

After years of building a business, the mere thought of selling can feel unsettling. While inertia or sentimentality can often lead to maintaining the status quo, there are many reasons why selling may be the best decision for the family. As an aside, references to selling in this article are meant to encompass a broader range of strategic alternatives in addition to an outright sale, such as partnering with a private equity firm or implementing an employee stock ownership plan. Though market conditions are an important consideration, the underlying factors driving a sale are often rooted in family dynamics, the business itself or some combination thereof. These factors should be evaluated openly and thoughtfully with key stakeholders and trusted advisors. It is critical to objectively evaluate the business and understand and weigh the family’s near- and long-term objectives and priorities and to then make an informed decision on selling.

Family Considerations

For family-owned businesses, particularly those spanning multiple generations with extended branches, two primary questions relating to family dynamics typically drive the decision to sell: “Does the family have an heir apparent?” and “Does the business provide sufficient return for shareholders?”

Owning a business is a full-time endeavor and can be all-consuming. After years of operating, it is not uncommon for families or owners to feel a diminished drive for the daily grind of running a company and shift their attention to other passions such as a new business venture or philanthropic cause or simply retire. Acknowledging and planning for this eventuality, as opposed to assuming the next generation will one day take control seamlessly, can preserve shareholder value. There is no guarantee that the next generation will have the acumen, drive or skill set required to continue running the family business successfully, and not every child has the desire or ability to successfully take the reins. Studies show that approximately 70% of family-owned businesses either fail or are sold prior to the second generation taking the helm.1 In certain cases, the family may have a management gap, where the difference in age and/or experience between current leadership and the next generation is too wide. Options to bridge this chasm include hiring nonfamily management professionals, partnering with a financial sponsor such as a private equity firm or pursuing an outright sale.

As important as it is to identify the next generation of leadership and set up a succession plan, managing the ongoing and future liquidity needs of family members with ownership interests in the business is also critical. The inability to meet the liquidity needs of shareholders often creates conflict that causes an eventual sale. In the third quarter 2017 edition of Owner to Owner, we discussed the importance of balancing reinvestment in the business and shareholder liquidity needs or preferences.2 This can be challenging depending on the number of family members involved, ownership interests and roles in the business and the company’s reinvestment needs. Successful family businesses rely on healthy communication among stakeholders about the business strategy and an understanding among them of the value of their ownership stake over time. Shareholder communication and collaboration through efforts such as family meetings and a family council can help avoid value-destroying conflict that leads to suboptimal actions, such as a forced sale of the business due to an unforeseen liquidity need. Even for families who communicate effectively, liquidity needs can (and usually do) arise over time as shareholders have divergent goals and timeframes. If the business is unable to meet these needs without hampering its operations, it may be prudent to consider a recapitalization3 or sale. In such situations, it is common for a family business to turn to a financial sponsor such as a private equity firm to make an investment in the company or a lender to provide a loan, thereby providing near-term liquidity for shareholders as needed. Of course, introducing a nonfamily owner is a major decision that should be weighed carefully.

Business Considerations

On the business front, the decision to sell is often driven by the underlying question, “Does the business in its current form have the ability to thrive in a highly competitive market?”

Staying competitive, particularly in a crowded or complex industry, is a challenge faced by all businesses, which require sound strategy and ample capital to compete effectively and grow. In order to be competitive as industries evolve, companies need to reinvest in sales and marketing, research, new technology or equipment, expand into additional floor space or a larger facility or hire and promote employees. If the capital required for these initiatives is not available internally, there are several questions for the company to consider: Should the business raise external capital? Is there a strategic partner who can bring additional value in the form of access to new markets, improved relationships with suppliers, leadership talent or other factors that may enhance the company’s competitive standing?

Owners must also make complex capital allocation decisions. As businesses grow and evolve into new product lines, geographies or even industries, the demands on management increase, and incremental operational capabilities may be necessary for the company to compete effectively. There may be a point at which the family recognizes it may not be well-equipped to steward the go-forward business to its fullest potential. For instance, a company could develop a new product but then realize it lacks the distribution network or other corporate capabilities to maximize the product’s potential. In such cases, it is not uncommon for owners to decide to divest this noncore part of the business (that is, the new product line) to another owner who can do better with it. The same often holds true with industries that are in structural decline or parts of the business that have stagnated and would be better operated under new owners.

Timing is also an important consideration. While it is impossible to specifically time the mergers and acquisitions market, it is worth remembering that the best time to sell, in terms of multiples and dollars, is often when one does not have to sell. A transaction process can be complex and emotionally challenging, so it is best for an owner to consider it while there is still “gas in the tank” and the business is performing well. Demonstrating a bright outlook for the business and being able to achieve projections is important in order to optimize the transaction outcome.

Sometimes, the decision to sell is as simple as receiving an attractive offer that an owner cannot refuse. Large institutionalized corporations typically develop a methodical growth strategy, including an aggressive acquisition pipeline. In a competitive environment, certain businesses become “must-have” assets for strategic reasons, resulting in buyers making outsized offers. Family businesses would be wise to seriously consider such once-in-a-lifetime offers.

Conclusion

So, is now the time to sell? The answer to this question is nuanced and should take into consideration not only current market conditions, but also the family dynamics and business prospects of the firm. Thinking through the decision to sell requires time, thoughtfulness and open communication among shareholders. The ultimate decision will be one that is specific and personal to the family and business. Engaging with trusted advisors and speaking with other family business owners who have been through similar journeys can help owners make the right decision.

o2o-720px

~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
Compliance Notes:

This publication is provided by Brown Brothers Harriman & Co. and its subsidiaries (“BBH”) to recipients, who are classified as Professional Clients or Eligible Counterparties if in the European Economic Area (“EEA”), solely for informational purposes. This does not constitute legal, tax or investment advice and is not intended as an offer to sell or a solicitation to buy securities or investment products. Any reference to tax matters is not intended to be used, and may not be used, for purposes of avoiding penalties under the U.S. Internal Revenue Code or for promotion, marketing or recommendation to third parties. This information has been obtained from sources believed to be reliable that are available upon request. This material does not comprise an offer of services. Any opinions expressed are subject to change without notice. Unauthorized use or distribution without the prior written permission of BBH is prohibited. This publication is approved for distribution in member states of the EEA by Brown Brothers Harriman Investor Services Limited, authorized and regulated by the Financial Conduct Authority (FCA). BBH is a service mark of Brown Brothers Harriman & Co., registered in the United States and other countries.

© Brown Brothers Harriman & Co. 2018. All rights reserved. 2018.

PB-02388-2018-08-17

1 Stalk, George, Jr., and Henry Foley. “Avoid the Traps That Can Destroy Family Businesses.” Harvard Business Review. August 1, 2014.
2 For more on the difficulty of managing capital and liquidity demands on a family business, read the full article, “Balancing Business Reinvestment and Shareholder Liquidity Needs in a Multigenerational Family Business.”
3 For more on recapitalizations in a family business, read our second quarter 2018 Owner to Owner article, “Recapitalizations: Aligning Capital Structure with Family Owner Objectives and Business Priorities.”