Preparing to sell your manufacturing or distribution business can feel like a full-time job—and for good reason. The outcome of the sale could impact your retirement plans, the livelihood of your employees, and the future of your management team. A well-planned approach to selling, merging, or acquiring your business is crucial, as it not only helps secure the best possible sales price but also reduces stress throughout the process. Here’s how you can maximize your business value and ensure a smoother transition.
Note: These steps are not always done in the order below. You may have to go back to previous steps as you discover facts and figures and gain a new perspective that could ultimately increase your company’s salability. Be flexible.
Step 1: Assessing Your Company’s Present Financial Position
This is a self-evaluation in which you and your trusted CPA will examine your financial health, operation efficiency, and market position. Call it a modified SWOT (Strengths, Weaknesses, Opportunities, Threats) analysis.
For financial health, review financial statements and pinpoint areas needing improvement. For operation efficiency, identify areas where you can streamline processes and address supply chain vulnerabilities. To review your market position, evaluate your market share and competitive landscape, and analyze your customer base and its loyalty.
Step 2. Financial Optimization
This step looks like it should be part of Step 1, but it’s a different set of subtasks. Or maybe it’s part of reviewing your financial health, and you go back after this step and reassess your business’s health—like a “before and after.” Here, you will clean up the balance sheet, organize and review all of your financial statements, and start your tax planning tasks.
When cleaning up the balance sheet, you’re looking for ways to reduce unnecessary debt and manage working capital efficiently. This might involve a deep dive into your inventory practices and a search for any leftover loans or debts that can be eliminated.
As you organize and review your financial statements, be aware that potential buyers will scrutinize them to understand your business’s health and profitability. Clean, transparent, and accurate financial statements are essential to demonstrating value. If there are significant fluctuations, be prepared to explain why they occurred and how they were resolved.
For tax planning, this step entails 1) Considering how to structure the sale for tax efficiency and 2) Understanding the implications of different sale structures.
For Manufacturing & Distribution companies, these tax considerations become even more relevant due to the nature of your assets and operations:
- Asset-Heavy Transactions: Manufacturing & Distribution businesses often have significant tangible assets, like machinery, equipment, and inventory. In an asset sale, these can offer buyers valuable depreciation opportunities. However, sellers may face higher ordinary income tax rates on the sale of depreciated inventory or equipment.
- Inventory Implications: How inventory is handled in a sale can affect tax outcomes. Buyers typically want to include inventory to ensure smooth operations post-sale, but sellers need to be aware that selling inventory generally results in ordinary income rather than capital gains. Discuss this critical tax issue with your CPA.
- Depreciation Recapture: For equipment and other depreciable assets, depreciation recapture could increase the tax to ordinary income rates rather than capital gains rates. This is a significant consideration for M&D companies with a sizable list of depreciated machinery, equipment, and vehicles.
- Goodwill Allocation: In a stock sale or asset sale, part of the purchase price might be allocated to goodwill, which is treated as a capital gain for sellers. M&D companies—often with strong brand identities or customer relationships—could see considerable goodwill, offering a more favorable tax rate. Carefully consider and shift as much as possible to goodwill. Another SWOT analysis with this in mind might reap a new, more favorable assessment of goodwill, but don’t overdo it. Ask for supervision and guidance from your CPA.
- Installment Sales for Equipment: M&D companies often benefit from installment sales, especially for big-ticket machinery and equipment. This approach can spread the tax burden over several years, aligning with cash flow and potentially lowering tax rates if it is properly structured.
- State and Local Taxes (SALT): For M&D companies operating in multiple states, understanding the state and local tax implications of a sale is crucial. Each state may treat the sale of different assets differently, impacting overall tax planning. Please see an LSL CPAs’ previous post on this issue.
For each of these tax concerns, reach out to your CPA as early as possible. Preparation and strong accounting advice are vital to a favorable outcome for all parties.
Step 3. Enhancing Business Value
Knowing how many delivery trucks you have is optional for this step. Instead, we’re asking you to work toward upgrading IT infrastructure, presenting a clear growth path, and strengthening the management team.
Upgrade IT Infrastructure
Invest in modern technologies and improve logistics and distribution networks. Liberally and aggressively leverage software solutions and analytics using AI. Here’s a recent LSL blog post on automating financial reports.
A track record of frequent IT infrastructure (both software and hardware) upgrades shows your prospect your commitment to remaining profitable and competitive. It shows the buyer you are aware that current IT infrastructure combats cybersecurity attacks and protects sensitive data, building trust for stakeholders inside and outside the firm.
Present a Clear Growth Path
- Growth Opportunities: Showcase future opportunities such as market expansions, new product lines, or increased operational efficiency.
- Scalability: Demonstrate that the business can be scaled, making it more appealing to buyers looking for growth opportunities.
Ensure the Business Has a Strong Team in Place
A strong management team signals that the business’s success is independent of the owner’s presence. When operations are well-distributed among key team members, it adds value and reassures potential buyers that the company can continue to run smoothly, even in the owner’s absence. Strengthening the management team can be the hardest one, as it requires you to 1) Build a strong leadership team by recruiting—a hassle, and 2) Ensure that leadership roles are filled with capable individuals by “reorganizing”—that daunting euphemism for cutting positions. Indeed, it is the hardest task.
Attention to all of these will build the company’s value. Ask your advisors for help.
Step 4. Embracing Legal and Compliance Considerations
This might be the all-time winner for “The Forgotten Step.” Sometimes contracts have been in place for years, even decades. But someone purchasing your company will find these buried bones, and they need to be squeaky clean. Depending on your business, reviewing contracts and agreements to ensure they comply with industry regulations can be either a cakewalk or a climb up Mt. Everest.
When reviewing contracts and agreements, confirm that all contracts are up-to-date and favorable and be sure to address any potential legal issues. As you research your compliance with industry regulations, conduct (or ask someone to perform) an internal audit checking for compliance. Seek guidance on how to correct any non-compliance issues. See the next step!
Step 5. Choosing the Right Advisors
Selling or merging your business with another company is a monumental decision. It can be your opportunity to grow your company to the next stage, or it can plunge you back into the sameness you are trying to escape. As the ads say, “Don’t try this at home.” By engaging M&A advisors and hiring the best legal and financial consultants, you reduce your risk of making a huge mistake and at the same time, increase your odds of having more than one bid and getting a better price!
To engage M&A advisors, be sure to clarify what their role should be in the sale process.
Key advisors typically include:
- Investment Banker / M&A Advisor: Helps identify potential buyers or targets, evaluates offers, negotiates terms, and guides the overall deal structure.
- Attorney: Provides legal guidance throughout the process, including drafting and reviewing agreements, managing due diligence, addressing regulatory compliance, and handling negotiations.
- CPA: Assists with financial due diligence, tax planning, financial reporting, and identifying any accounting issues that could impact the transaction. Offers strategies to optimize the tax outcomes of the deal, considering implications for both the seller and the buyer.
- Financial Planner: Advises owners on personal financial implications, estate planning, and investment strategies post-transaction.
- Valuation Expert: Provides an independent assessment of the company’s worth, which is essential for negotiations and understanding the fair value of the transaction.
- HR / Benefits Specialist: Reviews employee contracts, benefits, and retention strategies, ensuring a smooth transition for staff during and after the transaction.
- IT Specialist: Assesses and manages the integration of IT systems, ensuring data security and seamless operations post-merger.
- Environmental Consultant (if applicable): Evaluates any environmental liabilities or compliance requirements that could impact the transaction.
If you need help choosing the right advisor for your company, ask LSL CPAs or other known financial and legal advisors.
Step 6. Preparing Due Diligence
As noted, selling your business is a job unto itself. It’s like creating a new department in your company, so it should be treated as such. It’s high stakes. The importance of being organized and transparent cannot be overstated.
Meanwhile, due diligence is the buyer’s responsibility. Your mission is to facilitate that due diligence.
To be well prepared, start organizing your documentation early. Create a separate space, away from the commotion of daily transactions, where you will keep necessary documents and ensure that all financial, legal, and operational records are accessible. Be prepared to communicate openly with your advisors and, eventually, your potential buyers: Be transparent about the business.
Put yourself in the buyer’s shoes.
What would YOU want to know about any business you are about to buy?
Start there.
Conclusion
Running a manufacturing and distribution business in 2024 is challenging. Manufacturing & Distribution is a time-honored industry, but it’s changing and morphing into something new, exciting, and different as technology and innovation keep everyone warily attentive. International trade, the pandemic, the economy, and the modern workforce make it a great time to be in business and equally a perfect time to sell your company. Here are a few more thoughts from a past LSL blog on selling your business.
With the right advisors and following the steps above, your M&D business will sell, and you and your buyer will be happier for the hours, days, and months you spent in preparation.
LSL CPAs has seen many successful sales from among our M&D Clients. Please let us know if you’d like us to help. Contact LSL today!
