By Maurie Cashman
The following information is from the 2015 Pepperdine University Capital Markets Report with my analysis following. The Pepperdine report is a national survey and there can be some differences in various regions.
â€œOver the past six months, a 26 percent decline in grain prices and a 13 percent plunge in fuel and related products have had negative impacts on businesses with ties to agriculture and energy. At the same time, these price declines have produced positive impacts for firms more closely tied to the consumer,â€ said Ernie Goss, Ph.D., director of Creighton Universityâ€™s Economic Forecasting Group and the Jack A. MacAllister Chair in Regional Economics in the Heider College of Business.
Broker Survey Information
Respondents believe access to capital is the most important issue facing privatelyâ€held businesses today. Domestic economic uncertainty is indicated as the most important emerging issue. Other key findings include:
- The majority of deals (85%) took less than 1 year to close with the largest concentration being the nine to ten month category. Another 11% took about a year and a half.
- Top three reasons for deals not closing: unreasonable nonâ€price seller or buyer demand (29%), valuation gap in pricing (23%), and no market for business (11%).
Operational and Assessment Characteristics
Approximately 46% of deals that were not transacted had a valuation gap in pricing between 11% and 20%.
Top reasons for deals not closing: unreasonable seller/buyer demand (29%) and valuation gap in pricing (23%).
Approximately 57% of business sales transactions closed in the last 12 months involved seller financing or seller note.
Approximately 55% of closed business sales transactions over the past 12 months involved strategic buyers.
Respondents believe domestic access to capital is the most important issue facing privately held businesses today. Government regulations and taxes are indicated as the most important emerging issues.
Business Owner Survey Information
Approximately 49% of businesses have less than or equal to five employees.
Average change in annual revenues in the last 12 months was 1.3%. However, it should be noted that fully 50% of respondents reported flat or declining revenue.
Among those respondents who were not able to obtain external financing in the last 12 months 42% are planning to improve the financial health of their businesses before attempting to raise capital in the future.
Of particular interest is the large amount of owners looking to improve the financial health of the business. No data is provided as to how they intend to do that or what specific actions they feel they can take. There is particular opportunity here for owners to position themselves for ownership transition as they undertake these efforts.
According to respondents of those policies most likely to lead to job creation in 2014, increased access to capital emerged as number one (26%) followed by â€œrepeal or modify affordable care actâ€ (21%).
Privately held businesses with revenues less than $5 million on average have almost the same desire to execute growth strategies (85%) as privately held businesses with revenues greater than $5 million. However, privately held businesses with smaller revenues report lower levels of necessary resources (people, money, etc.) to grow (45%) as compared to privately held businesses with higher revenues (70%).
Note in particular the large gaps in Preparing an Annual Budget, Having Key Performance Indicators Reviewed, Having a Solid Growth Strategy and Having the Necessary Resources. These are all relatively easily remedied with little investment and can make a huge impact on a business. If these things are important enough for large businesses to do, imagine how much impact they could have on a smaller business.
Privately held businesses with annual revenues less than $5 million are more concerned about access to capital than those with revenues greater than $5 million. Larger privately held businesses are more concerned about government regulations and taxes.
Bank And Assetâ€Based Lending Survey Information
Over 63% of respondents believe that general business conditions will improve over the next 12 months and over 52% said demand for loans will increase. Other key findings include:
- Over the last twelve months respondents were seeing decreased credit quality of borrowers applying for credit, with increase in demand for business loans and improved general business conditions
- Respondents also expect increases in demand for business loans, lending capacity of banks, improving general business conditions, average loan size and loan maturity, and further pricing compression.
- Currently, 29% lenders see domestic economic uncertainty as the top issue facing privately held businesses, followed by government regulations and taxes (26%) and access to capital (23%).
Approximately 36% of applications were declined due to poor quality of earnings and/or cash flow followed by 25% that were declined due to insufficient collateral.
Respondents believe domestic economic uncertainty is the most important issue facing privatelyâ€held businesses today.
So what can we take from all of this information?
First, the vast majority of transactions did not close due to overpricing of the business. Many owners receive poor advice when pricing their business and setting terms, often thinking they will be able to â€œnegotiate downâ€ when a buyer appears. That is clearly erroneous thinking. Businesses priced correctly and appropriately prepared sellers have a far greater potential to transact than those who are given false expectations.
Second, if you are planning to transition ownership of your business you should be open to providing at least partial financing of the transaction. It signals confidence in your business and todayâ€™s lending environment often requires it to close the gap between equity and available financing.
Third, most owners of smaller mid-market businesses are employing far less tools to manage their business than their larger competitors, notably in the areas of financial and strategic planning, and measurement. Many cite a lack of resources, but the resources are clearly available to those who look for them beyond their own walls.
Fourth, government regulations and taxes and economic uncertainty to rank as the greatest current and emerging concern for transactions specialists, business owner and lenders. Access to capital is a clearly emerging issue as compared to one year ago. The Midwest appears to be fairing somewhat better than the rest of the nation although changes in the Agriculture sector will have a significant impact on future performance.
Fifth, quality of cash flow, insufficient collateral and debt load are the main reasons lenders are turning down loan applications. These three have intensified in the past year, indicating either a tightening of lending standards or poorer performing business financials.
Finally, the number of business owners expecting to transition ownership over the next 10 years is down by over 20% from this time last year. However, the number of ownership transitions that have taken place over the last year is up about the same amount. This may indicate that roughly the same owners are still considering an ownership transition over the next 5-10 years. 39% of these owners plan to transition over the next four years, indicating a large glut of businesses will transition ownership between 2018 and 2022.
Actions to Take:
Business owners should be aggressive in preparing their businesses for ownership transition. Seek out qualified help in getting business finances and strategy in order, be vigilant of rising interest rates and constricting capital availability, and be wary of competition for businesses in order to maximize ownership transition.
Please let me know what you think and see in your market.