A credentialed and experienced business broker will be an invaluable resource to both buyers and sellers.  Traditionally, business intermediaries have almost always represented the seller but buyer representation is happening more often.  Business brokers offer a wide variety of services ranging from developing complex exit plans to performing roll-up’s involving the acquisition of multiple businesses within a specific geography or industry.  Most often, a business broker is retained to provide services related to the sale of a privately owned business.  Within this context,   the services provided include preparing a business valuation, creation of a comprehensive marketing package, development of a targeted marketing plan, qualification of buyers, negotiation of the LOI (letter of intent) and DPA (definitive purchase agreement), assistance with the buyer’s due diligence, securing financing and funding for the transaction, and collaboration with the attorney’s and CPA’s that are typical part of the transaction team.  Confidentiality throughout the entire process is critical and most experienced intermediaries have a process in place to market the business for sale without alerting competitors, employees, and the business customers.

Over the last two decades, I have met some incredibly intelligent, successful and talented business owners and have enormous admiration and respect for the amount of work, time and sweat equity that was devoted to building their business.  Most of these company owners were able to maximize the market value of their business upon sale through the proactive implementation of a strategic exit plan. Historically, a business owner sells only one business in their lifetime and it is the two or three years prior to selling the company that are the most critical.  Ensuring that the financials are well organized in a format which complements the business enterprise and maximizes the value of the company, is a process that, when adopted early, will pay significant dividends upon sale. 

Michael Fekkes is a Senior Broker at Enlign Business Brokers in Nashville, TN.  Michael is a Certified Business Intermediary CBI®, a member of the International Business Brokers Association IBBA®, as well as a former business owner.  He can be reached at 910.691.2202 or mfekkes@enlign.com.  Enlign Business Brokers (www.enlign.com) is a Professional Services Firm serving the Southeast that is headquartered in Raleigh, NC with regional offices in Nashville, TN and Atlanta, GA. providing business intermediary services ranging from valuation and sale to exit & succession planning strategies.  

There are a variety of methodologies used to calculate the value of privately held companies with the most common being the Income, Market, & Asset approach. With the income method, a business’ market value will be determined upon the amount of income the business generates.  The amount used for tax reporting purposes, net ordinary income, does not adequately reflect the true earnings of the business based on the discretionary, non-cash & non-recurring components that are itemized by the company owner.  Federal & State tax returns are prepared with the intent of maximizing those allowable deductions to reduce the income and  taxes owed.   In order to accurately determine the earning capacity of the business, modifications are required on the profit and loss statements during the process of generating a valuation to calculate SDE or EBITDA. Adjusting (re-casting) the P&L will normalize the income by eliminating discretionary, variable and non-recurring components.  This  process enables an objective comparison to be made between two or more businesses in a region or sector. A multiple is then applied to adjusted earnings (SDE or EBITDA), consistent with the specific industry as well as a weighting of the influencers affecting the company, to derive the business valuation.  The goal of this article will be highlight the different types of earnings used within this income methodology.

How to Calculate Seller’s Discretionary Earnings

SDE is the adjusted earnings figured utilized for business valuations where there is less than  $1 million in adjusted earnings.  These smaller businesses often have the owner managing the business and receiving a salary through the company.  In these situations, it will be essential to determine the actual amount of ‘owner benefit’ as opposed to the reported ‘earnings’ of the business.  This procedure is facilitated through a number of P&L adjustments, termed ‘add-backs’ to the pre-tax earnings.  In certain situations, there may be negative adjustments as in the case with a business that owns real property and the company owner is paying a rent that is deemed to be below market or a family employee who is obtaining a below market salary.  In both of these scenarios, an adjustment is made to normalize the item to the fair market value.  The most frequently used adjustments during the re-casting process are:

ü  Add-back total compensation for one working owner

o   Salary

o   Retirement Plan Contributions

o   Payroll Taxes

o   Perks (Examples:  health club or golf memberships)

o   Life & Health Insurance

ü  Add-back owner’s discretionary expenses

o   Donations

o   Personal Cell Phones

o   Travel, Meals, & Entertainment

o   Owner’s Vehicles (not used in business)

ü  Add-back expenses that are non-recurring

o   Fines / Bank Penalties

o   Attorney fee’s (e.g. sale of business services)

ü  Add-back non-cash expenses

o   Depreciation

o   Amortization

ü  Add-back interest expense

ü  Adjust Lease to Current Market Value

How to Calculate Earnings Before Interest Taxes Depreciation Amortization

EBITDA is used to define the earnings of the company for businesses with adjusted earnings greater than $1 million.   Typically with these larger businesses, the business owner is not actively engaged in the management of the daily business operations and is paying a manager to facilitate that function.  In this situation, the EBITDA calculation will vary from the SDE formula as it includes the general manager’s salary as an expense item in the adjusted income calculation.  EBITDA is a non-GAAP measure that is used to correlate profitability and to facilitate comparisons between businesses and industries as it diminishes the impact of the individual financing and accounting decisions made.  The business owner’s compensation as well as the benefits will be subtracted from SDE to calculate the EBITDA.  The actual EBITDA figure will be lower than the SDE amount but the multiple used in the EBITDA valuation calculation will be higher, often 2-2.5 times the SDE multiple. Therefore, the fair market value of the same company using either method should be very close to one other.  If not, a determination as to why and which (or what other method(s)) must be undertaken.

Michael Fekkes is a Senior Broker at ENLIGN Business Brokers in Nashville, TN.  Michael is a Certified Business Intermediary CBI®, a member of the International Business Brokers Association IBBA®, as well as a former business owner.  He can be reached at 910.691.2202 or mfekkes@enlign.com.  ENLIGN Business Brokers (www.enlign.com) is a Professional Services Firm that is headquartered in Raleigh, NC providing confidential business intermediary services to buyers and sellers throughout the United States.

There have been a large number of articles and blogs published over the years anticipating a sharp increase in the number of small businesses for sale as the baby boomer generation retires.  Some forecasts are as high as 750,000 businesses owned by baby boomers coming on the market, a fifteen-fold increase from 2001.  With fewer buyers available in the X Generation, supporters of this phenomenon project that selling a company at a good price will become more difficult in the coming years.  This scenario is anticipated to have an impact on the market but probably not necessarily across the board.   Owners of businesses that have three or more years of positive earnings, with clean and organized financial statements, will be well positioned.  Having an exit strategy in place, preferably years in advance of a planned sale, will be necessary to maximize the value of these transactions and therefore it will be critical for owners to engage an experienced business broker early in the process. Buyers in today’s market are very savvy, placing even more emphasis on obtaining the proper representation from an intermediary who is able to perform a business valuation, create a comprehensive marketing plan, pre-qualify buyers, and perform contract & terms sheet negotiation, all in the strictest of confidence.

I can definitely appreciate the increased interest in acquiring a small business here in the Southeast region, having lived in many of the states including North Carolina, Georgia, South Carolina, and Tennessee.  The increased demand for purchasing successful businesses here in the Southeast was a component to the phenomenal year that ENLIGN had in 2009 finishing with a record number and value of transactions.  While the national economy is still recovering from the recession, the ENLIGN model of coupling an experienced transaction team and professional partner program with a proprietary confidential marketing methodology proved very successful and resulted in a record amount of business.  The clients represented by ENLIGN was a key component to the company’s success.  ENLIGN’s model of representing profitable, privately-held companies with revenues in excess of $1,000,000 enables ENLIGN to represent very successful companies who are often the leaders in their local industry.  The number of buyers seeking to purchase successful and profitable businesses here in the Southeast region is significant.  ENLIGN’s extensive database of qualified buyers in addition to our highly regarded network of industry partners remains instrumental in completing successful transactions.

Although the United States is still coming out of a recession and the majority of all markets are still sluggish, it is projected by many that the Southeast region will perform extremely well for the next several decades. The gradual population shift here in the U.S. is expected to significantly benefit the Southeast region.  The low cost of living, exceptional fundamentals for businesses, and mild climate, has created a tremendous amount of interest from entrepreneurs, private equity groups, and corporations looking to acquire a business.  Raleigh, North Carolina has been the fastest growing city this century among America’s largest municipalities.   Population figures for 2009 has Raleigh growing at a faster rate from the year 2000 than any of the other cities among the nation’s 50 largest. The state of North Carolina is forecasting that nine of the state’s eleven economic sectors will experience increases during 2010.  The strongest forecasted sector is services with a projected increase of 5.7 percent.  All three of the other North Carolina cities, listed among the United States’ 85 most populous, posted double-digit growth for the decade 2000 to 2009. Winston-Salem recorded 24 percent growth, Durham saw a 23 percent increase in population and Greensboro had a 14 percent increase.  Although the state of Georgia was hit somewhat harder by the economic recession, the large expansion and relocation projects by the Georgia Department of Economic Development coupled with the above average population growth will continue to be key factors in Georgia’s economic development. Neighboring Tennessee is also anticipating positive growth.  According to the Tennessee Business and Economic Outlook “By 2011 the employment situation will have stabilized and the year will produce job growth of 1.8 percent.  Education and health services are likely to be the key drivers in the services sector here in the ‘Volunteer State’.  Even the state manufacturing sector will have new-found life in 2011 with employment advancing 3.0 percent—the first gain since 1997.”

Michael Fekkes is a Senior Broker at Enlign Business Brokers in Nashville, TN.  Michael is a Certified Business Intermediary CBI®, a member of the International Business Brokers Association IBBA®, as well as a former business owner.  He can be reached at 910.691.2202 or mfekkes@enlign.com.  Enlign Business Brokers (www.enlign.com) is a Professional Services Firm serving the Southeast that is headquartered in Raleigh, NC with regional offices in Nashville, TN and Atlanta, GA. providing business intermediary services ranging from valuation and sale to exit & succession planning strategies.  

Long term capital gains tax will increase by 33% on January 1, 2011.  Although there are many issues involved in selling a privately held business, the magnitude of this increase and the affect that it will have on after-tax dollars in a business sale highlights the importance the role of timing has in maximizing the value of a business sale transaction.

In May 2003, The Jobs and Growth Tax Relief Reconciliation Act of 2003 was signed into law by President Bush. This 2003 tax law created lower dividend and capital gains rates for all investors.  Under the 2003 Act, the maximum net capital gains tax for assets held for more than one year was lowered from 20% to 15%.  The reduced 15% tax rate on capital gains, previously scheduled to expire in 2008, was extended through 2010 as a result of the Tax Increase Prevention and Reconciliation Act of 2005 and is now scheduled to “sunset” at the end of 2010. The term sunset is a time phase-in provision which means that without further Congressional action, the previous law, including the provisions of the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA), will go back into effect.  Therefore, the top 15% capital gains rate will revert to its former pre-May 6, 2003 level of 20%, an effective 33% increase.

The economic uncertainty in today’s market caused in part by disappointing financial performance across many industries, scarce credit, and a decline in commercial real estate valuations has created a challenge for business owners and management teams considering a business sale.  An assessment of the trade-off between selling a business now or some point in the future needs to be performed.  The capital gains tax increase of 33% in 2011 has such a profound impact on the net after tax proceeds for the majority of business sales that this issue becomes a major factor in determining the optimal time table for a sale.  By analyzing the net after tax proceeds from a business sale in 2011 and comparing that to a sale in 2010, a business owner or management team will realize that even with a 15% growth per year, and maintaining gross profit margins with a constant exit multiple, the incremental value attributed by the growth in revenue and income, in the majority of cases, would be completely offset by the increase in the 2011 capital gains taxes.  Therefore, while the value of the business is anticipated to be higher in years 2011 and beyond, the net after tax proceeds, could very well be greater should the business sale transaction occur prior to January 1, 2011.  There are many considerations involved in the sale of a privately held business and this article is written with the express purpose of helping business owners understand the potential impact that the 2011 capital gains increase will have on the sale of their company.  Understanding the impact of the impending capital gains tax increase allows business owners to make intelligent decisions as it relates to maximizing the net after tax proceeds from a business sale through the well planned timing and transaction structuring.   Every business will face a different set of circumstances where the tax implications will vary based upon the type of assets being sold and the structure of the transaction and it is recommended that a professional tax advisor be involved in the process. 

Michael Fekkes is a Senior Broker at Enlign Business Brokers in Nashville, TN.  Michael is a Certified Business Intermediary CBI®, a member of the International Business Brokers Association IBBA®, as well as a former business owner.  He can be reached at 615.535.1150  or mfekkes@enlign.com.  Enlign Business Brokers (www.enlign.com) is a Professional Services Firm serving the Southeast that is headquartered in Raleigh, NC with regional offices in Nashville, TN and Atlanta, GA. providing business intermediary services ranging from valuation and sale to exit & succession planning strategies.  

ENLIGN’s proprietary results driven marketing methodology coupled with its experienced transaction team and highly regarded network of professional partners enabled the company to complete 2009 with a record number and value of transactions closed. Tennessee has a very favorable business climate and was recently named the 2009 State of the Year by Business Facilities Magazine, a national economic development publication in addition to being named one of the top five most desirable business locations by Site Selection Magazine. Michael Fekkes, a senior broker with ENLIGN, leads the Tennessee office and will be responsible for adding personnel across the state. According to Fekkes, “Client demand dictated that we further expand our southeast presence, and the addition of the Tennessee office enables ENLIGN to put company resources closer to the people we will serve.”

ENLIGN’s new office is located at 3200 West End Avenue Suite 500 Nashville, TN 37203.  (615) 535-1150 

About ENLIGN Business Brokers:
ENLIGN Business Brokers provides seller and buyer services, professional negotiation, and valuation and marketing services to small- and medium-business sellers and buyers in the Southeast and nationally through the ENLIGN Business Brokers Affiliate program and ENLIGN Professional Partners Program (EPPP). ENLIGN provides business owners wishing to sell their businesses with discrete, objective counsel and valuation advice, and an innovative, comprehensive approach to marketing businesses for sale. Complete confidentiality is offered throughout the process. ENLIGN, which is a member of the International Business Brokers Association (IBBA), M&A Source and the American Business Brokers Association (ABBA), requires that its agents and affiliates have owned a successful business of their own, hold an advanced degree and be members of IBBA working towards or having completed the Certified Business Intermediary (CBI) accreditation. For more information about buying or selling a business or becoming an ENLIGN affiliate broker, contact Jeff Snell at jsnell@enlign.com or visit the Web site at www.enlign.com.