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Idaho Business Review
Edition Date: 07/20/09
The sluggish economy and still-tight financing climate continue to take their toll on the business acquisition market.
“In the last 12 months, we’ve seen an unprecedented drop in small-business value, and demand to be an entrepreneur,” said Art Berry, principal in the Arthur Berry & Co. business brokerage in Boise. “It’s fueled by tremendous volatility in the public stock markets, the drying up of capital, and anxiety over personal employment.”
Job losses are impacting would-be entrepreneurs more now than in past downturns, he said.
“Historically in Boise, particularly when the major corporations left, there were generous severance packages and long notice periods to allow planning of business purchases,” Berry said. “This time around, employers aren’t as generous, and sellers are reluctant to let go of businesses because of the lack of quality alternative places to invest capital.”
These facts don’t mean investing in a small business is a bad idea for the long haul, he said. “They merely reflect that what happens on Wall Street hits Main Street hard six months later,” he said.
As for what a small business is worth, often there is a “disconnect” in which sellers recall historic valuations even as potential buyers “are waiting for the bottom,” Berry said.
Although the initial public offering market had a very bad 2008, private-equity investors continue to seek high-quality companies to buy, he said. Venture capital firms also are busy.
Demand for small businesses picks up in the summer, and “the long-run outlook continues strong for both buyers and sellers,” Berry said. Now some people planning to move to Idaho and buy a business here cannot sell their homes, he added.
Bruce Sternke, managing director with United Mergers & Acquisitions in Boise, said tight financing is affecting prospective buyers of small businesses, but that strong businesses remain in demand – one reason that United’s volume has been tracking at or above year-earlier levels.
More of United’s business is based on referrals and “our own investigative research, looking for the right buyers,” said Elaine Nunn, director at the company.
Buyers are scrutinizing valuations more, but high demand for businesses that continue to perform well is helping values hold up in that segment, she said. Moreover, some businesses flourish in a down economy, she added.
United represents established, often sizable, businesses, and that segment remains active, Sternke said. Business owners continue to retire, and larger companies continue to buy smaller companies, he said. Now, some businesses are buying weaker competitors or their assets.
“We’ve always only dealt with higher-performing companies,” he said. “Those are consistently found in the marketplace.”
Nunn said prospective buyers of small businesses could see their finances improve by year’s end, which would help that segment of the market. Among larger buyers, private equity groups and “strategic buyers” – namely established businesses – continue to have money available, she said.
Pete Butler, director of valuation at Hooper Cornell in Boise, said the recession is taking a toll on business values in two ways: operating results in many cases are down, and so are the figures by which they are multiplied to determine a value. Multiples of earnings and multiples of price to revenue have come down since the credit crunch, and “uncertainty of management’s projections probably has risen in current economic times,” he said. Some companies buck these trends, he added.
Bill Laska, principal in the Laska Co. business brokerage in Boise, said that about three-quarters of buyers he deals with have lost jobs, and that sales of these “buy a job” businesses are tracking above average. Buying a business is one way to go back to work, though it typically requires a larger down payment than a home purchase, he said.
“The problem is that if you are going to borrow money for the down payment, the likelihood of getting a bank loan for the business drops considerably,” he said. “Therefore, seller financing might come into play. Then you have to ask yourself: Is borrowing all that money to buy a business a wise thing?”
“It’s much better to go into an opportunity with more equity and less credit,” Laska said.
Lenders remain cautious, but more financing opportunities exist now compared to last winter, he said. Corporate buyers remain active and private-equity buyers continue to seek out midsized companies, he said.
Meg Carlson, principal in The C&H Group, Boise, said that among companies it represents, it sees the strongest interest from strategic or corporate buyers rather than private equity groups. Private-equity buyers have a lot of money available, but many are tending to their portfolio companies or acquiring “add-ons” rather than investing in new sectors by acquiring “platform” companies, she said.
Private-equity buyers are using less leverage, and about 70 percent of deals involve lower and middle-market companies, she said, citing a second-quarter report by PitchBook.
In today’s tight credit markets, buyers and sellers often must work together, creatively, to close a deal, Carlson said. That can mean greater reliance on modes such as seller financing / notes, earn-outs, mezzanine debt with equity warrants, and seller equity roll-over requirements, she said. Earn-outs are payments to the seller based on post-sale performance in lieu of a fixed promissory note.
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