Business Planning and Strategy

The Downside of Just Milking it.

If you have considered selling your business of late, you may have been disappointed to see the offers a business like yours would garner from would-be acquirers.

According to the latest analysis of some 20,000 business owners, the average offer being made by acquirers is just 3.7 times your pre-tax profit.  Companies with less than a million dollars in sales garner significantly lower multiples, and larger businesses may get closer to five times the pre-tax profit, but regardless of size private company multiples are still significantly less than those reserved for public company stocks.

Given that these multiples are not what you were hoping for when you exit, you may be tempted to hold on to your business and “milk it” for years or even decades to come. After all, you might reason that if you hang onto your business for four or five more years, you could withdraw the same amount in dividends as you would garner from a sale and still own 100% of the business.

This logic – let’s call it the “Just Milk It Strategy” – seems sound on the surface, but there are some significant risks to consider.

  1. You Shoulder the Risk

The biggest downside of holding on to your business, rather than selling it, is that you retain all of the risk. Most entrepreneurs have an optimism bias, but the current economic cycle certainly reminds us that they definitely go in both directions. While business may feel good today (or not), the next five years could well be bumpy for a lot of founders.

  1. Disk Drive Space

If you think of your brain like a computer’s disk drive, owning a business is like constantly running anti-virus software. Yes, in theory you can do other things like play golf or enjoy a bicycle trip through Tuscany and still own your business, but as long as you are the owner, your business will always occupy a large chunk of your brain’s capacity. This means family fun, vacations and weekends are always tainted with the background hum of your brain’s operating system churning through data.

  1. Capital Calls

Let’s say your business generates $500,000 in Earnings Before Interest Taxes, Depreciation and Amortization (EBITDA), and you could sell your company for four times EBITDA or keep it. You may argue it’s better to keep it, pull your profit out in the form of dividends, and capture the same cash in four years as you would by selling it. This theory breaks down in capital-intensive businesses where there is usually a big difference between EBITDA and cash in the bank. If you have to buy machines, finance your customers, or stock inventory, a lot of your cash will be locked up in feeding your business and the amount of cash you can pull out of your business each year is a fraction of your EBITDA.

  1. Tax Treatment

Depending on your tax jurisdiction, the sale proceeds of your business may be more favorably treated than income you would garner by paying yourself handsomely with the Just Milk It Strategy. You may actually need to pay yourself $2 or $3 for every $1 you can net from the advantageous tax treatment of a business sale.

So as you can see there are many things to consider when deciding to “milk it” or not.  Given that in these current times you are probably better to wait until the economic conditions are more favorable before planning your exit.  However, if you have read my column in the past you know that the planning starts as far out as 5 years from the time you plan that exit.  Food for thought….

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