Selling Your Furniture Store

Owners of middle market furniture retailing companies have limited access to reliable information that can provide insight into the proper pricing and structuring of middle market transactions. The problem is compounded by the generally poor quality of advice available to these owners. Prospective sellers often turn to seminars sponsored by financial advisory firms. Most of these tend to play on the ego and naivete of the selling owner. Consequently, they often entrap owners in delusions of wealth that are unfortunately transformed to feelings of frustration and anger when hollow assertions cannot be translated into reality.

Middle market owners can, however, convert their companies into the wealth they deserve if they don't operate under misconceptions and delusions. Instead, they must understand their shortcomings, plug knowledge gaps, and most importantly be willing to pay the price required to convert their company into the "gold mine" it can be.

Many acquisition "experts" state that a selling owner should only expect to get 40-50% of their transaction price in cash at closing. This is nonsense. Notes are often the conduit used by an acquirer to collect for alleged breaches of representations and warranties. This is accomplished by not paying the notes and forcing the seller to file suit for collection. I have not consummated any transaction during the last 10 years, where the cash component was less than 88% of the total transaction price. In fact, over 80% of the transactions closed were for all cash.

This misconception is used by acquirers to justify substandard offers. Historical earnings or book value are usually used as a price justification during:

• Difficult economic conditions.
• When a company had temporary problems that have since been resolved.

For rapidly growing companies whose long-term future is much brighter than the past, only one factor should govern a transaction price... expected future earnings and the risk in achieving those earnings from the business foundation provided an acquirer.

An acquirer will first evaluate the sophistication of the seller's advisory team. This forms the basis of their judgment of the seller's ability to find a synergistic acquirer and force such acquirer to pay a premium price. This judgment dictates the aggressiveness and equity of the acquirer's initial offer.

The price is established at the Letter of Intent ("LOI") stage. However, this is only the beginning of the deal not the end. The negotiation of the Definitive Purchase Agreement ("DPA") and the ancillary agreements must still be completed. These documents define all conditions legally governing the sale. The DPA contains the critical representations, warranties and indemnifications. These "non-financial" areas conceivably can have a greater impact on the deal than the transaction price itself. It is the DPA that protects you from post-closing issues and litigation. Circumstances that develop after the deal is closed often make the time and effort spent in negotiating a DPA... time well-spent.

To the contrary, if negotiations flow smoothly and amicably, the seller is usually not getting a premium price or protective terms. Acquirers of middle market companies are not known for initially making their best offer or even a fair one. In most deals, if negotiations are not eventually pushed to the absolute breaking point, a seller can be certain that they have not received a premium price.

Brokers generally try to complete a transaction at any price. Typically, they are not familiar with how to conduct an international search for a synergistic acquirer, nor with how to aggressively negotiate a deal that assures a seller a premium price. In addition, brokers usually are not aware of all the ramifications of the critical representations, warranties and indemnification issues. A seller requires an acquisition consulting or investment banking firm that will guide and direct them through the entire process. This includes planning the sale, the valuation, the search for a synergistic acquirer, and the conduct of negotiations leading to a closing. The acquisition advisory firm must be concerned only with the seller's best interests, and not with simply closing a transaction at any price.

The expected incremental future earnings dictates the acquisition price. Synergistic benefits related to an acquisition increase the incremental future earnings realized by an acquirer. These benefits make the companies' combined profitability after a sale higher than the total for the two operating separately. Financial buyers bring no synergy to a deal and, therefore, are incapable of paying a premium price. This is compounded by the fact that most financial sponsors of buyout groups (the major institutional sources of capital) demand an unreasonable rate of return on their investment. This comes out of the seller's pocket in the form of a substandard transaction price (usually 10-25% less than normalized market price).

Acquirers should not be given a "free look." Many companies feign interest in an acquisition to obtain information about the selling company and its business. If an acquirer wants to investigate your company, in addition to signing a Confidentiality Agreement (of limited practical benefit); they should provide your advisor with 3 years' financial statements, before a site visit is permitted. A seller's truly proprietary information should not be divulged to a prospective acquirer, until a LOI has been executed.

Certain factors should be addressed prior to the sale, if a seller is to get a premium price. These have nothing to do with increasing short-term profits or cleaning-up the balance sheet. The multiple applied to expected future earnings or cash flow will vary depending on the long-term growth projected for the selling company and the strength of its business foundation at the time of acquisition. Taking the time to investigate and strengthen the seller's business foundation will increase the transaction price.

There is limited meaningful empirical data available on middle market transaction prices, even to acquisition consulting and investment banking firms. Correspondingly, the valuation of middle market companies is more of an art than a science. The validity of any valuation depends on the expertise and market familiarity of the professional who performs the valuation.

The Seller's Generalist Attorney Can Handle The Legal Aspects Of the Deal:

An acquisition is an extremely complex transaction. Problems in drafting the DPA and, to a lesser extent, the ancillary agreements can place a seller at serious risk to lose part or all of the transaction price subsequent to the closing. An acquisition usually requires a law firm that has specialists in mergers and acquisitions, labor law, and environmental law, amongst others. It is impossible for a small law firm to have substantial expertise in all of these specialty areas.

Economic conditions have little, if any, impact on middle market acquisitions, if a synergistic acquirer is located. In a normal recession, a middle market transaction price will decrease by less than 3%, if at all. A synergistic acquirer will usually purchase a seller when it is available, if the company provides access to a market niche they covet.

Home furnishings retailers who want to sell at the best price and under optimal terms must understand their shortcomings, plug knowledge gaps, and most importantly be willing to pay the price required to convert their company into the "gold mine" it can be. It is essential for these sellers to locate the best acquisition advisory firm. Cost should be of secondary concern, because the right firm can be the difference between success and failure.

George Spilka is President of George Spilka & Associates. The company specializes in developing a transaction structure that protects their client's interests. Questions can be addressed to Mr. Spilka care of FURNITURE WORLD at editorial@furninfo.com.