When selling a business, it is best to assume that there are no stupid buyers. Occasionally (OK, fairly often) we’ll get a business owner that wants to put his business on the market for substantially more than its worth. They hope that someone will see the unique qualities of their business and will pay handsomely for it.
For example, I was representing a business owner, and it came to light that some of their important contracts were not being renewed. Since the earnings and valuation were based on the income from these contracts, I had to tell him that his business was no longer worth what we thought it was. He didn’t like that at all, and was adamant about continuing to list the company for about $500,000 more than I thought was reasonable, which was $1 million tops.
He brought up every reason he could think of.
“Its an interesting and unique business”
It was and this could mean a premium price, but not 50% more value.
“The buyer can work hard and replace those contracts”
Maybe, but if they do the value created should belong to them. If they don’t, they will go out of business because there is too much debt.
“Well, what if someone has a lot of money?”
For 90% of buyers, they will need a loan to purchase a business and will invest everything they have in a down payment and working capital. Very few have additional capital. To find a stupid buyer is pretty tough. To find a buyer with a lot of money is tougher still. To find a stupid buyer with lots of money is not something you want to plan on.
“It is like a house, right? Buyer beware”
In other words, he was hoping for stupid buyer to come along.
The problem is that there just are not many buyers that are that naïve that they will ignore the fact that they can’t make the payments and will likely go out of business. There are a few, but most buyers somewhere along the way will pull in some advisors. A business broker, CPA, attorney, spouse, friend, etc. These advisors too would have to be, well, stupid. Similar to an industrial accident where it takes a series of mistakes, it takes a series of stupid people to pull this off. That just doesn’t happen very often.
However it does happen, so let’s assume the seller did find a stupid buyer that was so in love with the business that they would pay anything. When they do get into trouble, who do you think they blame? They typically will not blame themselves, even if everything was disclosed in writing. They will blame the seller (and his broker), and the lawsuits will start. One of the things that a judge will look at is a reasonable “valuation” of the business. In fact, one of my partners, Fred Hall, is an expert witness in the area of business valuations in some of these court cases.