4 Considerations to Make Before Selling Your Company in This Economy

While the past several years of historically low-interest rates helped support a red-hot market for companies being sold or raising money at soaring valuations, there have more recently been hiccups in the road brought about by interest rates hitting their highest levels in more than two decades.

The higher rate environment has created headwinds in capital markets, impacting venture funding, lending, and mergers and acquisitions. With capital becoming more expensive, investors and buyers have become more discerning with where they put their dollars to work.

Despite the tightening cycle that is shaking up a fair number of deals in the market, it may not necessarily mean bad news if you are currently wrestling with selling your company. In fact, some corners of the market are not only holding up but also continuing to see growth in investment and acquisitions.

For small businesses, the outlook has been especially optimistic as the lower middle market has been one of the busiest areas for acquisition activity despite the slowdown in larger corporate deals. Partly contributing to this is the agile nature of smaller companies, allowing them to adapt more quickly to economic conditions and thus be more resilient. Even larger institutional buyers, such as private equity funds, are increasingly focusing on acquiring small companies in recession-resistant niches.

The key to successfully exiting right now lies in a combination of understanding the dynamics in your industry and knowing how to navigate the sale process.

1. High-Interest Rates May Affect Selling Your Company

Buyers typically line up financing via outside lenders when a business is sold. If interest rates are high, those business loans are more expensive. That can reduce the incentive to invest or acquire in general and limit the pool of potential buyers. It can also make it difficult for buyers to secure loans or lines of credit to finance the purchase.

High interest rates can also result in lower business valuations. That’s because the discount rate in valuation models also goes up, driving future cash flow estimates down. For that reason, sellers need to be transparent about their business valuations when courting buyers.

Economic uncertainty also drags overall spending down in the consumer market. All business sectors feel the pain of that, and the business investment market is affected as well. However, companies in sectors that are still experiencing robust growth can still provide the return to make an acquisition possible in a higher-rate environment.

2. Small Companies May Have an Edge Amidst High Rates

According to Dena Jalbert, CEO of Align Business Advisory Services, which advises small and mid-sized companies on acquisitions, the likelihood of a successful business sale hinges on two factors — the business’s true market value and the types of lenders needed to close the deal.

Enterprise businesses — loosely defined as those that make more than $500 million in annual revenue — may be more difficult to sell in times of high interest rates. That’s because financing the deal likely requires lining up a “syndicate of lenders” consisting of multiple banks, financial institutions, and investors.

Such syndicates are severely restrained in today’s tight underwriting environment, making funding a large business sale problematic, if not impossible.

However, smaller companies are not bound by the complexity of syndicates. Typically, only one entity provides the loan in the sale of a non-enterprise business. Most acquirers are willing to remit larger equity checks to offset the higher lending costs.

“There is still a lot of dry powder available from private investors and corporations looking to make deals,” says Jalbert. “This will drive demand even though the cost of debt is higher.” “Dry powder” refers to capital that’s immediately accessible for investments.

3. Accounting Derails More Small Business Deals Than The Economy

During uncertain economic conditions, potential sellers need to be completely transparent about their companies’ financial history. Some companies have trouble articulating the reasons behind their business fluctuation owing to inaccurate record-keeping or flawed analysis.

This lack of knowledge can impact the valuation of the company being sold. When owners can’t explain their year-to-year business performance and changes, their quality of earnings comes into question. Buyers may dispute the company’s declaration of future value if a sizable variance isn’t accounted for properly.

Many private businesses have lax bookkeeping standards — and few audit themselves. As a result, they may unknowingly not be in keeping with generally accepted accounting principles (GAAP), which enterprise businesses must comply with. Murky bookkeeping is often one of the leading reasons that deals among smaller companies can be derailed or at least delayed.

The buyer is likely going to perform due diligence that the…