Preparing Financials for Small Business Sale
It is important to have a complete set of historical financials when selling a small business. Not only are the financial records a primary due diligence item for buyers, they are required to apply for a Small Business Administration loan.
As such, business owners looking to sell might consider seeking the guidance of a CPA to help them prepare as complete a set of financial records as possible. Doing so can help maximize the selling price as it lowers the risk for buyers and can provide support for the asking price.
While having a fully audited set of historical financials is ideal, don’t fret if that’s not possible. Not having this information doesn’t mean you can’t sell your business. But you may need to focus on a few key areas to help buyers understand the financial side of the business.
Here we will outline a few of those areas.
Sources of Revenue
One of the first things buyers will want to understand is the business’s sales. Showcasing diversity and strength of revenue is key to maximizing value. Depending on the type and size of the business, it may make sense to break out revenue by product, service, or region. This level of detail will help buyers understand how each part of the business has performed. More importantly, this can provide insight into opportunities for future growth.
Businesses can have a wide range of expenses and costs, but most will fall into a few common categories.
Employee Related Expenses
Employee related expenses include all costs related to employees or contractors that perform work for the business. The biggest piece of this is often employee salaries and wages. It can also include the cost of benefits, such as health care coverage. Additional expenses to include would be the cost of any training or other expenses solely for the employee’s benefit.
Office Related Expenses
These items capture the day-to-day expenses for running the business. This would include any costs for the space, such as lease payments and utilities. Also include expenses such as office supplies or shipping costs.
Cost of Goods Sold (COGS)
If a business makes most of its money from selling physical products, one of the largest expenses is likely to be cost of goods sold. This expense captures the cost of products and merchandise sold. COGS is commonly calculated as the change in inventory over a given period.
Selling, General, and Other Administrative Expenses
This category is home to all other expenses incurred by the business. Marketing costs are often the largest in this category. Additionally, depending on the type of business, it may be appropriate to include business-related meals and entertainment expenses.
Lastly, this financials category also would include other general expenses such as professional services. This would include items such as accounting or legal fees.
Earnings Used for Valuation
One of the goals for preparing financials for the business is to determine its value. This is because a multiple of operating earnings is typically one of the more often-used methods when valuing a small business.
In general, the earnings figure used in small business valuation is pre-tax net income, excluding non-cash and non-recurring expenses. The two non-cash items most often added back to pre-tax earnings are depreciation and amortization.
Non-recurring items to add back include any number of expenses that were one-time in nature. Common non-recurring items include certain legal expenses or repairs related to accidents or natural causes.
Other adjustments to make include those expenses that won’t transfer with the business. For owner-operated businesses, the largest and most important adjustment is adding back any salary paid to the owner. Other expenses could include memberships and other owner or employee perks. Excluding these items from earnings reflects the idea that not every owner will pay him or herself the same.
Financials Tool on Firm Exchange
At Firm Exchange, we know how important this financial information is to potential buyers. That’s why we built a tool to help sellers share this information. Each listing on FirmExchange.com includes our Historical Financials tool, which allows sellers to input their financial data. This tool takes these financial inputs and creates easy-to-read outputs. Sellers can then share these with potential buyers in an Exchange Space.
Visit our How It Works page to learn more.
DISCLAIMER: The information contained in this article is for informational and discussion purposes only, and should not be relied upon without seeking your own professional advice. The Firm Exchange, LLC is not a law firm, accounting firm or professional services firm, and accordingly it disclaims any liability for any reliance on the contents of this article. As each situation is unique, you are encouraged to discuss your specific situation with a qualified attorney, accountant and/or other relevant professional services provider.