The Construction Contractor's Digest

Sometimes, it is just a matter of some legal paperwork giving ownership to a son or daughter with a family payout agreement. This is a common occurrence in the construction business.

On occasion, employees will step in as the new stockholders. Again, an agreement has to be sworn to and a cash payout schedule accepted by both parties. In this transaction, as long as there is a talented core group who own the majority of stock, it can give the company a new life and a thriving existence for several years.

The most complicated and daunting option is the third party buy / sell agreement. In most cases, the buyer and seller do not personally know each other. This leads to a longer transaction process and somewhat unpredictable ending.

In all these examples, the owner is attempting to accomplish two basic things:

 Change his / her relationship to the firm
 Derive some monetary value for the firm.

The transaction between the former and new owner(s) will be unique. Any buying / selling situations have different sets of circumstances and needs by the parties.

As stated before, emotions are part of the equation. The owner who has spent many years nurturing the firm now has to say goodbye. Not an easy transition. A majority of proposed transactions do not go through due to this very reason.

To address this, time has to be spent by the selling party thinking about this life's change and what he or she will do in their future. Walks on the beach or solo vacations are a good idea.

Once there is a comfort level with the idea, then the next hurdle is to think through the transaction. From both the seller's and acquiring party's perspective. All contractors have a fairly clear idea of what they want to happen. However, the buyer's perspective is just as important. Keep in mind “What would I want or accept if I was buying a contracting firm?" Keeping balance in your approach to the negotiation will not prematurely kill it.

Do understand that construction firms do not sell at a premium. Somewhere north of 2 times earnings plus book value of assets. Not a great amount of money. As you can guess, keeping your construction firm until you die makes the most financial sense. However if your goal is not a strictly financial one, then selling your firm may be the best move later in life.

Contractors buy contracting firms. A majority of transactions occur between like professionals. Yes, sometimes there is the one off transaction far a field. A money management firm or a public utility purchasing a construction company. However, these are rare, in essence, only a contractor wants to be in this business. Some say 90%. Hence, the search for a buyer is more efficient if pursued with the population contractors.
The process of selling your construction firm.

1) The gathering of information
 Tax returns
 Financial Statements
 Closed Job Information
 Organizational Chart
 Loan Agreements
 Employment Contracts

2) Interview Process

 The business broker will interview the owner(s) after studying the corporate information. This needs to be accomplished so the broker knows all circumstances surrounding company and can answer them.

3) Assembling a Contact list

 The business broker will assemble a potential buyer list. The owner(s) will review the list, cross those people who are objectionable and add people he or she may know.

4) Contacts Made

 Typically, formal letters will be sent to individuals who have been identified as potential candidates. The letters have a sales flavor to them and describe the company and its situation in general terms so, there is little chance of someone guessing which firm it might be. After the letters are sent, follow up with phone calls is made to generate interest.

5) Exchange of Confidentiality and Non-Disclosure Agreements

 Once interest is signaled by one or more potential buyers, formal documents memorializing the other side’s pledge to not disclose or otherwise disseminate your company information including that it is for sale. A good agreement will have remedies for violating the document.

6) Company “Book” of Information Sent to Potential Buyer

 The book of information will be created by the business broker. It will disclose the details of the business, its financial status, market share, organization structure, labor situation among dozens of other areas. The buyer should be able to decide if the company is of interest to him or her. If not, the book will be returned.

7) Face to Face Meeting between the Seller and Potential Buyer.

 This meeting is crucial to establish some relationship and see if the chemistry is right between the parties. Sometimes this is the last meeting between the two and the transaction dies. If both parties feel there is a value to going further. Another meeting may be held.

8) Letter of Interest will be Issues by the Potential Buyer

 Once a letter of interest is sent to the seller, some steps occur in rapid succession

9) Due Diligence

 Buyer will have 60 to 90 days to inspect the business he or she is buying. They will go through the books, see the fixed assets, look over the projects etc.

10) Working on a Purchase Agreement

 The parties create the purchase agreement that spells our in great detail what is being bought, what conditions it is being bought under and at what amount it is being bought

11) Set a Closing Date / Hold the Closing

 The business broker, you and the other side will set a closing date that is fairly close in time – 90 to 120 days – from the Letter of Interest.

There are three types of buyers:
- Strategic Buyer
- Economic Buyer
- Familial Buyer

A strategic buyer is someone who is looking for geographic or service expansion. He can be looking in your state. People from the North sometimes buy a firm in the south. Alternatively, he could be looking to buy a business to expand his service offering. A plumbing firm will purchase an HVAC contractor. Suffice it to say there are numerous possibilities.

An economic buyer is looking for good price for the value received. He or she might know that they can buy the firm at X and it will be worth 2X in a couple of years. They will sometimes purchase a firm in trouble to capture the work force. As you know, journeymen are not easy to grow.

A familial buyer is someone who knows the owner through family relationship or is an employee(s) of the company. (Company employees are family too.)This kind of transaction is a good first option. There always seems to be more comfort with this situation. People know each other well and the payment terms are friendlier. Trust is high.

The value of a construction firm is fairly simple:

A multiple of the predictable income stream plus the value of the assets.

Ascertaining and agreeing on a predicable income stream can be difficult. The historical performance not withstanding. A commercial or industrial contractor is based several factors including bids, present and future and work in process. A residential builder might be based on inventory, name recognition, product and economic factors. A service contracting firm is more straight forward since the business acts more predictably if managed well.

A common mistake is to believe that an abnormally great year can be used as the basis for value. It cannot, an average should be taken. Again, think of what you would do.

The market determines the multiple and the value of the assets. The last years like transactions are a good basis for valuations. Certified professionals in this area are the only ones who can fairly peg the fair market price. In s some cases, each part will hire its own business appraiser and then negotiate with each other with report in hand.

The owner has a range of working options after the sale. He or she can stay involved as leader for a period of time. This gives a smoother transition to the new owner who will need to become familiar with the business. The owner knows more about it than anyone else.

The other end of the spectrum of options is to completely remove himself from the business. People choose this sometimes. As you might think, there has to be some transition but it is brief.

The seller should expect to be compensated for time spent working with the new leader(s). If the previous owner stays on as a senior manager, then an "earn out" is formulated. Typically, it contains salary plus bonus. The bonus being a percentage of profits, either net or gross.

Some traps

An estimated 90% of all proposed transactions don’t go through. There are several reasons. They are not surprising.

o Owner feels his company is of a greater value than the market will bear.
o The candidate company has no second in command to take over. The new owner most often has no one to come in and take charge. They are looking to the company for leadership.
o There is a profit fade between the initial contact campaign and the closing date. Some owners start leaving the business mentally and the financial statement shows it.
 An estimated 80% of the transactions that do go through are sales to the employees or family members. Neither of which can make a cash payment for the business. A payment plan has to be formulated. This means the acquirer will be using your future profits to buy your business. If they fail, you may get your business back.

One caveat to anyone considering selling their firm: Remember, there is not such thing as retirement. Understand you must be intellectually engaged in something. To not do so, decreases your chance at a long post-contracting life. Additionally, if you talk to others who have sold their companies, you will find that there is certain happiness in doing something challenging or rewarding.

Don't be mistaken. A construction contracting firm is hard to sell. It takes several factors to come together all at once. Most importantly, the two sides must be willing to negotiate and reasonable in their demands. The other factors only complicate the issue such as valuation, economic forecasts, business performance and the regulatory environment. Bottom line, if the two interests want to, they can make the transaction happen.

Copyright Stevens Construction Institute, Inc. 2005

Matt Stevens is a management consultant who works only with construction contractors. He has performed training and business consultation for the contracting community since 1994. Matt can be reached at mstevens@stevensci.com His firm, Stevens Construction Institute assists contractors in working smarter, is located at stevensci.com His direct line is (407) 678-0730