Do you have a client who is thinking about selling up? Do they prepare financial forecasts (or projections*)?
Sometimes small businesses don’t prepare forecasts, with decisions more based on the owner’s instinct. So preparing forecasts for a sale can be daunting, especially as problems in due diligence can trigger a renegotiation or even cause a sale to fail.
Will the buyer want to see forecasts?
Each deal is different and not all buyers will require forecasts. However, it’s worth bearing in mind that buying a business is about future potential, so don’t be surprised if forecasts are needed. Especially if:
- Future potential is heavily factored into the price
- Cash flow is seen as a risk
- The buyer is a corporate or private equity investor
- The money changing hands is significant
No one can predict the future with certainty and ‘past performance may not be indicative of future results’. However do expect buyers’ accountants to look at past figures; here is an example:
…I was reviewing the forecasts of a growing business for an angel investor; it quickly became clear that there was overoptimism about cash flow. A simplistic approach had been taken to payments from customers and an analysis of past figures showed that money had never been collected as quickly as forecast. After discussion it was apparent that the numbers provided had no real foundation and required revision.
While judgement about the future will be required, some things involve less judgement than others. If those things lack credibility, then it will hardly inspire confidence. Getting some friendly challenge from someone looking in from the outside may be helpful.
Getting the foundations in place
Forecasts that reflect the way a business operates will provide clarity and will be easier to amend if needed. So if (say) there are three different income streams with different margins and/or cash flow characteristics, then it is best to model each strand separately. Management accounts presented in a similar way will provide a comparable track record.
As well as management accounts, there may be other information that’s important. That information will vary, but an example is key sales information, such as conversion rates or customer retention information. It’s helpful to think about how business is done and, where practicable, to have past information to benchmark against the assumptions.
Ideally it is best to think about this well ahead of the sale and get the necessary reporting in place. Apart from anything else it should provide deeper insights into the business and help drive better performance!
Thinking about changes
Once the foundations have been established, planned/expected changes in the business can then be factored into the forecast. There may not be precedents for everything, but still expect questions:
- How will the changes be made?
- What are the main risks?
- What are the main trends and strategic influences?
- Have all costs been included?
- What if things don’t turn out as planned?
While the future can’t be predicted with certainty, carefully thought through forecasts should still give the buyer confidence. Conversely, if a company falls below forecast during the course of a deal there is a chance that the price will be chipped. A robust approach can pay big dividends and in my view this starts with relevant management information.
I hope this article has been helpful. If you’d like to discuss how I help businesses prepare for sale or get through due diligence, then feel free do get in touch.
*Strictly speaking forecasts are where there is a reasonable degree of confidence about the numbers; projections have a higher degree of uncertainty. For ease, the term ‘forecast’ has been used throughout this article.
This article is for general information and interest and may not be comprehensive. Specific circumstances will also vary. We therefore do not accept any responsibility for any loss arising as a result of any person or organisation acting or refraining from acting based on information contained herein.