When it comes to selling your business, it’s easy to get excited about the headline price offered by potential buyers. But before you pop the champagne, you will need to look beyond that big number and consider the finer details that can significantly impact how much money ends up in your pocket.
In this blog post, we will take you through three key considerations to keep in mind when evaluating M&A offers:
Tax implications
Tax is an influential factor when it comes to structuring M&A deals. The method of sale – be it share or asset sale – can have a big impact on your tax bill. In most cases, a share sale can often result in a more favourable tax outcome for a vendor(s). For example, the 50% Capital Gains Tax (CGT) discount available to individuals and trust structures, but not companies, can create a tax differential of up to 23.5% between a share sale and an asset sale with the same headline offer price.
(Note: an asset sale would typically involve a business sale agreement under which a company sells its assets, employees, contracts, intellectual property etc. to a buyer. The ultimate shareholders may subsequently receive the cash proceeds by way of dividends declared by the company).
Complex corporate structures involving AssetCos, PropCos, IPCos etc may require a combination of share and asset sales for different entities to produce a tax optimal outcome for shareholders.
If you are a small business owner, additional complexity may arise if the value of your business is approximately $AU6 million. If it is below this threshold, you will likely qualify for further tax benefits and access a further 50% CGT discount. Ironically, selling a business for $AU5.9 million might yield a better post-tax outcome than selling it for $AU6.5 million due to this threshold!
The difference between income tax rates and applicable CGT rates on sale, coupled with the complexity of corporate structures warrants assessing potential tax outcomes of different deal structures, as it can affect your take-home proceeds from a business sale.
Risk assessment
Assessing the risk inherent in realising the total headline price is another important factor. Often buyers adopt a ‘carrot’ or ‘stick’ approach to structuring offers. In other words, an offer may be structured to reward outperformance or penalise poor performance. This may be structured through earn-outs and holdback mechanisms.
Earn-outs and scrip (shares) are common deal components. When evaluating offers, consider the following:
- Earn-out: This refers to a portion of the purchase consideration, which becomes payable based on future financial performance or achievement of other pre-defined obligations. While these can increase the total deal value, there’s a risk you might receive the full amount if targets aren’t met, or obligations aren’t fulfilled.
- Scrip: If you are offered shares in the company as part of the deal, often these will be subject to an escrow period i.e. you will not be able to sell them immediately on transaction completion. Remember that their price can fluctuate over time, and you will have limited influence over the price of these shares.
Time value of money
Time value of money is a basic corporate finance concept that says money can grow in value by investing it, and a delayed investment is a lost opportunity.
Sometimes, consideration may be staggered over multiple years e.g. as in earnout or vendor finance structures. In other cases, there may be a large holdback amount i.e. an amount kept in an interest-bearing escrow account for one to three years before it is released to the vendors. interest-bearingIn such structures, you need to think about the opportunity cost i.e. the income that is being foregone or that could have been generated by investing the money elsewhere (if you had it all upfront).
It’s a balancing act
It’s important to consider the above-mentioned important factors while considering offers for the acquisition of your business. Comparing a deal with a higher price tag but significant portions tied to future performance or a deferred consideration with one that offers an upfront cash consideration requires some financial modelling and scenario analysis with suitable assumptions. Some entrepreneurs are very bullish on future performance, so please don’t forget to consider downside scenarios in this analysis.
Tax implication on exit should be considered at certain decision points
As business owners are naturally focused on growth and operations, the deal structuring challenges associated with a future exit do not come to mind. By proactive planning, you can position your business for an optimal post-tax outcome.
Here are some other consideration areas:
- Geographical expansion: Expanding into new regions can increase your business value, but you will need to think about the tax implications of setting up various legal structures. For businesses with multiple shareholders who have different residency status, the structuring considerations may be more complex.
- New product development/SBU: If your business is expanding into new product lines or markets, consider how these ventures should be structured. Commercial considerations such as whether the new product is likely to have the same buyer universe as the rest of the business in a sale/exit situation, may influence the tax advice you receive in this regard.
- Intellectual Property: Protecting IP is important. Multinational organisations should think about which country to house the IP in and other considerations that may become relevant to the sale of the business.
An M&A advisor can help
Selling your business is likely one of your life’s most significant events. Seeking professional M&A advice can make a difference to your financial outcome. Reach out to Anuk Manchanda, Director at InterFinancial, to discuss your business goals, and explore potential exit strategies.
Catch the first part of this blog post here: Beyond the headline price: understanding working capital in M&A.
