If you expect to retire from your construction or contracting business over the next few years, it’s essential to start planning your exit strategy now. Find a solution and create a plan that maximizes the return on all your hard work, while also taking care of your clients and employees.
You have several ways to approach this transaction. As part of an ongoing series about construction exit planning, this article covers the process of selling to external buyers, as well as the pros and cons of doing so.
Ways to Sell Externally
When you sell externally, you’re selling your construction business to someone who isn’t currently working for or with you. This could be a local competitor looking to acquire your business and client base, another construction firm looking to expand in your area, or a strategic buyer who believes they could generate extra value by taking over your clients, employees, and services.
Private equity firms are also active buyers of construction companies. They look to take over family or individually run companies like yours, add capital to help them expand, and then sell for a larger amount later.
In contrast, an internal deal is when you sell to someone already at your company, such as existing business partners, family members, or employees.
Pros of External Sales
External buyers typically have more financial resources than internal buyers, and can afford to pay a higher price. Strategic buyers, in particular, may be willing to pay above your fair market valuation. They believe that by taking over your business and combining it with their own, they can generate a higher value than what your business can offer, justifying the higher price for the exact same assets.
External buyers can not only afford a higher price, they can also complete the purchase more quickly by paying more cash up front. With internal sales, you usually need to wait on future cash flow from your business to complete the deal, which takes years, and there’s no guarantee you’ll receive the total payout. While external sales can have performance-based provisions that must be met after the deal, you are still more likely to receive the entire payout sooner than with internal sales.
You may also find it easier to negotiate with someone you don’t know personally. When dealing with people you’ve known for many years—or even a lifetime—it can be hard to push for a fair sales price. It’s even harder when you know the internal buyers are tight on funds and will need every dollar they have to keep running the business.
Drawbacks of External Sales
It isn’t easy to complete an external sale as a construction firm. Fewer than 25% of companies that try to sell to an external buyer are successful. Buyers face considerable risks in taking over a construction company— which is why they aren’t willing to take on just anyone.
One potential issue is that so much of your valuation comes from the internal relationships with clients and suppliers. Buyers worry whether those relationships will continue after you leave. Another risk is that your key employees could be upset that you aren’t considering them for the takeover, so they leave for a competitor. This hurts your value at a crucial moment, potentially killing the deal.
Construction businesses tend to have set cultures, and a buyer might worry whether your staff will still perform well without you. In addition, construction businesses are usually highly leveraged, meaning they have a lot of debt versus assets, increasing the financial risk.
The construction sector is also cyclical, with big swings depending on the economy. Given that the market is cooling off, external buyers are concerned, and you would need to find a way to demonstrate long-term value to the buyer.
On top of convincing the buyers, setting up an external construction sale can be more expensive and time-consuming than an internal sale. It’s crucial to spend time preparing your company for a deal and then launch a sales and marketing campaign to find potential buyers. In many ways, it’s not as convenient as simply passing the business to people already working with you.
You likely will need to hire either a business broker or an investment bank for help with the sales process. They will deduct their fee from the transaction. This fee can range from 1-12% of the total sale, depending on the value of your business and complexity of the deal. The external sales process can take over a year to complete, and if the deal falls through during this time, you’ve lost your time and investment.
How to Prepare for an External Sale
Completing an external sale isn’t easy, given the challenges and buyer concerns. But with the right exit strategy, you can become one of those construction businesses that land a large deal. The following steps can help get you prepared:
Diversify Your Revenue
Buyers want to know if your construction business will continue generating the same level of revenue after you leave. If you only have one or two clients, even if they’re large ones, the buyer might be hesitant, especially if those clients have a strong personal relationship with you. Consider ramping up your sales efforts to take on more clients if you plan on selling externally.
Shore Up Your Key Employees and Executive Team
Buyers will also want to know that your key employees will stay after you leave. Reach out to your executive team and key employees to discuss what it would take to keep them on board. They might be disappointed by not getting a chance to buy the company directly. However, consider giving them other financial incentives, like a small share of equity or a sizable bonus after the deal is complete. You could establish these terms to be contingent on the employees staying with the company for a set number of years, giving you time to complete the sale.
Improve Your Financials
As you prepare for the sale, ensure your accounting records are accurate and up-to-date. Do what you can to pay off debt, keep your equipment and property in good condition, and reduce expenses to improve your profit margin. Anything you can do to improve your balance sheet metrics will increase your valuation and likelihood of completing an external sale.
Consider Your Future Growth Plan and Competitive Edge
Put yourself in the shoes of a potential buyer and think about what makes your firm attractive for the future. Then, you should lay out your growth roadmap for how you would continue expanding the business, even if you aren’t there to implement the plan yourself.
You should also consider what makes your construction business unique versus the competition, whether it’s an excellent reputation in your local area, a diverse client base, or employees skilled in a specialty type of construction. Use this as your pitch for strategic buyers.
Be Ready When the Time is Right
2020 showed just how quickly markets can change. Even if you don’t plan to sell your construction business any time soon, it could still be worth putting in this effort now. That way, you can move quickly when you are ready to sell. If you wait until you’re ready to exit to start preparing, you might miss your selling window.
As you plan your exit strategy, consider speaking with an Aldrich Construction Advisor. Our team specializes in exit planning for construction businesses, including external and internal sales, and can help you maximize your value.
Meet the Authors
Joe Schneid, CPA, CCIFP®
Aldrich CPAs + Advisors LLP
Joe Schneid has more than 30 years of experience in the built industry providing transaction planning, tax planning and compliance services. Joe works with businesses, ranging from architects through operating real estate entities. Architects, engineers, contractors, developers and real estate holding companies have all benefited from relationships with Joe. He works across the country assisting with... Read more Joe Schneid, CPA, CCIFP®
- Business succession planning
- Strategic tax planning and compliance
- Certified Construction Industry Financial Professional
- Certified Public Accountant
Kyle Kamerlander, CPA
Aldrich CPAs + Advisors
Kyle primarily works with privately held companies throughout the business lifecycle within the construction, manufacturing, distribution, and retail industries. He helps his clients develop meaningful strategies and deliver high-quality services that align with company goals. Kyle enjoys serving his clients by assisting them in understanding financial statement analysis and presentation, setting profitability targets, implementing tax planning... Read more Kyle Kamerlander, CPA
- Closely-held businesses
- Certified Public Accountant