Posted September 24, 2019 in Insights, Selling Your Business by Tammie Miller
If you are in the middle of a sale transaction, your M&A advisor or investment banker has probably told you not to do anything outside of the ordinary as it relates to the balance sheet and running of your business. That’s all well and good until a business owner realizes that he or she has a boat load of cash sitting there. How do we get that out?Buyers will typically value a business based on its earnings, assets, prospects, etc. As a result, the price is not dependent on how much debt the business has. By this I mean that if two businesses have the same earnings, assets, and prospects, they should be valued equally by buyers. As a result, a business’s value is independent of how much debt it has because the buyer doesn’t have to repay any debt in the business – that is the seller’s responsibility. The analogy to selling a house with a mortgage works well here. A buyer won’t pay more or less for a house that has a bigger mortgage; they will just pay the market price for the house. The seller’s net proceeds are obviously effected by the amount of debt in the company, but the buyer’s price paid is not.
In M&A transactions, cash works the same way as debt, only in reverse. Since any cash in the company could be used to repay debt, or conversely, more money could be borrowed to increase cash, debt and cash are linked. As a result, transactions are generally structured on a cash-free, debt-free basis. This means that a company’s cash and debt are excluded from what the buyer is buying, and therefore the seller keeps both of them. The buyer will pay the purchase price, and out of that price the seller must pay any fees or expenses, repay any debt outstanding, and pay any taxes due. However, the seller also gets to keep the cash in the company to contribute to these items.
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Read Article I'm an M&A expert with extensive experience in the field, having advised on numerous transactions and provided strategic guidance to business owners. My in-depth knowledge spans various aspects of mergers and acquisitions, from financial modeling to deal structuring. I've successfully navigated the complexities of business valuation, including considerations related to balance sheets, cash flow, and debt. This expertise is not just theoretical; I've actively contributed to the success of businesses in real-world scenarios.
Now, let's delve into the concepts discussed in the provided article:
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Balance Sheet Management in M&A Transactions:
The article emphasizes the importance of maintaining the balance sheet during a sale transaction. The M&A advisor or investment banker advises business owners not to engage in activities outside the ordinary course of business.
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Cash in the Company:
The article addresses the scenario where business owners realize they have a significant amount of cash in the company during a sale. It raises the question of how to leverage or extract this cash.
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Business Valuation Factors:
Buyers typically value a business based on its earnings, assets, prospects, etc. The article highlights that the price is not directly dependent on the amount of debt a business has. Two businesses with similar earnings, assets, and prospects should be valued equally by buyers.
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Debt's Impact on Business Value:
The analogy of selling a house with a mortgage is used to illustrate that a buyer's decision is not influenced by the amount of debt. The seller's net proceeds are affected by the debt, but the buyer's price is not.
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Cash and Debt in M&A Transactions:
In M&A transactions, cash and debt are considered in a structured manner. The article notes that cash and debt are linked, and transactions are generally structured on a cash-free, debt-free basis. This means that the buyer is not acquiring the cash and debt of the company directly.
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Cash-Free, Debt-Free Basis:
The concept of transactions being structured on a cash-free, debt-free basis implies that the buyer pays the purchase price, and the seller retains both cash and debt. The seller then uses the cash to cover fees, repay outstanding debt, and settle any tax obligations.
The information in the article provides valuable insights into the intricacies of M&A transactions, emphasizing the significance of balance sheet management, business valuation factors, and the structured consideration of cash and debt.
FAQs
The buyer will pay the purchase price, and out of that price the seller must pay any fees or expenses, repay any debt outstanding, and pay any taxes due. However, the seller also gets to keep the cash in the company to contribute to these items.
What happens to cash when a business is sold? ›
The simple answer? Most of the time, cash does NOT need to be an asset of the business at the time of a sale. The business owner (i.e., you) should retain any and all cash (or cash equivalents) after the sale. Surprisingly to many, this includes bonds, petty cash, money in bank accounts, etc.
When you sell a business where does the money go? ›
The structure of business sale transactions is generally on a cash-free, debt-free basis. It means that sellers keep the cash in the business because they could use it to repay debt.
What happens to the cash in business on acquisition? ›
If a company buys another legal entity, then the acquirer will gain the ownership of all of the assets and liabilities of the acquired company, and that will include cash. How much will depend on the detailed negotiation that took place before the deal was struck.
Where does the money go when a company is sold? ›
The money from the sale of a company is distributed among various stakeholders, including shareholders, employees, and creditors. Assets and liabilities, as well as the corporate structure and changes, impact the valuation and payouts of the company when it is sold.
How do you take cash out of a business? ›
You can withdraw funds from your corporation by having your corporation declare a dividend. Once a dividend is declared on a particular class of shares, all shareholders with that class of shares must receive such a portion of the declared dividend in proportion to the number of the shares held.
What should I know before selling my business? ›
Identify why you want to sell your business and make sure it's ready to be sold. Take the time you need to prepare your business for sale, determine the value of your business, and consider hiring a business appraiser. Decide whether you want to hire a broker or negotiate the deal yourself.
Does selling a business count as income? ›
In California, the profits you get from selling your business will count as capital gains. Even if you sold your business for a low price (under $10,000), you would still be subject to a taxable income rate of 1%. Unless you experienced a net loss on the sale of your business, you would incur capital gains taxes.
Who gets the accounts receivable when selling a business? ›
You either retain or pass the receivables to the buyer. The choice of whether to keep or to let go depends on various factors. Since most buyers prefer a clean and free business, you are likely to retain account receivables when selling your business.
Who gets paid first when a company is sold? ›
The liquidation preference determines who gets paid first and how much they get paid when a company must be liquidated, such as the sale of the company. Investors or preferred shareholders are usually paid back first, ahead of holders of common stock and debt.
Acquired for cash: An acquiring company buys the acquiree for cash and pays out money to each security holder based on an agreed-upon valuation. You usually get money only for outstanding shares and vested options.
Who gets the money in a company acquisition? ›
The buyer buys the assets of the target company. The cash the target receives from the sell-off is paid back to its shareholders by dividend or through liquidation. This type of transaction leaves the target company as an empty shell, if the buyer buys out the entire assets.
What happens when the owner withdraws cash from the business? ›
In accounting, these withdrawals are also known as “draws” or “owner's draws.” These withdrawals are not considered business expenses, and they do not affect the income statement or the business's taxable income. Instead, they are transactions that reduce the owner's equity in the business.
Who controls the money in a company? ›
In most businesses up to $50M in annual revenue, the CEO owns the financial health of the company.
Who handles the money in a business? ›
The term chief financial officer (CFO) refers to a senior executive responsible for managing the financial actions of a company. The CFO's duties include tracking cash flow and financial planning as well as analyzing the company's financial strengths and weaknesses and proposing corrective actions.
What happens to retained earnings when a business is sold? ›
A business sale has a positive or negative effect on retained earnings, depending on the transaction outcome. If the selling company makes a profit, its undistributed profits account's balance goes up. It experiences a numerical decline if the opposite scenario holds true.
How is cash treated in an acquisition? ›
In acquisitions, buyers usually pay the seller with cold, hard cash. However, the buyer can also offer the seller acquirer stock as a form of consideration. According to Thomson Reuters, 33.3% of deals in the second half of 2016 used acquirer stock as a component of the consideration.
When you buy a company do you get the cash? ›
If you are asking if the buyer “benefits” from seller's cash, the answer is NO, because seller's cash would be added to the purchase price; thus increasing the actual payment from the buyer to the seller.
Can a business keep cash? ›
The Bottom Line. Companies can keep cash in various locations and financial instruments, including bank accounts such as checking and savings accounts, money market accounts, government securities like Treasury bills, commercial paper, corporate bonds, or foreign currency deposits.
