Q. What process do I need to go through to exit the market? The sector is becoming increasingly tough to operate in and I’d like to know my options.
A. John Lucas, Corporate Finance Partner, Hazlewoods
Many business owners will have an ‘exit plan’, or at least an idea of how long they would like to run their business. For some, recent developments such as the introduction of the National Living Wage, auto-enrolment and fee pressures, means they are considering an exit plan earlier than expected.
If you are considering selling your business, either now or in the next few years, it is important to know whether you and your business are prepared for a disposal and, if not, what can be done to get it ready.
There are three main types of buyers in the market: trade buyers, private equity investors and charities or not-for-profit organisations. Each has their own distinctive approach to acquisitions.
Trade buyers are businesses already operating in the care sector, who are perhaps looking to expand, move into a new geographical area or service type. They would often prefer to acquire an existing business with established relationships with local authorities or private clients than build from scratch. One of the key benefits of selling a business to trade buyers is that it is often possible to find someone who you think would be a good ‘fit’ for your business.
Private equity or ‘PE’ buyers are professional investors looking to acquire a profitable business that can be grown and then be sold at a profit, within a reasonably short period of time. PE buyers are experienced acquirers and so their approach is usually efficient and professional. A key attraction of PE buyers is that they may be willing to offer a premium for your business, if they are keen to gain a platform in your particular market.
Charities and not-for-profit organisations, in comparison, are less likely to prioritise profitability. Selling to a charity or not-for-profit organisation can mean that the process is slower than if selling to trade or PE buyers. However, they are often considered to be good ‘homes’ for staff and service users.
Whichever group you might sell to, broadly the same acquisition process will be involved and this consists of three core stages.
- Finding a buyer and Indicative Offers.
- Due diligence.
- Legal documentation and completion.
The first phase involves confidentially marketing the business to potential buyers who will undertake an initial assessment of summarised financial and operational information about the business.
If the buyer likes your business, then they will make an Indicative Offer. Once the Indicative Offer has been accepted, lawyers will prepare Heads of Agreement, a document setting out the terms of the initial offer agreed and a timetable for completion. This will all be subject to due diligence.
Due diligence is often split into two main types: financial and legal. Larger businesses will also look at expanding the process to include commercial, human resources, and even IT due diligence, but for the average small to medium-sized care business, the legal and financial due diligence is often enough.
The buyer’s solicitors will perform the legal due diligence, looking at all legal aspects of contracts, ownership of assets, compliance and litigation.
The financial due diligence is normally undertaken by a team of accountants who specialise in this process. It will involve a range of tasks including looking at historic and current trading results, the working capital and cash required to run the business, historic trends and company debt. All of this is intended to make sure the buyers know what the underlying and sustainable profitability of your business is.
The process of due diligence can often feel a bit invasive as the professionals look in detail at your business. It is important to ensure that records are complete and operations are working as efficiently as possible before you start down this route.
Your financial records
Annual accounts are an easy way to see how the business has performed over a period of time, so making sure your accounts are accurate and up-to-date is imperative. These financial records will form an important part of a buyer’s financial due diligence work.
As accounts are prepared just once a year and reflect a period in the past, a buyer will also want to assess the trading results since your last year-end date. If you do not already prepare monthly or quarterly management accounts, then it is a good idea to start.
Legal due diligence will require copies of all contracts with staff and local authorities to be sent to the buyer’s lawyers, so make sure you have copies of all signed contracts on file. If fee reviews have taken place since the contracts were put in place, then ensure that a paper trail exists so that you have evidence to support the new rates.
Ensuring that the business is compliant with various governing bodies is a large part of legal due diligence. As a result, you should make sure that your Care Quality Commission registration is correct, managers are registered, and DBS checks are complete and filed. The legal due diligence team is also likely to request copies of documents, such as employee handbooks and health and safety certificates.
Any delays in providing due diligence information will make the process longer, and it can already feel tiring. By making the appropriate preparations, you will help to ensure it goes as smoothly as possible.
When you sell your business, you will become subject to capital gains tax, which is payable at between 10% and 20%.
The capital gains tax annual exemption is a one-off, tax free allowance which can be applied to capital gains each year. You will be entitled to an allowance of £11,100 providing you have not received other capital gains during the tax year of sale.
Entrepreneur’s Relief reduces the amount of Capital Gains Tax when you sell a business. It is available for the sale of shares where certain conditions are met. It means that each shareholder in the business may qualify to pay tax at the 10% rate for up to £10 million of gains. The conditions are:
- You must own at least 5% of the issued share capital (and have voting rights).
- You must be an employee or director of the company.
- These conditions must have been satisfied for 12 months prior to the sale.
If you are a sole trader or your business is a partnership, then Entrepreneur’s Relief is still available, provided you have owned all or part of the business for 12 months.
There are no restrictions on applying Entrepreneur’s Relief to spousal shareholdings. This means that if your wife, husband or partner is not currently a shareholder or business partner, and you are expecting to sell the business more than 12 months down the line, then you have the option to transfer them at least 5% of your shares or stake in the business.
One key area to review is property ownership. Historical tax planning of holding properties outside of the operating company may mean that Entrepreneur’s Relief is not obtained on the property element of the sale – which can mean an extra 10% tax charge. This should be reviewed prior to sale.
The market for care businesses has changed quite significantly over the past couple of years. At the moment, uncertainty due to implications of National Living Wage, the exceptionally hard-nosed approach to fees by the local authorities, and electronic call monitoring for the domiciliary care and supported living sector, means that buyers are often paying lower multiples of profits than just two years ago. The multiples paid for businesses which are not necessarily considered ‘corporate’ are particularly affected. This includes sub-scale business – those with less than £500,000 profit, homes with limited en-suites, or low-margin domiciliary care.
In some cases, sellers are having to find alternative strategies for sale, such as closing the home and selling for ‘alternative use’ value. This is particularly common for period conversions, or where a ‘site’ has greater value as a new build development.
However, as ever, there is a silver lining for higher acuity and high quality care businesses. Buyers are more willing to pay higher multiples if they are acquiring a business with a strong Care Quality Commission inspection history and low service user and staff turnovers. If you are well prepared, then it is possible that you and the buyer can come to an agreement that both sides are happy with – but setting reasonable expectations of current value at the outset is key.
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