Dec 1, 2022
Transition Periods in a Small Business Acquisition
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Unlike a house, which is a standalone asset, a business is a living and breathing machine. Entrepreneurs buy businesses based on the business’s ability to generate profit. In order to generate profit, a business needs more than just equipment. It needs employees, customers, and a strong set of processes.
Normally, all of those elements have been found, forged and optimized by the retiring owner. He or she has hired the employees, built long-standing relationships with customers, and iterated on the best way to run the business over years or decades.
Why do you need a transition period in a small business sale?
Because of how crucial the original founder of a business is to its success, there is a degree of risk when the owner retires. Employees may demand a raise or quit. Customers may decide to terminate their relationship with the business. The process that held things together may start to fall apart.
To prevent all of those things from happening, almost all business acquisitions include a transition period. The purpose of the transition period is to decrease risk and increase the chance of success of the new owner.
The period is an opportunity for the seller to introduce the buyer to employees and customers, while assuring them that he or she has complete faith in the new owner. It’s also an opportunity for the buyer to learn tips and tricks from the seller about how to best run the business.
How Long Are Transition Periods?
Transition periods can range from 4 weeks all the way to 12 months. However, the average transition period is between 4 and 12 weeks long. At Beacon, we set expectations with our business owners to prepare for at least a 4 week transition period.
What Impacts the Length of the Transition Period?
In short, the more a business is dependent upon the seller, the longer the business transition period.
There are a number of factors that may increase the length of a transition period:
Owner involved in delivering the service: If the owner works both “in” the business (field work) and “on” the business (management), then the buyer normally has to replace the owner’s work in the field with a new hire. For that reason, they need to buy themselves more time. This is doubly true when family members work in the business.
Licensing requirements: Sometimes a great buyer approaches an owner in a regulated industry, such as HVAC, plumbing or electrical work, and strikes a deal to buy out the owner. While the deal is great, there’s a catch. The buyer doesn’t have the necessary state license to own such a business. In these cases, there may be a longer transition period to allow the buyer to get the license.
Highly skilled industry: In the event that the business is in a highly skilled industry, there may be a longer transition period for the owner to train up the buyer. One instance is in a technical business that requires accurate estimation and bidding processes, such as arborists. The longer period helps the buyer learn all the ins and outs of estimating.
Is the Transition Period Paid?
No. At least the first 4 weeks of the transition period are complementary and included in the business acquisition and transition plan.
One way to think of this transition period is like a living “manual” to the business. The seller trains up the buyer, while introducing him to the parts that make the business work: customers, processes, key employees, vendors, etc.
What Happens After the Transition Period?
Generally, most buyers like to keep the owner on as a consultant for adhoc advice and mentorship. This is typically structured as an hourly rate with a ballpark estimate of how many hours the new owner would need per week or month. The rate varies between $25 and $60, and really depends on the owner’s needs and what’s fair to the business.
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Will is responsible for helping sellers market their businesses to prospective buyers and providing hands-on support from offer to close. Using his background in mergers and acquisitions at Wells Fargo, he drives value and provides clients with the necessary resources, best practices and advice for a successful sale of their business.
Information posted on this page is not intended to be, and should not be construed as tax, legal, investment or accounting advice. You should consult your own tax, legal, investment and accounting advisors before engaging in any transaction.