Tax Implications of Selling an Online Business

It shouldn’t shock you to learn that when you sell a business, you will have to pay taxes on the sale. However, the amount of taxes you will pay can vary depending upon the expertise and advice of a knowledgeable accountant and business broker. While there are many nuances to each sale, here is a brief summary to help sellers understand the general tax implications of selling an online business.

There are two types of business sales; asset sales and stock sales. Most transactions are structured as asset sales.

Asset Sale: With an asset sale, the buyer acquires the business’ assets, rather than the corporation or entity. This is the preferred route for buyers as they are only acquiring the assets but no prior or potential future liabilities.

Stock Sale: With a stock sale, the buyer will purchase the legal entity of the business, which includes all its assets and liabilities. While the purchase agreement signed by both parties will typically indemnify the buyer from any known or unknown legal or tax liabilities which occurred prior to the sale, the buyer is still liable for such damages and must then litigate against the seller.

Obviously, an asset sale is a much cleaner process and usually the only time that our transactions are structured as stock sales are when there are licensing agreements tied into the entity which are not transferable or assignable.

When the asset purchase agreement is finalized, there is an accompanying asset allocation which will list all the assets of the transaction, with monetary amounts assigned to each category.

For instance, in an online business sale, the allocation might be divided into the following categories: fixed assets, intangible assets, goodwill, and non-compete agreement. The intangible assets and goodwill are taxed as capital gains, which can be anywhere from 15-20%. The other categories would be taxed as ordinary income, which clearly would be at higher rates than capital gains.

The majority of our sales are negotiated to be nearly entirely all intangible/goodwill asset allocated and thus taxed at a significantly lower rate. However, not every website broker is experienced in such matters and understands the complexity of these tax issues. They will likely push this job on your CPA. Our advisors have advanced finance degrees and are properly educated in these matters. Therefore, we are able to favorably negotiate this significant phase of the process for our clients.

As we are only briefly touching on this subject, there are additional extremely beneficial strategies which we discuss with our clients when we list their online business.

If you are considering selling your website business and would like some proper guidance, feel free to give us a call, email or complete an inquiry on our website. We’ll be happy to work with you!

Common Mistakes Sellers Make When Selling Their Online Businesses

Each year, hundreds of online businesses that are listed on the market are not sold. Sometimes external conditions such as the economy, an industry or access to capital are factors but most of the time the reason is that the seller is simply not properly prepared by his or her advisor. When a seller is not properly prepared by his broker, fatal errors can occur, which can easily destroy the transaction process.  Some of the most common mistakes are listed below, in no particular order.

  • The owner either has or is given unrealistic expectations in terms of the valuation of their internet business. Some online business owners believe that their business is worth more than it truly is and find a rookie business broker that is eager for a listing and will therefore agree to list it at an unreasonable multiple. A more seasoned broker will provide a rough valuation upfront and advise the potential client that their expectations are unreasonable and unachievable, and that it would simply be a waste of everybody’s valuable time to proceed with the listing at an unobtainable price.
  • When an internet business owner does not have a proper website broker advising them in the process, they will likely not be properly educated about the different sort of buyers that are out there. For instance, private equity buyers might just be looking for a strong ROI and might be seeking to improve margins by eliminating employees. A strategic buyer or competitor would be a great suitor but sometimes they do not offer an attractive enough multiple to entice a seller. Other buyers may only be looking to put down 20% and finance the acquisition with an SBA loan. There are intangibles with each type of buyer and it is important that the seller is properly educated on such. Some sellers believe that they are saving themselves money by not hiring an online business broker to begin with. Unfortunately, they have no idea of how time-consuming and intensive the process is and the inevitable mistakes that will be made and the subsequent fallout either. An online business sale is extremely nuanced and complex. Additionally, an educated and experienced website business advisory service such as W3 Business Brokers will ensure that you’re reaching the right buyers and receiving the highest possible price for your business along with the best terms. We would provide you with the proper guidance during each step of the process and protect you and your business while making it as stress free as possible for you.
  • Owners sometimes believe that the best buyer for their business is a local competitor, customer, supplier, friend, or family member. However, those buyers may not be interested or financially qualified to consummate the deal. In today’s global environment, the buyer of your online business does not need to be local. The majority of our website sales are to buyers in other states. It is a fairly simple process to transfer the business with its tangible and intangible assets to another state or country. The ideal internet business broker will have a database and Rolodex of institutional and individual buyers who are actively seeking profitable private website businesses. It is crucial for a broker to identify the ideal buyer pool to market the business to. For that reason, when interviewing a prospective broker, it would be prudent to inquire about their buyer data base. We know the types of online businesses and price-points that our buyers are looking for and the types that our competitors’ buyers are as well. There are some website brokers that mainly represent businesses with cash flows of $50,000-$100,000, while our listings begin at the $100,000 level. We simply know that our buyers are looking for higher priced businesses and would therefore refer a potential seller of a smaller business to one of our competitors if we did not believe that we could properly serve them.
  • It is also important to present the business in the best possible light. Some brokers spend very little time on their presentations, while we spend dozens of hours on our prospectuses, highlighting the key aspects and highlights of the business, such as growth opportunities, reputation, industry position and overall analysis, supplier relationships, valuable intangible assets and other factors which buyers will certainly need to be made aware of. We make it appoint to be as transparent as possible, knowing from being one of the oldest website brokerages in the country, what questions prospective buyers might have and certainly what they should know. Unfortunately, not all online brokers understand this, nor do they put in the ample time necessary to prepare a professional and inducing CIM.
  • An experienced and financially educated internet broker also knows what financials, documents and data will be requested and necessary during the due diligence process. Based on the 100+ deals that we have closed, we can easily advise you in advance so you can prepare and organize all the necessary documents ahead of time, which will make the due diligence process more seamless and quicker, leading to a smooth and prompt close. We can assure you that not all brokers will do this, and this very well might hamper the due diligence phase, which many times may kill a deal.

The bottom line is that if you’re considering selling your profitable online business, you want to work with an experienced internet business broker, who will educate you and prepare you for the transaction as it will eliminate key errors during this important process.

Important Advice to Serious Buyers

Will Rogers once said that “you never get a second chance to make a first impression”.  Whether you realize it or not, that is extremely valuable advice. When reaching out to a broker of an internet business brokerage firm, such as W3 Business Advisors, you must understand that we usually interact with hundreds of prospective buyers that are interested in any particular online business. Unlike a local or regional brick-and-mortar business, which has a limited pool of prospective buyers, online businesses attract buyers on a national and sometimes international level. Therefore, you should realize that there are usually other serious buyers looking at the same website business that you are. That said, we have come up with a list of “Don’ts” for serious buyers to consider when interacting with website brokers.

  1. Be truthful – This isn’t our first rodeo and we can usually smell BS from a mile away. If a broker asks you how much cash at closing you have for a business and your response is that it’s irrelevant because you have investors that you can go to if you need to, we know that you are a newbie tire kicker that likely does not have enough money to buy a business and/or you do not have your financing in place. We are extremely busy so please understand that we do not have the time to waste on buyers who aren’t really serious, qualified, or ready. Once an online broker knows that a prospective buyer is exaggerating and is not truly serious or qualified, it will not bode well for future interactions as they will not waste their time on them in the future. If you are in fact serious, then be truthful and the broker will likely be very accommodating and will want to work with you.
  2. Do not copy & paste generic questions and send them to a broker – Unfortunately, this does occur and many times, a prospective buyer will send over the identical questions for multiple web businesses he inquires about. We try to be as comprehensive as possible and answer buyers’ questions with detailed answers, and this does take the brokers’ and the sellers’ time. Again, if we reasonably suspect that a buyer is wasting our time, we will not take him or her serious in the future. If you are really interested, then take your time and ask valid questions because it will convey your seriousness.
  3. Do not ask questions that are already covered in the prospectus – Other internet brokers may not put much time into their CIMs, but those who have viewed our prospectuses know that we certainly do as we try to be as transparent and comprehensive as possible. Before asking a broker questions, put some time into reviewing the prospectus in detail and in its entirety because if you do ask a question that has clearly been covered in the prospectus then we will know that you did not read it , which does show that you are not very serious about that business.
  4. Do not make an offer prior to asking questions – Some buyers will make an offer immediately after receiving the prospectus without asking any questions about that business. To a seasoned internet broker, this is a red flag as it is apparent that the buyer is just trying to tie up the business during an exclusive due diligence period, which he will use this time period to either try to obtain the money for the purchase (he likely does not have it) or to negotiate the deal down. With this type of buyer, they will then find something that they don’t like about the business (they often invent something), but something that they easily could have discovered if they read the CIM in detail and if they actually took the time to ask some valid preliminary questions. An experienced broker will vet buyers who make offers and will make sure that the buyer isn’t just tying up the business and wasting everyone’s time. He will do his homework and make sure that the buyer is serious and that there is a high probability that he will close the transaction.
  5. Don’t ask unrealistic requests – An experienced broker knows that he does not have a serious buyer on hand when the buyer asks for sensitive information such as tax returns, customer lists, supplier information, and other potential trade secrets prior to making a valid offer. You can do enough preliminary due diligence without such information prior to submitting an LOI and can review the relevant documents during the actual due diligence period. All serious buyers understand that it is unreasonable to ask for such prior to due diligence.
  6. Do not submit a one-sided LOI – Again, you are not the only one looking at a particular online business, so if you do make an offer, then do your best to do so with terms that are as fair and neutral as possible. If a buyer’s LOI does contain one-sided terms, which obviously only favors them, then we will know that they will be very unrealistic and difficult going forward and will likely be impossible to work with when getting to the purchase agreement. Therefore, we would much rather prefer to work with another buyer who appears much more reasonable. Try to have open and reasonable expectations to how the transaction works and the logistics of it. It is not solely about the price offered and agreed upon, because the terms of the transaction, such as cash at closing, time period to close, earnest deposit, due diligence period, etc. are also very important variables to all parties involved.

There are other red flags that turn off brokers and sellers but if you are a serious buyer and follow the advice above, and also show that you have reasonable expectations, then you will indeed be taken seriously and be given the opportunity to be considered a desirable buyer for a highly-coveted business, where there is ample competition and a crowded playing field.

Deal Optimism in 2019

Just about a month into the new year, small-to-middle market M&A confidence appears to be gaining. A few recent surveys questioned M&A participants and business owners about their expectations in 2019. Most responded that they believed M&A activity would increase due to a strong economy, baby boomers exiting their businesses, GDP growth, and a favorable business environment.

Both strategic buyers and Private Equity firms are sitting on a lot of cash, eagerly looking for solid deals. The majority of the respondents also stated that they expect the average size per transaction to increase this year as well.

On the sell-side, we are noticing the same as there are many family businesses and baby boomers contacting us as they are exploring their exit options. Some are looking for outright exits, while others are open to taking most of their money off the table while sticking around for a prolonged transition.

On the buy-side, deal particulars vary as some buyers are seeking outright acquisitions while others would prefer to purchase a majority stake with the owner retaining a minority stake and remaining as the operator for some time.

While it is tempting to anticipate the future M&A market with rose colored glasses, there are some potential headwinds to consider. For instance, rising interest rates and economic uncertainty can be potential obstacles for deals.

Many respondents of a recent Deloitte study, “The State of the Deal M&A Trends 2019 Survey”, said that rising interest rates would slow their activity or reduce their ability to execute on deals. However, the “baby boomer effect” does remain a powerful potential tailwind as many of these small business owners ($100,000 to $10 million in sales) are looking to retire soon.

Last year, 36% of small business owners who responded to the survey said they plan to sell or transition their business within the next five years, which is up from 27% just seven years ago.

Therefore, based on Economics 101 – Supply vs. Demand, with a larger number of businesses up for sale over the next five years and with the current economic environment and corporate tax code, the conditions for a ripe M&A market are surely favorable.

Why W3 Business Advisors are Better than our Competitors

W3 Business Advisors has been around for 10 years and we are extremely selective, only advising on around 15-20 transactions per year. Our team of brokers all have a comprehensive background in finance and accounting that was learned from the top business schools in the country and gained by working in the investment banking area while the other brokers in this niche don’t even have college degrees in general business.

In addition, W3 has actual offices in New York and Chicago while the other brokers typically work from their homes. We have our pictures on the “our team” page of our site because we want you to know exactly who you are working with compared to the other firms who not only don’t provide pictures, but don’t even provide proper background information on their specific qualifications to advise on transactions of this type.

So, while some of the other brokers might have more listings than us, we only focus on quality businesses with EBITDAS over $150,000 and we won’t dilute our invaluable services, spread ourselves too thin or waste our time with lesser deals. All our competitors constantly have their “quality” businesses on the same page as their subpar businesses that are worth less than $100k.

LOIs, Earnest Deposits, and Exclusivity

Alright, so you received a Letter of Intent (LOI) with a reasonable offer. Sounds good, right?

Yes, but in addition to the purchase price and deal structure, there are other essential aspects of the agreement that must be discussed and negotiated. Two of the significant terms which other online business brokers might not emphasize are earnest deposits and exclusivity. In this section we will discuss the meaning and importance of each.

Earnest Deposit

It goes without saying that most buyers would prefer not to put down a deposit once the LOI is agreed upon. However, as our client’s broker and advisor, we believe it is a necessity. An earnest deposit is typically equivalent to about 5-10% of the total transaction value and is almost always fully refundable should the deal not get to closing.

The primary reason behind the deposit requirement is really a show of good faith on the buyer’s part that they are somewhat financially qualified to fund the transaction. With a seller providing sensitive financial information and revealing many aspects of the business during the due diligence phase, an earnest money deposit is customary for transactions of all sizes / types as it proves the buyer is serious.

If a buyer refuses to come up with an earnest deposit, which is held in escrow, then that clearly illustrates that they either do not have the money to close or that they are NOT as serious as they have demonstrated. After all, a non-binding piece of paper (LOI) without an earnest deposit is not sufficient for our clients to engage in the due diligence phase, and we advise them as such.

Exclusivity

Some buyers request 100% exclusivity upon execution of the LOI, which means that we can no longer market the business. That is troublesome as there is no guaranty that the buyer will close and if he does in fact back out of the transaction, then we would have to begin our process from square one again.

We understand that the buyer needs some sort of comfort that if he is going to expend a lot of time and money into due diligence, he does not want to risk the seller having the ability to “ditch” him and engage with another buyer. That is perfectly understandable.

That is the reason that we propose to add exclusivity language which is more than fair. The language that we have drafted for this exact purpose clearly gives the buyer an exclusive on the business and ensures that he has the exclusive right to execute or cancel the deal up until the closing date.

So, for instance, on a deal with a 30 day due diligence period, without a non-refundable deposit, a buyer can technically walk away from the deal for any reason on the last day of due diligence while retrieving their entire deposit, which means we would have lost an entire month on this listing.

As a result, we need the ability to continue to field backup offers in case a buyer decides to back out at the last minute. Therefore, if the buyer does back out, I can immediately engage with the other serious buyers who I have cultivated and retained during that month, for that very reason.

If the buyer does genuinely want the business, which most do, then this should not be a concern as the language clearly ensures that they have the EXCLUSIVE first right to execute the deal up until the closing date, and that any other offers received could only be treated as backup offers if they don’t close on the deal.

When Interviewing Brokers, It’s OK to Ask For References

While interviewing prospective online business brokers to sell your business, one of your requests should be to speak with a couple of their past clients as they can provide you with valuable insight into the broker’s process and their experience working with them.

This is certainly a valid request and if a website broker is unwilling to provide you with references, then you can be assured that they are hiding something, and you would not be working with a broker that has a history of success.

When a past client had a positive experience working with a business broker who successfully sold their business, then they are usually always happy to serve as a reference and speak to any potential new client of the broker. At W3 Business Advisors, we go above and beyond our duty and most of our clients actually offer to serve as a reference, without us even asking them to.

Anytime I have asked a client to speak to a new potential client, not one has ever said no.  I am always happy to offer many references and understand the importance of a prospective client hearing about our process directly from the most relevant source.

Therefore, if a broker or firm is unwilling to provide references of past clients then they unequivocally are not worth considering.

The Importance of High-Quality Marketing Materials

When it is finally time to sell your online business, your internet business broker is crucial in the preparation of the key materials necessary to effectively market your company. Here at W3 Business Advisors, there are two critical documents that we prepare prior to the listing of your website business.

The first one is an executive summary of your business, also known as the “teaser” or teaser ad. The teaser discreetly summarizes the high-level highlights of the business along with the financial and operational performance, industry, competitive advantages, and other significant aspects which may distinguish and differentiate your business. What the teaser does NOT disclose is the name of your website, business, or any other identifying information and when we draft it, not even a seasoned CIA code breaker would be able to determine such. Many website brokers under emphasize the significance of a professionally done teaser ad, but we understand that many buyers, including private equity firms, strategic corporate buyers and deep-pocketed entrepreneurs might review dozens of ads at a time, so it is vitally important to make a strong first impression as one never gets a second chance to make a first impression.

The second document that a professional internet broker will prepare is a more comprehensive prospectus, otherwise known as a confidential information memorandum (CIM) or “deck”. This is for the prospective buyers who express their initial interest in learning more about the website business. Most of our competitors only prepare a short PowerPoint presentation or a few page PDF of the business. However, we draft an extremely detailed report, usually 10-12 pages long, which illustrates all aspects of the business and contains detailed financial statements and relevant statistics and highlights. It is extremely important to have a professional and transparent prospectus prepared as it will enable buyers to evaluate the business and decide whether they want to move on in the process to a higher-level phase. If a website owner does not work with a professional internet broker such as W3 Business Advisors then his or her online business will not appeal to the right buyers as it may cause many potential desirable buyers to seriously consider their business.

As a potential seller, it can be prudent to ask a business broker for a recent prospectus or two so you can evaluate and compare the quality of their presentation prior to choosing to list with them.

How Internet Business Brokers Add Value for Sellers

Some online business owners who are looking to sell may be reluctant to pay an internet business broker to sell their business but if you ask any seller that sold their business with the assistance of a broker such as W3 Business Advisors, they will unanimously agree that they are glad they did.

A recent study surveyed 85 business owners who sold their businesses with the assistance of an advisory firm and 100% of the respondents said that the advisor added value to the transaction, with 69% saying the value-added was “significant”. Every transaction is unique and complex, and most sellers do not have experience with transactions, many do not truly know the value of their business, and it is nearly impossible to balance the discretionary demands and time constraints of a sale while still running their online business. Professional website brokerages such as W3 have the experience and to manage the deal process, find the right buyers, obtain the most lucrative price, allowing the seller to continue to operate their business at an optimum level.

The study also analyzed what aspects of the advisor’s role were the most helpful to the sellers and asked them to rank the following functions from most to least significant:

  1. Finding buyers
  2. Negotiating the deal
  3. Managing the sale process
  4. Adding credibility to the seller
  5. Preparing the company for sale
  6. Educating and coaching the seller
  7. Structuring the transaction
  8. Enabling the seller to run the business

While finding buyers might appear to be the most important function of an advisor’s role, surprisingly, it was the lowest ranked of all. Managing the process was actually ranked as the most important of the many roles of an advisor. As you can see from the results below, the core services that an advisor can offer are the most important to maximize value. Those services include coming up with an executing a plan, preparing the prospectus and teasers, dealing with potential buyers in a discretionary manner, managing the data room, negotiating key terms of the transaction, just to name a few. One respondent stated that “representation definitely got us a better price and more favorable terms”.

how internet business broker adds value for sellers

Additionally, 84% of the business sellers polled said that their final sale price was equal to or higher than the initial evaluation provided by the advisor. The increased purchase price certainly makes the commission charged by a business broker well worth their services.

An experienced and professional website brokerage firm such as W3 Business Advisors will certainly more than add value to the sale of your online business. So, what are you waiting for? Give us a call today!

Search Funds – A new Breed of Buyers

If you have never before heard of a “search fund”, don’t worry…. you’re certainly not alone. While its inception dates back to 1984, only in recent years has it surged in popularity. In its simplest form, a search fund is an investment vehicle, through which investors financially support an entrepreneur’s efforts to locate, acquire, manage, and grow a privately held company. A new generation is now emerging from elite business schools and it is comprised of young entrepreneurs who are going to Main Street rather than Wall Street. Instead of the high paying yet high stress finance jobs, these newly minted MBA grads are opting to become CEOs by looking for and subsequently acquiring small businesses. This strategy is seeing unparalleled growth as according to searchfunder.com, the number of search funds has increased a whopping 428 percent over the last five years, increasing at a rate of about 40 percent per year.

This unprecedented growth has been driven by both an awareness of the model and its success. According to searchfunder.com, “More programs about entrepreneurship through acquisition are forming at the business schools, and various universities are having conferences about the model. There’s also the global expansion—now that there have been successful search funds in other markets, people are looking to do that.” The entrepreneurs are largely targeting the small-to-middle market businesses, valued anywhere from $1 to $20 million—deals which might not make sense for the cost structures of traditional PE firms. This influx of young entrepreneurs will likely support valuations of the $1 million + business market for near future.

There are three types of search funds—traditional, self-funded, and fundless sponsors. Traditional funds are those which the “searchers” raise capital from a group of investors in order to look for a company with certain agreed upon attributes. The investors have the right of first refusal on any deals the searcher may find. Self-funded searchers finance their own search efforts but once they find a deal, they then look for outside capital. The terms are negotiated on a deal-by-deal basis, according to searchfunder.com. Self-funded searchers also often utilize SBA loans due to the favorable and flexible terms offered. Lastly, Fundless sponsors raise search capital on a deal-by-deal basis often from a single source or a group of investors. Fundless sponsors are more savvy, experienced and know how to structure deals.

Many industry insiders believe that the industry will continue to boom and this should bode well for sellers of ecommerce, SaaS and other website businesses. If the pool of buyers of a profitable online business becomes more crowded, then an experienced advisor such as W3 Business Advisors will use that leverage to extract the highest possible transaction price.