Preparation for a Franchise Motor Vehicle Dealership Sale
By Robert A. Bass
Over the last year, the selling and buying of franchised motor vehicle dealerships has been robust. While indicators point to and continue to suggest a seller’s market, stores don’t sell themselves. There are several items an astute seller should always consider as it prepares to put a dealership on the market for sale, including: financial and accounting data; factory image and facility programs; short- and long-term vendor relationships; facilities and physical plant; and other real estate considerations, such as title and survey documentation and environmental assessments.
At the outset of considering a sale, sellers should meet with their accountant to review yearly financials from at least the prior 3 years. Many buyers require pre-negotiation business due diligence, which begins with the execution of a non-disclosure or confidentiality agreement. CPA-prepared financials or factory operating statements are often the first due diligence item requested. As they review their financials, Sellers should consider them from the perspective of a buyer, and be prepared to discuss reasons for variations in expense and income from year to year. Buyers like to apply downward pressure on income to reduce the purchase price; sellers take the opposite approach to increase operating income and purchase price. For example, a buyer might highlight a year when there was a downturn in profitability, but the drop in income may have been due to a nonreoccuring expense or capital expenditure; a buyer will not be saddled with such expense items and, therefore, a seller might include them in a list of “addbacks” to income. Sellers should focus on the bottom line, not the top line, and before taking the dealership to market, look for opportunities to adjust net income upward to increase the asking price of their store.
While reviewing financials, a seller should carefully examine its asset depreciation schedule. Assets that are no longer in service, damaged/inoperable, or simply missing, should be removed from the depreciation schedule. Sellers should also compile a list of any assets acquired over the prior 2 years that were expensed rather than capitalized, or to which an accelerated depreciation treatment was applied. Finally, a list of special tools should be created. Special tools are seldom on a depreciation schedule and an effort must be made to capture their value. The goal is to maximize value and having the foregoing information will help in the negotiation of a price for fixed assets.
Depending on the scale or size transaction, a seller may consider engaging its CPA to provide audited financial statements prior to taking the store to market. An audit constitutes an independent evaluation of one’s financial statements by a CPA, and confirms that an entity’s financial statements are a true and fair representation of the entity’s financial standing. An audit will bolster the credibility of a seller’s financials when presented to a buyer to support an asking price.
Another factor in the pricing of a dealership are factory program requirements. Sellers should review outstanding image or facility programs that may drive down the value of their store, because a buyer may face additional investment requirements after closing. While many state statutes prohibit a manufacturer from imposing facility improvement requirements as a precondition for consenting to a transaction, manufacturers will nonetheless want to achieve their goals after closing. Some buyers may view this post-closing battle negatively, which may drive down a store’s value. Sellers should be realistic about such factory matters and search for countervailing factors to drive up the value of their stores.
To this point, the focus has been on enhancing dealership value. There are other pre-transaction tasks that will make the exchange of information with a buyer more efficient. While these tasks may not directly affect value, there are indirect or intangible benefits and efficiencies to be gained.
Prior to taking the dealership to market, sellers should carefully review their vendor contracts. Emphasis should be on identifying vendor contracts (that are usually long-term) in which the seller will incur a penalty or payoff obligation if the contract is not assumed by a buyer. There typically are not a lot of vendor contracts of this nature. The most common agreements are dealership management system contracts, uniform contracts, service equipment leases, volume oil supplier contracts, volume paint supplier contracts, or website hosting or internet service contracts. Sellers should carefully review each such contract to understand the assignment provisions and their requirements, and the penalties if not properly assigned. This list of proposed assumed contracts will be in a schedule attached to the purchase agreement.
If a dealership is part of a larger group of stores that has in the past financed acquisitions, or established credit facilities or lines of credit, the seller should review its loan agreements and other documentation to determine the extent to which such financing is secured and collateralized by the assets of the dealership being sold. How does the loan documentation address the sale of one dealership? Can the lender call the loan? What must be done to partially release certain assets that make up the collateral of the loan? As part of its review of lender relationship, Sellers should obtain a UCC report showing the extent of security interests encumbering their dealership’s assets. A Seller should understand any lender entanglements before taking a dealership to market, so a plan can be formulated for overcoming lender requirements and financial covenants to provide a clear path for sale of a dealership.
Whether dealership facilities and real estate are sold or leased as part of a dealership sale, Sellers should undertake some housekeeping and documentation gathering in preparation of going to market. A Seller should carefully inspect the property for deferred maintenance and other items that would need repair during the next 12 months. Most buyers will obtain a property condition assessment as part of their due diligence. While a seller might not want to pay for a full inspection, it might consider having a contractor with which it has done business conduct a general overview inspection of the property. It may be better to know up front about facility repair issues so they can be addressed prior to getting in front of a buyer. Also, attention to curb appeal items can never hurt.
If the seller owns its real estate, it should gather the owner’s (or lender’s) title policy and survey obtained at the time of purchase. A careful buyer will request these items, which may help its efforts to expedite obtaining a current policy commitment and survey during real estate due diligence. A Seller’s attorney can also review title and survey to see if anything was overlooked when the real estate was purchased, which may rear its head and create issues during the sale of the property.
Real estate buyers often request copies of environmental site assessments, and will inquire about any interactions a seller has had with environmental regulation agencies. Sellers should gather up any documentation in their possession that is related to real estate environmental matters and have it available for buyers.
Preparing for and undertaking the sale of a dealership should involve not only business valuation and purchase price considerations, but also housekeeping and documentation gathering. Time can be a deal killer. Advance preparation may not only set one’s store apart from other stores competing for the attention of buyers, it may also increase value, reduce the risk of encountering delays, and make for a smoother transaction process and pathway to closing.