Small Business Sales Slow Slightly as Tariffs, 2020 Election Foster Uncertainty
A total of 2,454 small businesses were reported sold in the third quarter of 2019, an 8.6% decline compared to the same period last year according to the BizBuySell Insight Report, a nationally recognized economic indicator that aggregates statistics from business-for-sale transactions reported by participating business brokers nationwide. This continues the trend of reduced transactions seen throughout 2019.
While it's important to note that transactions remain high historically, uncertainty about international tariffs is creating a challenging environment for some deals. More specifically, business valuation becomes increasingly difficult when having to consider increased costs due to tariffs with an unknown duration. According to a BizBuySell survey of business brokers, this has become a real issue for sectors reliant on international partners such as China. Perhaps the most effected being those in the manufacturing sector.
"Manufacturing businesses are commonly being hurt by tariffs on Chinese bought parts. This depresses margins and profits which in turn drives down the valuation," said one business broker. "I have five manufacturing companies for sale. Each is worried about tariffs," added another.
However, it's not just costs that are being impacted. Tariffs are also having an indirect impact at the register. As reported in BizBuySell's 2019 Buyer-Seller Confidence study, at least 1 in 3 business owners (37%) has experienced tariff-based cost increases, with half of them raising prices to offset the higher costs. Forty-six percent of those owners saw sales decline as a result.
According to Scott Bushkie, managing partner of Cornerstone Business Services, the ability to successfully pass along increased costs lies in the uniqueness of the products and services.
"The more niche or proprietary the company, the more successful they are at passing on tariff costs to clients," Bushkie said. "It's the commodity type businesses that are hesitant to pass on costs out of concern of losing business. As a whole, tariffs have been one of the stronger headwinds for lower middle market deals in 2019."
For business owners, tariffs have understandably caused concern, as illustrated by the 2019 Seller Confidence Index which declined to 52 from 58 a year ago. Conversely, the Buyer Confidence Index rose from 47 to 53 over the same period, perhaps indicating a sense of opportunity to leverage increasing economic uncertainty as a means to negotiate better terms.
Given that an Index of 50 represents neutral confidence on a 0 – 100 scale, the two positive scores indicate both parties are unlikely to quickly concede during negotiations. The resulting stalemate is a likely contributor to slowing transactions. "Tariffs have been a very minimal issue. They're just causing a bit of hesitation, but are also something to press in seller concessions during negotiation," said one broker.
According to brokers, the onus may lie with the seller to adjust their price in today's market. More than half of brokers describe 2019 as a buyer's market versus just 27% who believe it favors sellers and 21% who see a balanced market.
One broker offered a solution that may satisfy both parties in the midst of valuation uncertainty, explaining, "Partial earn-out clauses will mitigate and be put in deals to increase/decrease total price over/under historical norms." These agreements can protect buyers from known risks that may reduce profits following a purchase.
For the moment, however, it appears the market is being influenced more by sentiment than reality. The majority (59%) of brokers have yet to see a material impact to business values based on tariffs. That could change if trade policies drag into the new year.
"I expect we'll see more impact on business values in 2020 with tariff-related increases in cost of goods and other expenses," said a business broker. "Effects yet to come. Too early in the game," another added.
For those buyers ready to act, there remains a healthy supply of businesses for sale. In fact, the total number of businesses listed for sale crept up 1.7% in Q3 2019 as compared to the same time last year, which allows buyers to be more selective in their search. The top supply driver continues to be retirement-seeking Baby Boomers, who have accounted for at least 60% of 2019 sales according to the majority of business brokers.
Meanwhile, 11% of brokers have encountered an owner looking to sell due to tariffs. For some older or burnt out owners, tariffs are just the final encouragement to bow out. "The International tariff policy is causing older owners of manufacturing companies in the $5 - $15 million range to think about throwing in the towel," said one broker. Another added, "Margins are less and owners are tired and don't want to go through another protracted period like the recession."
In comparison to owners, 18% of brokers have experienced buyer hesitation, which might be the more important of the two groups to monitor. Surveyed brokers say a reversal in course from today's positive buyer confidence levels is the top threat facing the business-for-sale market, slightly higher than uncertainty around the 2020 election.
"If buyers think this is the wrong time to buy, it will be a bigger threat than any other single factor," said one broker. "But, if buyers want to buy, there will be plenty of sellers who will be willing to sell."
Over the past two years, the majority of surveyed business brokers sold at least 50% of their listings. By the numbers, there is little evidence that sale ratio will change. Buyer confidence grew over the past year, and despite a seller confidence dip, owners still remain positive. Furthermore, inventory remains strong. And most importantly, revenues and profits, the best indicators, are at all-time highs meaning businesses are either adapting to economic changes, or the effects are yet to be felt.
Q3 2019 Small Business Financial Health
In the third quarter, the median revenue of a sold business was $554,763, up 4.5% from the same period last year. Cash flow also grew 7.5% to $125,000, which supports the belief that tariffs have yet to make a major impact on business profits. Interestingly, the higher financials are not reflected in sale prices which remain mostly flat year-over-year.
For buyers willing to take a chance on the market, this presents an opportunity to receive a business in better financial footing than a year ago, but without the premium. At the same time, part of today's high listing volume can be explained by opportunistic owners, hoping to cash out instead of risk holding through a recession.
Q3 2019 Small Business Values
While sold business financials increased nicely in Q3, the median sale price of those businesses grew just 0.1% year-over-year. The stagnate sale price is not for the lack of trying on the seller's part as the median asking price of a sold business stood at $278,000 in Q3 2019, up 3.3% from 2018.
It seems sellers are focused on their bottom line and not considering current economic conditions into their valuation. In fact, according to the majority of business brokers, sellers having unrealistic asking prices compared to current market values is the top reason preventing closed deals. This highlights the negotiation conflict between sellers wanting more money for improved financial performance and buyers asking for lower prices given increased uncertainty.
Q3 2019 Industry Breakdown
Those sectors most likely to have close ties to international trade took the hardest hit in the third quarter. Most notable, manufacturing businesses experienced a 14% drop in median sale price YOY to $620,000. The lower sale price is a result of a 12% cash flow decrease and weakening demand as 22% fewer manufacturing businesses sold in Q3 2019 compared to Q3 2018.
Restaurants were the most tariff resistant businesses sold in Q3, with positive YOY gains in both revenue (5%) and cash flow (12%). However, they were still susceptible to overall market conditions with sale prices dropping 12%. That said, restaurant demand remained intact with 7% more reported sales than last year.
For the full year 2018 breakdown of data by industry, click here.
Q3 2019 Top Performing Markets by Sales
At the local level, Detroit posted an impressive 81% increase in closed transactions as compared to last year. Of all cities with at least 25 transactions taking place, other growth markets included Houston (up 56%), Portland (up 40%), Chicago (up 30%) and Boston (up 26%).
Those cities that saw a drop in transactions were led by Washington D.C., which experienced a 50% drop from the third quarter of last year. Other declines took place in New York (down 17%), Los Angeles (down 15%), Baltimore (down 14%) and Atlanta (down 14%).
Of those same cities with at least 25 closed transactions, buyers in San Francisco paid the most with a median sale price of $550,000. Prices were also high in cities such as Tampa ($450,000), Seattle ($412,500) and Boston ($400,000). San Diego buyers were able to purchase the smallest businesses at a median sale price of $99,000.
For a full breakdown of the top U.S. markets, click here.
Q3 2019 Top Performing Markets by For-Sale Listings
Of cities with a minimum of 100 active for-sale listings, Oklahoma City saw the most new listings, growing 59% from the same time last year. Other cities with notable listing growth include Tulsa (up 48%), San Jose (up 34%), Charlotte (up 23%), Cincinnati (up 23%) and Indianapolis (up 20%).
Nashville experienced the sharpest decline in available businesses, with listings falling 21% year over year. Other notable decreases took place in Louisville (down 10%), New York (down 10%) and Chicago (down 8%).
For buyers hoping to purchase a business in the coming months, median asking prices were highest in Louisville ($395,000), followed by Salt Lake City ($380,000), Cincinnati ($350,000) and Pittsburgh ($349,000). The lowest asking prices could be found in Virginia Beach ($185,000), Las Vegas ($195,000) and San Diego ($200,000).
For a full breakdown of the top U.S. markets, click here.
Q3 2019 Differences by Deal Size
While main street businesses sell for a sale price closer to the national median of $250,000, 14% of all closed transactions exchanged for over $1 million. Most of these businesses fall in the manufacturing industry (34%), but bigger numbers can also be seen in the service (14%), retail (11%) and restaurant (5%) industries.
Owners of businesses priced over $1 million experienced a longer sales time, 198 days compared to 169 day overall. However, these owners were rewarded with much higher multiples – the average cash flow multiple for a business over $1 million was 3.63 vs the national average of 2.37, while the revenue multiple stood at .90 vs .60 respectively.
Overall, the third quarter of 2019 followed a similar trend as the year's prior quarters. Transactions dipped slightly from last year, but remain at a historically high levels. Financials also continue to be strong and while there may be some uncertainty, indicators point to an active small business environment.
With tariffs a constant news topic, buyers and sellers will be keeping an eye on how the small business market will be impacted. As we get closer to 2020, the election will begin to take priority, with most owners in favor a Trump re-election according to BizBuySell polls.
"Following a few record-breaking years in a row, 2019 has introduced interesting new wrinkles to the market," said Bob House, President of BizBuySell and BizQuest. "While uncertainty has slowed some of the momentum from 2018, the core indicators show plenty of opportunity still to be had for both buyers and sellers."
About the BizBuySell Insight Report
The BizBuySell Insight Report is a nationally-recognized economic indicator that tracks the health of the U.S. small business economy. Each quarter, BizBuySell analyzes sales and listing prices of small businesses across the United States based on approximately 50,000 businesses for sale and those recently sold, reporting changes in closed transaction rates, valuation multiples and other economic indicators for the small business transaction market. Closed transactions are reported to BizBuySell.com on a voluntary basis by business brokers nationwide. Each report includes real small business data on over 70 major U.S. markets and across 65 small business industries.
BizBuySell is the largest business for sale marketplace online, receiving over a million visitors a month. Since 1996, BizBuySell has offered tools that make it easy for business owners and brokers to sell a business, and potential buyers to find the business of their dreams. The website also features an extensive franchise directory as well as an easy-to-use business valuation tool.