- 26 Things I Have Learned About Buying and Selling Child Care Businesses Over the Last 26 Years
- #1 Selling a child care business often takes longer than expected.
- #2 Loose lips sink ships. Confidentiality is SOOOOO important.
- #3 Increased regulation decreases the business value and sales price.
- #4 Increased regulation reduces desirability.
- #5 Organized financial records increase the purchase price.
- #6 Facilities built for child care with a good layout increase the price.
- #7 Child care Business Value is determined today not after closing.
- #8 Participating in the Federal Food Program (CACFP) Increases Profits.
- #9 Selling to an employee is highly unlikely.
- #10 Preventative maintenance saves and makes money.
- #11 A buyer will buy your child care business for its’ potential – they just won’t pay you for it.
- #12 Owner financing is often required and increases the purchase price.
- #13 Excess labor costs decrease profits and child care business value.
- #14 Make sure your child care business broker represents your interests.
- #15 The Goal – Sell a Child Care Business for Fair Market Value
- #16 Availability of financing impacts sales price and ability to sell a child care business.
- #17 Employee education level is important when selling a child care business.
- #18 Having an Exit Strategy is the best way to go.
- #19 High enrollment dependent on public funding decreases the business value.
- #20 Policies, Procedures, and Systems create great child care businesses and business value.
- #21 High building rent decreases profits and limits the ability to sell a child care business.
- #22 Unreported Income decreases the business value and limits buyers’ ability to obtain financing.
- #23 Small and Medium-Sized Child Care Businesses – Your Most Likely Buyer
- #24 Large child care chains – regional and national often make the lowest offers for single unit locations.
- #25 Profitability starts with setting profitable tuition rates
- #26 Nothing changes an industry faster than a pandemic.
- To Be Continued…
26 Things I Have Learned About Buying and Selling Child Care Businesses Over the Last 26 Years #
I will celebrate 26 years of helping people build, buy, grow, and sell child care businesses in a few months. It is hard to believe that 26 years have passed. I can still recall starting my business brokerage and consulting company and selling the first child care business. I was speaking with a child care owner the other day, and he said, “I bet you have seen a lot and learned many things about improving, valuing and selling child care businesses in the last 26 years.” Yep, I have learned many things and thought I would share 26 of the most important things I have learned over the years.
#1 Selling a child care business often takes longer than expected. #
Many child care owners erroneously compare selling their child care business to selling a home. Having sold their last home in three or four months, they think the sale of their child care business will be pretty quick. When I started 26 years ago, the average time to sell a business was nine to twelve months. Due to many factors; a lower number of qualified buyers, lack of financing, and increased child care industry regulations, to name a few, the average time to sell a child business is from one to two years. Do some sell faster? Sure, however, on average, you should plan on a one to two-year marketing time frame.
Of course, you can “give” your child care business away pretty quickly. “Looking for a steal – bargain hunting child care business buyers searching for their next deal” can readily be found. Moreover, when they find a “burned-out” child care business owner, anxious to get out quickly no matter what the price, they know, in the end, they will pay far less than the listed price.
Jokingly, I always tell child care business owners to make sure they contact me about selling their business when they are just feeling a little crunchy around the edges. If they wait until they are complete “toast,” their burn-out will lead to a lower sale price and frustration with the average length of time necessary to fully market a child care business and receive the highest price.
So, plan ahead – take your child care business to market early enough to allow plenty of time for a qualified buyer willing to pay fair market value to be identified and a structured, business preserving transfer to take place. And, should you get lucky and your child care business sells quickly – well, that just means you will get to start the next chapter of your life sooner – retirement, moving to the beach, or spending more time with family and friends.
#2 Loose lips sink ships. Confidentiality is SOOOOO important. #
It cannot be overstated the importance of keeping the potential sale of your child care business completely confidential. Even small breaches of confidentiality often result in the loss of employees and enrolled children. Breaches of confidentiality can lead to reducing the purchase price or taking the business off the market and working months or years to rebuild enrollment and business value.
Too often, when thinking about selling their child care business, owners seek advice from individuals that know nothing about selling a child care business and how sensitive parents and staff can be to a possible change in ownership. An attorney, accountant, or real estate agent tells them the best way to sell a business is to let everyone know it is for sale – tell your employees, parents and call your competition and see if they would like to buy your child care business – very bad and ultimately very expensive advice!
I recently spoke with a child care owner who had done just that – let everyone know she was looking to sell. Having heard the same story hundreds of times, I could have finished telling it for her. She shared that she had shown the business more than a dozen times, had not received a single legitimate offer. Several individuals, having no money, wanted her to lease them the child care business and building with no money down – just come in and start running the business and make monthly lease payments for everything. She had lost a few key teachers to her competitors, and her enrollment and business value had declined. Each day she had to spend time addressing her employees’ and parents’ concerns about what potential buyers might take over the business – would they be qualified, what changes would they make, would they lose their job – on and on. She, of course, wished that she would have reached out to someone that specialized in helping people buy and sell child care businesses – confidentially. Fearing her business would continue to decline, she considered closing the child care business and leasing the building to a guy wanting it for another type of business. Once a thriving, profitable child care business, operated for twenty-plus years with a stellar reputation, on the brink of closing the doors. In the end, the total financial loss will probably be several hundred thousand dollars. Yes, loss lips sink ships and child care businesses – confidentiality in selling a child care business cannot be overstated.
All marketing efforts, meetings, business showings, completing the steps of due diligence, notifying licensing of the sale, and desire to change ownership – all the way up to the day of closing must be handled confidentially. Over the years, I have developed processes and procedures to lessen the chance of breaches of confidentiality. It takes a vigilant focus on following proven best practices and constantly reminding everyone involved – seller, buyer, lenders, attorney, accountant – everyone about the need for extreme confidentiality. The continued successful child care business operations and business value depend on it.
#3 Increased regulation decreases the business value and sales price. #
I have worked on child care brokerage and consulting projects in many states across the county. And,with more of course in my home state of North Carolina. Over the last two decades, child care regulations in North Carolina have increased substantially. Regulations, particularly burdensome regulations, increase the cost to do business and decrease profits, decreasing the value and possible sales price.
As a child care operator, you must reevaluate your business operations with the release of each new regulation. Moreover, when necessary, make changes in your business not only to meet mandatory regulations but also to, as much as possible, maintain profits. I often see child care businesses that have made changes to meet new regulations. Still, they have not reevaluated their child care profitability considering the new regulatory impact on business profits. You should always be asking yourself, “how can I meet regulations, license law, provide quality child care – but also increase my business profitability?” There is often more than one way to meet regulatory requirements –with some options being more expensive than others. How can you spend less money and still meet all requirements? Every dollar of profit your preserve not only provides you with more personal Income but also makes your child care business more valuable and easier to sell should you choose to sell your child care business.
#4 Increased regulation reduces desirability. #
Over the years, I have successfully sold child care businesses to individuals already in the industry – like directors, and teachers. Today, when asked if they are interested in buying their own child care business, often the response is – “Are you crazy? It is hard enough to be a director or teacher in child care today. I would never want to deal with what I see the owner going through every day.” Today we have an abundance of buyers (chains and private equity groups) ready to purchase multi-location programs. Still, fewer child care business buyers today than years ago seek to purchase a single location child are program. Fewer buyers increase the time it takes to sell a child care business.
Given each state’s regulatory environment is different, states with high childcare licensing regulations are less appealing to national chain buyers. States with overly burdensome regulations decrease profits and increase overall operational complexity. Therefore, it is common for national chains to prefer expansion in some states over others due to the regulatory environment.
#5 Organized financial records increase the purchase price. #
Most child care owners (like most small business owners) are not accountants. Keeping up with the financial records often “takes a back seat” to many other activities necessary to operate a child care business. Specialized child care software programs can make keeping up with tuition and expenses easier. At a minimum, you should have a monthly Profit and Loss (P&L) Statement either prepared in-house or by an accountant. And, of course, the annual corporate tax return should reflect the information contained in the monthly P&L Statements.
The tax code provides many legal tax deductions that decrease taxes at the corporate and individual levels. Some business owners write off many expenses that have nothing to do with the operation of the child care business. These expenses may reduce the state and federal taxes due; they will also reduce the value or selling price of the child care business. Many buyers, their accountants, lenders, and other advisors are not interested in discussing which expenses were business related and which expenses were just personal expenses run through the child care business. They often will not be willing to add the unnecessary expenses back to reflect a higher cash flow and value in valuing the business.
If you want to receive the highest price possible for your child care business, stop running personal expenses through the business – clean up your financials and have an organized, clear paper trail of all revenue and expenses to support the financial statements, tax returns, and true cash flow and business value.
#6 Facilities built for child care with a good layout increase the price. #
As you might expect, buildings designed and built for child care have the highest value. In addition, newer buildings are often more desirable to child care buyers since new facilities usually have fewer building code issues requiring fewer updates.
Over the years, the student-to-teacher ratio has changed for each age group—child care centers with rooms that are not too small and not too large offer the greatest flexibility. And the ability to move classrooms around to meet ratios and enrollment needs.
Of course, when most folks start in child care, building a new facility is not a financial option. So, remodeling/repurposing a building for child care is necessary. Existing structures – supports, doors, windows, electric, plumbing, and layout must be analyzed with the thought of creating the most usable, highest licensed space possible – your future child care business profits and ability to sell your child care business someday depend on it.
#7 Child care Business Value is determined today not after closing. #
Over the years, I have heard and read articles written by other child care business brokers that state, “the value of your child care business is determined by its value after closing.” Each buyer will indeed assign a different value or price to your child care business based on factors important to them – “beauty is in the eye of the beholder.” However, your child care business’s value and fair market price are based on how you operate it today.
The value of your child care business has nothing – absolutely nothing to do with how a buyer may operate the child care business after purchasing it from you. Homes, land, a car, and child care businesses are all valued as of a specific date (today) based upon current operations, profits, and conditions. Some buyers may not be willing to pay you what your child care business is worth because the way they plan to operate your child care business may not be as profitable.
I have always found it interesting how child care brokers and the buyers they represent try to negotiate a lower value for a child care business based on how the buyer will operate the business after closing – their corporate overhead, their additional management labor cost, and other expenses that will decrease profits. How a buyer operates the child care business after they buy it is on them – not you. Why should you accept a lower price because the buyer cannot operate your business as profitable as you do? Of course, these same buyers are never willing to offer you more money if they see changes they can make that will increase profits.
It is important to know “who does the child care business broker represent” – you or the buyer? Many child care business brokers will tell you they represent you – list your child care business for sale – but then only expose your child care business to a limited number of buyers – usually the larger chain operations and negotiate against you based on the low price child care chain operators want to pay. Make sure your child care business broker is truly working on your behalf and not the buyers.
#8 Participating in the Federal Food Program (CACFP) Increases Profits. #
Over the years, I have heard many reasons and excuses not to participate in the Federal Food Program – I have just never heard a good one. Unless you are in a very high-income demographic area and can keep your center full with all private pay parents, it is crazy not to participate in the Federal Food Program. If you follow the program, complete it, and file on time, the reimbursement will cover food costs, labor costs for food preparation, and some administrative program costs.
Look at it this way; you lose money if you are not on the Federal Food Program. For example, a center spending $5,000 a month on food and another $3,000 (or more) for kitchen staff without the Federal Food Program has $8,000 per month in costs with the Federal Food Program, you would probably have recovered most if not all of the $8,000 cost.
#9 Selling to an employee is highly unlikely. #
Child care owners often hope to sell their child care business to a long-term, loyal employee like a director or lead teacher. Transferring a child care business to someone already familiar with the business, employees, parents, and children has advantages. However, in 26 years of selling child care businesses, I have only sold one center to an existing employee.
Employees often do not have the financial resources to purchase the child care business. Unless the child care owner is willing to do extensive seller financing and make other concessions, a transaction is often not possible. Now I hear you, “yes, many child care employees dream of owning a child care business.” However, only two percent of folks that start out trying to buy a child care business (actually any kind of business) end up buying a business – pretty slim numbers. Those child care employees who venture out on their own usually try to purchase a small center or open a new center due to limited financial resources.
Another important thing to consider, the employer-employee relationship is often damaged when an employee is unsuccessful in purchasing the child care business where employed. I’ve known several child care owners that lost a great, long-term employee when a possible business sale did not work out. Before approaching an employee to buy your child care business, you should give it considerable thought – the stats are not in your favor.
#10 Preventative maintenance saves and makes money. #
Skimping on interior and exterior preventative maintenance will end up costing you more money in the long run. Having a set schedule to take care of all the small and large preventative maintenance items in a childcare facility is a must. Setup a simple “Preventative Maintenance To-Do List” broken down Quarterly and Monthly will ensure that your childcare facility always looks good and helps to decrease large repair bills from deferred maintenance problems.
#11 A buyer will buy your child care business for its’ potential – they just won’t pay you for it. #
Child care business owners often list all the changes a buyer could make to increase business profits. It is true that some child care buyers will buy your child care business for its potential – but they will not pay you for potential. The realization of potential takes work – hard work and often additional capital expenditure investments in the child care business. A buyer is not going to pay you for this potential that they must then make additional capital investments and hard work to achieve. If you think your child care business could increase potential – profits by adding an after school program or summer camp, you need to add the program if you expect to be paid for it. If you think your profits could be higher through better labor cost management, you need to implement measures to decrease your labor costs if you want a buyer to pay you a higher price because your labor costs are within normal operating ratios. Whatever the “potential item” might be, you need to have implemented it, and your financial records should reflect the savings or increase profits if you want the sales prices to reflect your child care businesses’ “true potential.”
#12 Owner financing is often required and increases the purchase price. #
About 99% of the child care owners I have represented in the last 26 years would have preferred getting all of their money at closing. Outside of selling to a large regional or national child care chain, 90% of all business transfers will include selling financing. This is for three main reasons.
- Seller financing results in a higher sales price. Everyone has heard – You can have your price or terms – just not both. Business sales that involve seller financing are sold for more money.
- It is often a “red flag” to business buyers and lenders if the child care business owner is not willing to offer a reasonable amount of owner financing. The concern is that the seller knows something about the child care business, market, state regulations or other changes on the horizon that may negatively impact the child care busines so, the seller wants to get all of their money at closing. Demanding all cash at closing will limit the number of buyers, their ability to obtain financing and the purchase price.
- Without some owner financing, buyers often cannot obtain a loan to purchase the business. So how much owner financing? Under the new Small Business Administration – SBA guaranteed loans would normally require 10% or so of the total purchase price to be held in a seller finance note. If the buyer were obtaining a conventional bank loan (not guaranteed by the SBA), a higher down payment would be required. Usually in the 20 to 30% range. The seller often must be willing to provide a higher amount of financing for a buyer to obtain a conventional loan.
#13 Excess labor costs decrease profits and child care business value. #
The cost of labor – salaries, benefits, and associated employment taxes for teachers, staff, and management are often the largest expenditure in a child care business. Controlling labor costs is a must in child care no matter how small or large your child care business. Although there are many things to consider when analyzing labor within a child care business, most often the greatest labor cost savings are achieved through better employee scheduling particularly for employees involved in the classroom – lead teacher, assistant teachers, and floaters. Common things I see in child care businesses that result in higher labor costs:
- Having too many teachers in a classroom – know your state-required teacher-to-student ratios for each age group and make sure you meet the ratio in each classroom. If ratios indicate one lead teacher and one assistant teacher, having two lead teachers or one lead teacher and two assistant teachers will be above ratios and result in excess labor costs.
- Using too many part-time employees. Utilizing more full-time employees and fewer part-time employees often results in better-managed labor costs – particularly for teaching staff. In child care, part-time employees are better utilized (if truly needed) in positions like floater, cook, driver, or office administrative roles. Instead of having two or three part-time employees, can you combine roles or job descriptions and have one full-time employee complete the same job functions?
Small changes in labor-management can have large impacts on decreasing labor costs, increase child care business profits and increase overall child care business value.
#14 Make sure your child care business broker represents your interests. #
It is important to know “whom does the child care business broker represent” – you or the buyer?
The “laws of agency” – which party the broker represents vary for each state. Some states allow the broker to represent only one party – the seller or buyer. Other states allow dual agency – which allows the broker to represent both the seller and the buyer. To add to the confusion, other states allow the broker not to represent either the buyer or seller – often referred to as – transaction brokerage – they represent the deal not the parties.
Selling a childcare business is a very complex process. To obtain the best price and transaction terms, it is important that the business broker you hire specializes in selling child care businesses and only represents your interests.
#15 The Goal – Sell a Child Care Business for Fair Market Value #
In selling a child care business, the goal is to obtain fair market value for the business and the real estate (building and land) if part of the transaction. The fair market value of a business or real estate is defined as the price a willing and knowledgeable buyer would pay to a seller giving the following conditions:
- Both parties – buyer and seller are looking out for their interests and have a reasonable level of knowledge about the value of the child care business and real estate. A seller wants the highest price, and a buyer wants the lowest price. For example, if a child care owner sells the business to a family member for a very low price, the price would not be considered fair market value.
- The buyer nor the seller is under any undue pressure to complete the transaction. The foreclosure sale of a child care business is not considered “fair market value” as the seller is often under great duress and it is an involuntary sale.
- The child care business is offered on the open market (confidentiality of course) for a reasonable amount of time.
To meet these three simple conditions for “fair market value” in the sale of a child care business, the seller must have a reasonable level of knowledge about the value of their child care business, and the value of the real estate if included in the transaction. Most child care business owners have limited knowledge of the value of their child care business nor associated real estate. Therefore, having an experienced child care business broker or business appraiser help in determining the fair market value is essential.
Second, the child care business owner must be voluntarily selling the business – it is not a forced sale due to foreclosure, forced liquidation, or forced sale due to a divorce, partnership dissolution, or other involuntary transfer.
Moreover, to obtain the fair market value for a child care business, the business must be marketed openly (confidentially of course) for a reasonable amount of time. Too many times, a child care business broker will only market the child care business to a small number of buyers – often a handful of regional or national chain buyers. Little to no effort is made to locate an individual, private buyer. A child care business broker should use a multi-facet approach to marketing your child care business – internet marketing, print marketing, personal contact with buyers, exposure to both local, regional and national childcare operators looking to expand, and private individuals. Without extensive marketing (confidentially of course) all possible buyers will not be identified – meaning fewer offers and often lower offers. Be sure (before you sign a listing agreement) that the broker you are hiring will expose your child care business to as many buyers as possible – both individual private buyers and corporate buyers – not just a handful of corporate chain buyers they have sold centers to in the past.
#16 Availability of financing impacts sales price and ability to sell a child care business. #
The availability of financing or lack of has a big impact on the ability to sell a child care business and the sales price. Without financing, it is hard to sell a child care business – even well operated, profitable businesses. Many things affect the availability of financing. However, the economy has the most impact – positive or negative on business financing. During good economic times, the ability to obtain financing to purchase a business is easier. Conversely, during an economic downturn or recession, the ability to find financing can be almost impossible. Without financing, there are fewer buyers seeking to purchase a business. The fewer the number of business buyers the lower the sales price for a business.
During the “Great Recession,” the availability of financing to purchase a business was almost nonexistent. Yes, SBA loans (loans guaranteed by the Small Business Administration – government-backed) were still being made but only to the most qualified buyers for businesses that had not been negatively impacted by the economic downturn. Conventional lending (loans made by banks held in-house and serviced by the bank) were nowhere to be found especially during the early years of the “Great Recession.” Banks often required a 30 to 50 percent down payment from the buyer to get a conventional loan to buy a business.
The takeaway, the best time to sell a child care business is during good economic times. Child care businesses normally see full enrollments and profits during good economic times. Therefore, the value of the child care business will be higher. Moreover, during a good economy, there is more readily available financing with favorable terms, and more folks are looking to buy a business.
#17 Employee education level is important when selling a child care business. #
Most states have education requirements for child care teachers and assistant teachers and often management – directors. Moreover, often staff education is tied to licensure, rating, and public pay tuition funding. Maintaining an acceptable level of employee education is important. Many corporate and individual buyers want to acquire child care programs with employees that meet all education requirements. In many states, the buyer will operate under a temporary license for a period following the business transfer. It is during the temporary license period that the buyer must prepare for the program evaluation to obtain a permanent license. Buyers are reluctant to purchase child care businesses that do not have employees with required education levels. Buyers do not want to replace employees after closing and given the lack of qualified teachers in many areas buyers fear not being able to find qualified teachers quickly.
Child care programs with qualified teachers are more valuable and appeal to more potential buyers.
#18 Having an Exit Strategy is the best way to go. #
Child care business owners (actually business owners of all types of businesses) agonize about possibly selling their business for about three years before moving forward with listing and marketing the business. On a good day, they think – things are going great, I can hang in here a few more years. Moreover, on the not-so-good days, business owners often wished they had already started the sales process.
Given the number of years a child care business owner is thinking about selling, I have always been surprised at the lack of exit planning in which most engage. During the years of contemplating selling, most child care business owners do little if any research or planning in regards to the value of their business, tax consequences of the sale, the value of their real estate (if owned), what is involved in selling a child care business, or planning what they will do after the sale.
It is never too early to start planning your exit from your child care business. In fact, before starting or buying a child care business, you should consider what options will be available for exiting the business in the future. Will you pass it on to a family member? Who will be the most likely buyer? What price would you hope to sell the child care business someday?
Exit Strategy Planning helps you to prepare not only your child care business for sale but also prepare you for life after selling your child care business. A well-planned exit can have a very positive impact on selecting the best time to take your child care business to market, receiving the highest price possible, and providing for a smooth transaction. We have found that an excellent child care business Exit Strategy can be developed and implemented over a two to three-year time frame allowing a child care business owner to capitalize on their years of ownership and hard work.
#19 High enrollment dependent on public funding decreases the business value. #
To be clear, my statement has nothing to do with the many reasons why all children should have access to quality child care and early education. The statement is based on a common characteristic of any type of business and its impact on value – customer concentration.
Customer concentration refers to what percentage of the business revenues are attributed to one customer or a group of customers. For instance, a manufacturing business where one customer accounts for say 25% of gross revenues is considered risky. Why might you be asking? Well, let’s say for some reason the customer is lost, well there goes 25% of the business.
A high customer concentration – child care enrollment dependent on public funding increases business risk. Increased business risk results in a lower business value/sales price and the ability to sell a business.
Public funding for child care is impacted by many things:
- Federal and state budgets and budget cuts
- In some states, availability of funds for certain age groups.
- In some cases, public funding tuition rates are not comparable to private pay rates.
- Many states have tied the continuation of the receipt of public funding to child care licensing compliance, program evaluations, and program infractions.
In recent years, many of the regional and national child care chain operators have changed their acquisition criteria to only consider those child care businesses with a high percentage of private pay enrollment. Some will still purchase child care businesses with around 30% public pay enrollment – often those centers meeting the 25% minimum to participate in the CACFP (Federal Food Program).
Therefore, you should reevaluate your child care business and level of public and private pay enrollment – your customer concentration. Can you over time decrease your business risk by limiting your public pay customer concentration? If you have a high percentage of public pay enrollment, it does not mean that it will be impossible to sell your child care business. It will take longer and the ultimate sale price is often less.
UPDATE – Due to the impact of COVID on the child care industry, the economy, and proposed increased public funding for child care, we may see individual buyers and national child care operators pivot – and begin to maintain higher levels of public funded enrollment – STAY TUNED!
#20 Policies, Procedures, and Systems create great child care businesses and business value. #
Child care owners often think they need to have more money to spend on their program, to buy this or that to make it more valuable. Sure having adequate funds to develop and maintain programs is important. However, one important way to improve the value of your child care business – without spending a dime – is to develop policies, procedures, and systems that are followed every day.
Policies, procedures, and systems provide for consistency of operations. Consistency provides for steady enrollment and employee retention – both of which lead to higher revenues and profits.
Most centers have a Parent Handbook and Employee Handbook outlining general information. These simple handbooks are a good start but should not be the only written rules and guidelines. Every aspect of your child care business operation should be documented – who, what, when, where, and why things are to be completed in a prescribed manner. Moreover, you should have a set system to accomplish each task, i.e., open procedures, closing procedures, handling parent conferences, collection procedures, etc.
Child care businesses with good policies, procedures, and systems are often better operated, are more profitable, often have better reputations in the community – due to being perceived as well organized and operated, and often receive a higher valuation and sales price.
#21 High building rent decreases profits and limits the ability to sell a child care business. #
Second, to wages, building rent or mortgage is normally the next largest expense in operating a child care business. All too often child care business owners lease or buy a building or space with a rental rate or mortgage payment that exceeds normal benchmark operating guidelines. For instance, the monthly rent or mortgage should not exceed 15% of gross revenues. The closer to 10% of gross revenues the better.
I could name several child care buildings – nice facilities built for child care – but the monthly rent or mortgage will likely always be above normal benchmark operating guidelines. Over the years, I have received a call from not the first child care operator to occupy the building, but the second, third – and yes, the fifth or sixth child care operator in the building struggling to make it because the rent or mortgage is too high. Moreover, I have had the same discussion with landlords and real estate developers – numerous times – about market rental rates for child care versus office or retail space. Rarely will a child care business be able to pay the same square footage rental rate as charged for class A office or retail space.
Before signing a lease agreement for the building, space (or buying a building) in which to operate your child care business, make sure that the monthly rent or mortgage will be less than 15% of conservatively projected gross revenues. Most commercial leases contain a corporate and personal guarantee. Meaning, the landlord can pursue payment of monies agreed to in the lease from your corporation and you personally should you go out of business and default on the lease. When you cannot make the numbers work, you will most likely not be able to just close the child care business and walk away without fulfilling the lease terms and required rent payments.
Child care businesses encumbered with high building rental rates are very difficult to sell. Do inexperienced child care buyers with overly optimistic goals take over these child care businesses and leases? Sure – but it is far more common for one of the buyers’ advisors – accountant, attorney, partner, lender, or Uncle Charlie tell the buyer the child care business cannot support the monthly rent and they move on to a better opportunity where the numbers work.
#22 Unreported Income decreases the business value and limits buyers’ ability to obtain financing. #
Although not as common as 26 years ago when I started my business brokerage practice, some child care owners today, still tell me that their business tax return does not include all of the tuition income collected. Well, unreported income is not something that I as a business broker have any interest in representing. In the eyes of the “law” unreported income is considered tax fraud and when a broker represents to a potential business buyer there is unreported income – well that’s referred to as perpetuation of fraud. I love my child care business owner clients – just not enough to go to jail for them. So, I only represent the financial information submitted on the business federal tax return.
Three important things to know about the effects of unreported income in a child care business:
- Unreported income decreases the business value because the gross revenue reported is less than generated by the business. Unreported income causes all expense categories to appear higher when compared as a percentage of gross revenues.
- Buyers are not impressed when a child care business owner shares that they have not been reporting all income. From the buyer’s perspective, he is often thinking – if the seller is willing to take a high risk and provide false information to “Uncle Sam” the federal government – the seller might also provide me with “false” information to get me to buy the business. It has been my experience that business buyers and sellers must be able to establish a level of trust or the deal never makes it to closing. Telling a buyer about unreported income does not build trust.
- Buyers and their advisors and lenders rely on the financial information to help the buyer determine the value of the business, make an offer and obtain financing. Professional advisors have substantial liability for the consulting services and recommendations they provide. Attorneys, accountants, and other professional advisors are quick to tell the business buyer to pass if the business numbers do not look right. Moreover, of course, if the numbers do not look right or work…the buyer will not be able to obtain a loan to purchase the child care business.
My advice is always – run the business reporting all income and work to bring all expenses into normal benchmark ranges. Once you have three years of accurate tax returns, you will be able to get a higher value for your business, and the buyer will have a much better chance of getting a loan.
#23 Small and Medium-Sized Child Care Businesses – Your Most Likely Buyer #
I have been selling child care businesses since 1995 and speaking with hundreds of child care owners and potential buyers each year. In my discussions with child care owners, I often find that they have been planning for years to sell their child care business to a buyer or “type of buyer” that will most likely have little to no interest in their child care business.
Owners of small and medium-sized child care businesses may be pinning their hopes on selling to a large regional or national child care chain for an anticipated equally large price. Unfortunately, things rarely work out that way. Large regional and national child care chains are only interested in buying large child care centers. Many of these buyers note a minimum license capacity of 125 or even higher as their target acquisition. Moreover, in states with increased licensing regulations, some chain buyers will only consider very large child care businesses. They just cannot make the financial numbers work in small or even medium-sized centers.
Small and medium-sized child care businesses are most often purchased by someone already working in child care or early education – maybe as a teacher, director, assistant director or elementary school teacher. Alternatively, the owner of another child care business either within the market area or a distance that does not require too long of a commute. Moreover, the ability for us to confidentiality market child care businesses on the internet sometimes allows for the sale of the child care business to someone living hours away or in another state but willing to move for the right opportunity.
Unlike the large regional and national child care chains, these individual buyers often have limited financial resources to purchase a child care business. Ninety-plus percent will need to obtain either a substantial amount of seller financing or a bank loan or both to buy a child care business. Therefore, the child care business must have good financial records showing enough profitability or the buyer will have difficulty convincing a bank to lend the funds for the purchase.
Owners of small and medium-sized child care businesses must:
- operate the business with high enrollments,
- charge market rates,
- keep very tight controls on labor costs,
- eliminate all unnecessary expenses,
- keep accurate; supportable financial records, and
- create enough profit to allow the buyer to obtain financing
In summary, the buyers of small to medium-sized child care businesses are individual buyers not regional or national child care chains. Individual buyers have limited funds and can only obtain a loan to purchase a child care business that is profitable. As the owner of a small to medium-sized child care business, you must understand the most likely buyer or “buyer type” for your child care business and operate your business in a manner that will provide the profitability for a buyer to purchase your business someday.
#24 Large child care chains – regional and national often make the lowest offers for single unit locations. #
Why? A large child care operator is often only looking for a great location, high enrollment, and cash flow – not program-specific features. In fact, child care chain operations must have the same proven systems and programs implemented in each location to maintain consistency and profits.
Many individual private child care operators think that a child care chain will be interested in their child care business because of their special programs, features or curriculum – usually not so. The child care chain buyer must implement their standard program after the purchase. Therefore, special program features you have implemented in your child care business will often have little or no value to the child care chain buyer. However, your special program features may be viewed very favorably by the private individual buyer. Moreover, unlike the experienced child care chain buyer, the private individual buyer will most likely need your experience and expertise during the early days following the purchase to ensure a smooth transition. Individual buyers almost always pay more than child care chain buyers for single-unit locations.
#25 Profitability starts with setting profitable tuition rates #
I often find that a child care business is not profitable because the tuition rates are too low. It is not uncommon to find tuition rates hundreds of dollars less each month (across all age groups) than area market rates.
The owner has made the decision not to charge higher rates to help their parents afford child care. Now, don’t misunderstand what I am going to say next and accuse me of being heartless. I understand what a financial burden the cost of child care can be for the average family. However, charging tuition rates that are too low results in two and sometimes three undesirable things;
- Low or no profits which puts the child care business and owner in a constant financial struggle.
- Low profits lead to limited business value.
- And, number three, low tuition rates often result in the inability to sell a child care business. NO buyer wants to be the “bad guy” that buys a child care business and substantially increases tuition rates – which causes lost enrollment and a poor reputation in the community.
As an owner, you should reevaluate the tuition rate you charge for each age group/classroom. (If you need help calculating your breakeven point and calculating tuition for profit, please give me a call. I am happy to help you.) And, as an owner, make sure you fully understand the impact of low tuition rates on your child care business’s financial health, program quality, and the compounding effect of low business value and the diminished ability to sell your child care business.
#26 Nothing changes an industry faster than a pandemic. #
As I write this, it is the fall of 2021. We have been dealing with COVID-19 for almost two years. COVID has impacted every industry and every area of our daily lives. I can list many things that have changed in the child care industry due to COVID. But, I think it is too soon to draw too many conclusions about the long-term impact on the child are industry. As we say in the south, “we are not out of the woods yet.” The new variants of COVID outbreaks and cases continue. Experienced child care industry folks, including myself, have fluctuating opinions about the long-term changes COVID will produce in the child care industry. Although our opinions and predictions may differ, we all agree that COVID will forever change the child care industry.
Circle back here in a couple of months as I will be detailing the impact of COVID on the child care industry short-term and long-term. I’ll share my thoughts on COVID’s impact on the financial operations of child care businesses, business value, buying and selling, and changes owners should consider in planning their exit strategy.