The effective sale of a business at maximum value hinges on how prepared an owner is to exit. Entrepreneurs are experts at running their businesses, however few know the levers that impact business value and salability.
The ValueBuilder Systemä outlines eight key drivers of business value: (1) financial performance, (2) growth potential, (3) the Switzerland structure, (4) valuation teeter-totter, (5) hierarchy of recurring revenue, (6) monopoly control, (7) customer satisfaction, and (8) hub and spoke. When a business owner has an above average handle on the preceding eight drivers of value, they are then ready to exit the business for the most money.
Financial performance is your company’s history of producing revenue and profit combined with professional record keeping. Business buyers will use a company’s financials to determine the organizations financial health, cash needs, expected profit, and expense efficiencies. Financial performance is first on the list for a reason. When planning for an exit, it is absolutely imperative that small businesses track revenue and expenses electronically themselves or through a bookkeeper.
Growth potential is the likelihood that the business can grow in the future, what opportunities exist, and how fast the company will grow. Acquirers will analyze past performance and future opportunities to determine the value of a company. If the company’s industry or sales are in decline, the business can become less valuable. Searching, going after, and highlighting opportunities for growth may not determine a company’s value, but can certainly impact whether a business gets an average versus an above-average valuation.
The Switzerland structure is a measure of how dependent your business is on only one employee, customer, or supplier. It is a red flag to buyers if any single employee, customer, or supplier represents 20% or more of a company’s business. If the dominant employee, customer, or supplier goes away, the business’s sales or profits may tank, which will prevent the buyer from paying off the initial investment in the company. Diversification is key to reducing the risk of employee, customer, or supplier loss. When there is little reliance on any one person, company, or vendor, a company’s profits are considered more reliable.
The valuation teeter-totter analyzes cash flow to tell whether the business is a money-maker or money pit. Tracking financial performance is key to knowing whether or not the business is making money. If a small business is not profitable, the company is worthless. The name, goodwill, intellectual property, and etc., have little to no value if the use of those elements does not produce a profit.
The hierarchy of recurring revenue relates to how much revenue automatically repeats on a monthly basis. Technology companies typically sell at higher values because their revenue models are based on recurring monthly revenue. Productize a service, or create monthly memberships to solve for this issue.
Monopoly control is how differentiated a business is from competitors. Customer service is not a differentiator. Even companies that are poor at serving customers feel that they are the best at customer service. A company’s product, people, technology, knowledge, and/or systems must be different to give value a boost.
Customer satisfaction must be quantified and scored. Customer satisfaction the likelihood that customers will repurchase from and refer you. Send a survey to your clients and quantitively measure their satisfaction. In addition, be prepared for a prospective buyer to confidentially interview your clients and assess their satisfaction.
Finally, hub and spoke speaks to how a business would perform if the owner were unexpectedly unable to work for a period of three months. Build a business that can run without you. Businesses that rely on the owner for all sales and operations have little value when the owner is gone. Build systems. Promote an effective leadership team. Hire a general manager who can run the business without you.
Exiting a business is simple. However, preparing to exit at maximum value takes work and time. Begin investing in your business and exit now to reap the rewards in the future.
Jamar Cobb-Dennard is a business broker and merger and acquisitions attorney. For more on how to sell or buy a business, contact Jamar at jamar@indianabusinessadvisors.com
