How Buyers Value Your Business – 10 Key Factors

September 16, 2011

“I am glad that I paid so little attention to good advice; had I abided by it I might have been saved from some of my most valuable mistakes.” Edna St. Vincent Millay


If you are considering selling your business this article will help you evaluate your company as a strategic acquirer might. From that perspective it pays to focus on ten critical areas of value creation. The better your performance is in these areas, the greater the selling price of your business. Below is our list of STRATEGIC VALUE DRIVERS:


1. Customer Diversity – If too much business is concentrated in too few of your customers, it is a negative in the acquisition market. If none of your customers accounts for more than 5% of total sales, that is a real plus. If you find yourself with a customer concentration issue, start focusing on a program to diversify.


2. Management Depth – An acquirer will look at the quality of the management staff and employees as a major determinant in acquisition price. You should make the move of assigning your successor a year in advance of your scheduled departure date. If you have a strong management team in place, you should try to implement employment contracts, non-competes, and some form of phantom stock or equity participation plan to keep these stars involved through the transition.


3. Contractually Recurring Revenue – All revenue dollars are not created equal. Revenue dollars from a contract for annual maintenance, annual licensing fees, a recurring retainer fee, technology license, etc. are much more powerful value drivers than projected sales revenue, time and materials revenue, or other non-recurring revenue streams.


4. Proprietary Products/Technology – This is the area where the valuation rules do not necessarily apply. If strategic acquirers believe that a new technology can be acquired and integrated with their superior distribution channel, they may value your company on a post acquisition performance basis. The marketplace rewards effective innovation and yawns at commodity type products or services. Continue to look for ways to innovate in all facets of your business. If you create a technology advantage in your company, think what that could mean to a much larger company.


5. Penetration of Barriers to Entry – In its simplest form, a large restaurant chain buys a small family owned restaurant to acquire a grand fathered liquor license. Owning hard to get permits, zoning, licenses, or regulatory approvals can be worth a great deal to the right buyer. The government market is extremely difficult to penetrate. If your product or service applies and you can break through the barriers, you become a more attractive acquisition candidate.


6. Effective Use of Professionals – Reviewed or audited financials by a reputable CPA firm cast a positive halo on your business while at the same time reduce the buyer’s perception of risk. A good outside attorney reduces the risk even more. A strong professional team is a great asset in growing your business and in helping you obtain maximum value when you exit.


7. Product/Sales Pipeline – Smaller companies often are more agile and have better R&D efficiency than their high overhead big brothers. In technology, time to market is critical and big companies evaluate the build versus buy question. Small companies that develop new technology are faced with the decision of developing distribution internally or selling to a larger company with developed channels. A win/win scenario is to sell out at a price, in cash and stock at closing, that rewards the smaller company for what they have today, plus an earn out component tied to product revenues with the new company.


8. Product Diversity – A smaller company that has a quality portfolio of products but may lack distribution can become a valuable asset in the hands of the strategic buyer. A narrow product set, however, increases risk and drives down value.


9. Industry Expertise and Exposure – Encourage your staff to publish articles and to speak at industry events. Encourage local and industry reporters to use you as the voice of authority for industry issues. Your company is viewed in a more positive light, gets more business referrals, and an industry buyer will remember you favorably as an acquisition candidate.


10. Written Growth Plan – Capture the opportunities available to your company in a two to five page written growth plan. What additional markets could we pursue? What additional products could we deliver to our same customers? What segments of our current market offer the most growth potential? Where are the best margins in our customer base and product set? Can we expand in those areas? Can we repurpose our products for different markets? Can we license our intellectual property? What about strategic alliances or cross marketing agreements? Documenting these opportunities can add to the purchase price.


When it comes to unlocking the market value of your privately held company, it is not limited to the bottom line. Profitability is hugely important, but the factors above can result in significant premiums over traditional valuation approaches. When you sell Microsoft stock, there is no room for interpretation about the market price. The market for privately held businesses is imprecise and illiquid. There is plenty of room for interpretation and the result for the best interpretation by the marketplace is a big pay off when you decide to sell.


Why Exit Planning is Important

June 20, 2011

“After all is said and done, a hell of a lot more is said than done.” Olmstead’s Law (Jester’s Condescending Dictionary)

At some point in time every business owner will “exit” their business.  In most cases, a small business represents a significant part of family wealth and the owner will be keenly interested in maximizing this value when the business is either sold to an outside 3rd party or key employee, or transferred through an orderly succession to a family member.  Unfortunately, most entrepreneurs are so immersed in the daily demands imposed in operating their company that they have neglected to properly plan for the inevitable transition of their business.   The goal of this article is to briefly review the exit/succession planning process and highlight the importance that these plans have for every business owner.  Whether the goal is to exit the business in six months or ten years, it is critical that a business owner recognize that succession planning is the single most important way to take control of the terms and conditions of exiting their business. Proper exit planning will cut the variability of the business control transfer, and can secure a sound financial future for their family. 

What is Exit Planning?

Exit Planning, also commonly called “business succession planning,” is a method that addresses three critical questions a business owner will face at some point:

  1. What is the timetable the owner seeks to exit the business?
  1. Who will succeed the owner when the business is transitioned or sold?
  1. How much income is needed from the business transition/sale for retirement?

The Exit Plan becomes a written roadmap that is developed in conjunction with legal, accounting, and financial professionals and is designed to maximize the value an owner receives when exiting the business.  Exit planning can be a fairly complex long-term process and take many years to properly carry out. The process can be broken down into simple action items and deliverables and should illustrate how value can be received at a very early stage.  A professional team will bring efficiency to the process by implementing a basic structure of steps to be followed, and can make sure that the experience will be a personally gratifying and financially rewarding endeavor for the owner.

The key steps involved in developing an Exit Plan include:

  1. Establishing Exit Objectives:  Determining the retirement timetable, long-term income needs, and financial requirements necessary to reach them.
  1. Identify the key drivers of business value:  What is the fair market value of the business if it were sold today?
  1. Plan to build & keep business value and reduce risks:  Activities that can be implemented to leverage best practices and maximize the business value.
  1. Transfer of ownership, management, & control:  Determine the anticipated buyer (outside 3rd party, key employee, family member) and develop the structure for ownership transfer that maximizes financial security while minimizing taxes. 
  1. Contingency Planning:  Protect the continuity of business operations should an unexpected event occur.
  1. Wealth management/preservation:  Secure financial independence by developing a financial plan to manage the income from the business sale. 
  1. Successful Exit

While nearly all business owners will recognize the importance of having a formalized exit and succession strategy for their future and the future of their company, very few actually have a plan in place.  What most business owners fail to recognize is that the process is fairly easy to start and can be done at a minimal cost.  While many components of the Exit Planning process will need the ability of a CPA, Attorney, and Wealth Manager, significant value and efficiency could be achieved by implementing this process through a competent Business Intermediary/Brokerage firm. An experienced business intermediary firm will be able to streamline the exit planning process significantly by taking the lead in the planning framework and tapping the necessary resources (accounting, law, wealth management) over time as they are required. This team concept is very cost-effective for the business owner as he is only paying for the specific services at the time of use.  A business owner is now able to put a toe in the water and set up the framework for the exit plan at very little cost. By establishing the current market value of the business with a determination of the owner’s exit timetable and the income needed for retirement, the Business Intermediary will have the essential elements for the foundation of the Exit Plan.

Implementation should be viewed as a process versus a one-time event, and the most successful and rewarding Exit Plans are those that are started years in advance of the business transition.  Whether the planned exit is six months or ten years from now, an owner should be proactive. The longer that a business owner has to carry out the Exit Plan, the greater the opportunities will be to maximize the business value, reduce tax liabilities, avoid key employee turnover, and end emotionally charged family issues.