A business owner will turn 65 every 60 seconds for the next 15 years.
More than 250,000 businesses with revenue between $5 million and $100 million in revenue
will attempt an ownership change by 2030. So, it should not be a surprise that many business owners are starting to give serious thought to the process of selling their business.
As they face the reality of needing an exit strategy, several questions emerge:
- What do buyers look for in a potential acquisition?
- How do I position my business to maximize value when the time comes to transition out?
- In my industry, businesses sell for a multiple of X, so is that what I can expect?
- Why do some businesses sell quickly, for top dollar, and others sit on the market for months or even years?
Our experience has shown that a buyer’s interest in purchasing a business, and paying a premium for it, is centered on the perception of risk and reward. If the business has characteristics that reduce risk and enhance future return, more buyers will be attracted and the likelihood that buyers will pay top dollar increases.
What this means in practice
What are those characteristics? Let’s look at an example. Company A and Company B share the characteristics shown in table 1.
At your first glance at this quantitative data, you’d likely conclude the two companies have similar risks and potential returns, and thus the same value. However, while they share identical quantitative characteristics, look deeper at each company’s qualitative characteristics, shown in table 2.
Given this new information, do you still think the two companies would have the same value? Experience has shown us time and time again that buyers are willing to pay far more for Company A because the risks are lower and the potential future returns are higher.
Focusing on the quantitative
All too often, business owners believe the most effective way to build business value is to focus only on the quantitative: grow sales, cut costs, make acquisitions or some combination of the three. So, what does focusing on the quantitative look like and what issues does this create?
If it’s growing revenue, how quickly can you accomplish that? Will you have to cut prices? Will competitors match? Can your current infrastructure support the growth? Will you expand territory? Can you penetrate new markets without significant investments?
If it’s cutting costs, where do you cut? Cheaper materials? Lower labor costs? Will this damage the company brand? Harm on-time delivery? If you cut overhead, will it mean staff cuts? Will that damage morale, cause unwanted employee turnover, or reduce the strength and depth of your management?
If it’s acquisition, can you successfully complete one? Can your company absorb it? Weak systems and processes can ruin an acquisition. Can the cultures mesh? A culture clash can drive out good employees. Can efficiencies be captured? Can customers be retained?
Qualitative: real value growth comes from going beyond numbers.
So, what are the characteristics that reduce company-specific risk and increase quality, attract more buyers and bring greater value?
We find there are seven value drivers that should be the focus of every business owner.
A stable, motivated?management team.
This is a primary requirement of most sophisticated buyers. The first question we hear when working with business buyers is “who runs the business and are they willing to stay?” If a business is totally dependent on the owner, potential buyers lower the price or simply walk away.
Reliable business systems and processes.
Good operating systems and consistent processes enhance value. They need to be documented in writing to demonstrate to potential buyers that the business can be maintained profitably, without owner involvement, after the sale.
Diversified customer base.
To obtain top dollar, future revenue should not be concentrated with just a few customers. Ideally, no single customer should account for more than 10 percent of sales.
Effective financial controls.
This is not only good business hygiene, but proves to a buyer that you are serious about a critical element of business management. Good controls safeguard assets and help support your claim about profitability.
Buyers don’t pay premium prices for what you’ve already reaped from the business. They pay premium prices for what they will reap in the future. The growth strategy is your “story” to potential buyers. It should align with your history and should be in written form.
If you prove your point about growth potential, a reasonable buyer will not pay a premium if the business cannot absorb growth due to limitations of internal systems and process. They won’t pay a premium for growth potential if your business can’t produce it.
Good and improving?cash flow.
A record of a growing cash flow is the key to growing business value. A business growing top line revenue by 10 percent annually, but only growing cash flow by 3 percent will attract far few buyers and a lower price than the same business with top line growth of 3 percent and cash flow growth of 10 percent.
The Next Step is Yours
The saying goes, “The best time to plant a tree is 10 years ago. The second-best time is today.”
As a business owner, make sure you are focusing on these qualitative, seemingly intangible characteristics now. These are the traits that buyers look for and if you strengthen them, there is a greater likelihood you will sell at a premium whether that’s next year or 20 years from now.
Tom Siders is a partner with L. Harris Partners: 952.944.3303;