Planning gives business owners time to build their advisor team, get educated about the sale process, and make changes in the company that will eliminate risks and increase the value of their business.
There isn’t much debate about the fact that business owners who started preparing for the sale of their company several years prior to the actual sale fare much better than those owners who didn’t spend the time preparing.
This article will focus on increasing the value of a business prior to selling.
Step 1: Determine the Current Value of the Business
The logical first step in increasing the value of a business is to establish a baseline of what the business is currently worth. Waypoint Private Capital can help business owners
determine the current value of their business, and we will often do an informal valuation for free. Alternatively, the owner can pay a valuation firm to provide a more formal valuation report. Either way, the important thing is to determine the current valuation for the business.
Step 2: Determine the Adequacy of the Valuation to Meet Future Needs
A good second step for a business owner is to meet with their financial advisor to review how the sale of the business will impact their future plans. If the current valuation of the business is inadequate to allow the owner to live the lifestyle they want after the sale, they need to determine how much they need to increase the value of the business to live the lifestyle they want.
Alternatively, if the business valuation is adequate to meet their future needs, they might consider how increasing the value of the business would allow them to support charitable giving or other projects or endeavors they didn’t previously think were possible.
Step 3: Increase the Value of the Business
When the initial analysis is complete, it is time to start working on the business. There are numerous strategies a business owner can employ to increase the value of their business. These techniques are commonly used by private equity firms and experienced buyers after they purchase a company. But these techniques aren’t exclusive to private equity or other buyers, they can just as easily be applied by business owners prior to selling their business. The most common methods for increasing value are as follows:
Build an Effective Sales Team
Sales are the engines that drive successful businesses, but we have found that most middle market companies have sales teams that are too small and too reliant on the CEO or business owner. Building a sales team takes a commitment of time and money, but can significantly increase the profitability and valuation of a business.
Reduce Customer Concentration
Many smaller businesses derive more than 25% of their revenue from one customer, or more than 50% from their top five customers. While the current owner of the business might be comfortable with this customer concentration risk, most buyers will not be comfortable. The risk of losing one or two significant customers will usually be seen as too big of a risk for a buyer to take, and they will decline to pursue the purchase of the company. If they do choose to move forward, they will significantly decrease the value they are willing to pay for the business.
Top remedy customer concentration issues, management shouldn’t aim to decrease the revenue they are generating from their top customers, but should direct their sales force into new markets or geographies to grow the customer base and dilute the customer concentration. Diversifying the customer base will decrease the risk at the company and increase its valuation.
Develop Recurring Revenue
Businesses with recurring revenue are more valuable than those rely completely on new sales each year. Many public companies, especially those in the software industry, changed their business models to a recurring revenue model. While it may be obvious how to do that for a software company (e.g. monthly or annual subscriptions rather than one-time sales of software licenses), for other businesses it may take a little more creativity. For instance, a manufacturing company might consider selling services or maintenance contracts to support their products. Automotive companies did this by offering infotainment, mapping, location, and other services as an add-on to each vehicle that requires a monthly or annual subscription to access the service. Recurring revenue can add up fast and significantly increase the value of a business. No matter how a company chooses to do this, it is important to account for it separately so the recurring portion of the revenue can easily be identified in the income statement.
Build a Strong Management Team
Potential buyers want to acquire companies with strong management teams in place that can continue running the business after the sale. Smart business owners will build and train a high-quality leadership team that is capable of managing and profitably growing the business. Part of the goal in building the team should be to reduce the dependence on the owner. The best possible scenario is if the team is capable of running the business without the owner after the sale. Even if the owner structures a sale in which they stay on to shepherd the business after the sale, a strong team makes the company more attractive and increases the value of the business.
Streamline Processes & Use Technology Effectively
Businesses that embrace technology and innovation are rewarded with higher valuations. Business owners should encourage innovation, stay current with the latest technological advancements in their industry, and implement technologies that improve business processes, enhance customer experiences, and produce a competitive edge.
Get the Accounting Right
Accurate accounting records are essential for determining the value of a business. Buyers want to see timely and accurate financial statements that they can count on to evaluate the business. Business owners who haven’t previously placed much value on having a good accounting staff and a strong controller or CFO need to quickly shore up that area of their business prior to starting the sale process. A strong finance and accounting team and clean financial statements will increase the value of the business.
Reduce Costs and Improve Efficiency
Finally, as most businesses age and change, they tend to lose some of their operating efficiency and allow costs to build up. Business owners should take a critical eye to their businesses and identify areas where they can cut costs without sacrificing quality, or improve the efficiency or output throughout each area of the businesses. Every dollar that drops to the bottom line will increase the valuation by many multiples of that dollar.
To maximize the value of their business at the time of its sale, business owners should focus on increasing the value of their company long before they plan to sell it. We have outlined a number of strategies for increasing value that can be applied to most businesses if the owner starts planning for the sale a few years prior to the sale. The team at Waypoint can help business owners analyze their business to identify opportunities to increase the value of their business and find the resources to help them implement the necessary changes.
About Waypoint Private Capital
Waypoint Private Capital is an investment banking firm that educates and advises middle-market, privately held companies through critical stages of their business' life cycle. Waypoint helps business owners and entrepreneurs sell companies, buy companies, raise equity and debt capital for growth and recapitalization, and plan for a successful exit from their business.
To learn more visit waypointprivatecapital.com or call us at 608.515.3354 or 918.633.2647 and speak with a Waypoint Private Capital expert.
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