Build Value in Your Business
By Jack Lyons, CEPA
President of Lyons Solutions, LLC
Let’s face it. One day you’re going to sell your business. Perhaps due to an unforeseen crisis such as illness or death, or to retirement. You might sell it to a family member or to a buyer with the highest bid. Even merge with another company. Is your business poised for a smooth, low risk and profitable transition? Now is always the best time to start driving up the value of your business and making it marketable. Regardless, your business will operate better and be more profitable.
Potential buyers are looking for specific qualities in a business. These qualities, called “value drivers,” will help increase the value of your business. They are characteristics of a business that either reduce the risk of owning a business or create the opportunity for the business to grow significantly. Merger & Acquisition (M&A) buyers are willing to pay a premium price if there is a perception of low risk and high return. So, if a company has enough of those characteristics that buyers deem valuable, they will pay top value in a merger M&A transaction. However, if those Value Drivers are missing, buyers may become disinterested and they could potentially drive the value of your business down.
There are two categories of Value Drivers – Company Specific Value Drivers and Generic Value Drivers.
Company Specific Value Drivers, clearly differentiate your company from competitors, such as, brand name, market position, product/service line, proprietary technology, patented products, exclusive and transferrable contracts, and recurring revenue.
Generic Value Drivers, common to all industries, are just as important as Company Specific Value Drivers and include:
- Complete, stable and motivated management team
- Solid and diversified customer base
- Realistic growth strategy
- Established financial controls
- Operating profits better than industry average
- Strong and improving cash flow
- Operating systems that provide sustainable cash flows
- Facility appearance for a good impression
In the M&A business, it is all about management, management, management. If the M&A buyer deems that the company has a solid management team, they will assume that customer relationships will remain intact, the company’s reputation will be maintained, the company will continue to grow and cash flows will expand. The management team must comprise quality people with a variety of skills who are willing to stay after the company is sold. When an M&A buyer evaluates risk, they review management first to determine if a company has a viable future.
The prudent M&A buyer will offer far less cash and a lower purchase price for a company with a few customers than it would for a similar business with a diverse customer base. And, the purchase price may be contingent on maintaining the business from that small customer base.
Having a cash flow dependent on a few customers is risky. A diversified customer base helps insulate a company from the loss of any single customer. In order to be regarded as truly diversified, a company needs no more than 10 percent of its business with any one customer or chain. Depending on the industry, some buyers would look at having 3 percent of revenue with a single customer as being non-diversified. If you find yourself with a narrow customer base as defined by your particular industry standards, it usually means that you have not reinvested the profits of the business in developing as broad a customer base as possible.
Growth Strategy Plan
M&A buyers pay higher prices for companies that have substantiated growth and have a realistic growth strategy. Potential M&A buyers must be given a documented plan demonstrating that cash flow and revenue will grow post-acquisition. This plan may be based on a combination of industry demographics, new products, marketing plans, M&As etc.
If an M&A buyer is not completely comfortable with a company’s financial statements, they cannot justify current profitability or future profitability projections. This means a renegotiated deal at a reduced value or the sale falls through. M&A buyers undertake a due diligence audit to prove that the balance sheet and income statement of a selling company are accurate. They look for financial controls necessary to effectively manage a business, safeguard its assets, and report profits properly and consistently.
Unless you are making profits comparable to others in your industry, an M&A buyer will stop the sale or will significantly discount the purchase price. Information is readily available to M&A buyers regarding what companies within an industry earn for profits – some industries have slim profits while others have high profits. And, a potential M&A buyer will know your operating profit based on your income statement
Established and documented systems and procedures demonstrate to an M&A buyer that your business will remain profitable after the sale. A reliable operating system is another characteristic of a well-run company. This is how new customers are identified and tracked, and products and services are delivered. Operating procedures cover items such as customer identification, solicitation, and acquisition; customer, employee, and vendor communication; human resource management; product or service development/improvement/quality control; vendor selection and relationship maintenance; employee recruitment, training, and retention; inventory and fixed-asset management and control; and business performance reporting to management
Implementing Value Drivers
A well run business with a motivated management team, solid and diversified customer base, realistic growth strategy, established financial controls, good operating profits, strong cash flow, established operating systems and an appealing facility will attract a higher price when you are ready to sell in an M&A transaction. Here is how you can get started:
- Work on your business not just in it
- Take time away from the day-to-day activities of your business – daily, weekly, or monthly – and regularly work on Value Drivers
- Listen to the experts such as an M&A Advisor, accountant, insurance agent, attorney, business consultant or business owner
- Honestly assess your business
- Build on what your business is doing effectively
- Fix what your business is not doing well
Need help getting your business ready for sale? Call Jack Lyons at (860) 983-5504
Copyright 2010 Jack Lyons. All Rights Reserved.