Most business owners think that the value of their business depends on financial metrics such as sales and profits. However, there are actually eight key drivers of value for your business. So, how can you maximise the sale price of your business?
If you are ever thinking about selling your business, you will want to know what it is worth. Most people in this situation turn to a broker. They will ask you what industry you are in and then, with one finger in the air, say, ‘So in this industry, you are worth two and a half to three times your net profit.’ These industry rules of thumb have been around for a long time, and they do have some relevance. But they are more of a piece of the puzzle than the whole picture.
Take the example of a successful telephone support company that was nothing particularly remarkable about itself. Such service companies tend to be valued at 1.5 to 1.8 times their net profit. This particular phone service provider had a turnover of around 11 million with an estimated 10 per cent net profit. So their profit was around one million. So the company value should have been somewhere around two million dollars.
In fact, however, a controlling interest was sold at a whopping 39 million! That's a lot of money for answering phone calls. What's the difference?
This is where these eight booster criteria come into play, with three of them in particular making the telephone service provider so attractive to a buyer. These eight drivers can also make all the difference in your company.
Your previous revenues and profits and the professionalism of your accounting.
This point is easy to understand: What is your turnover? What is your profit below the line? But it's not just about the size of these numbers, but also about the quality of the reporting. If you want to improve your results, you should not only focus on turnover and profit, but also ensure that these figures are plausible through accounting. Because a buyer will always ask: How do you justify these figures? Which third party has really checked these figures? Investing in an audit is an easy way to increase the financial valuation of your company.
How likely is it that your company will grow in the future and at what rate?
The second factor for the saleability of your company is its growth potential. No matter how proud a business owner is of what has been achieved, a buyer is actually only interested in the future: they are buying your future profit streams. Suddenly, new questions arise. Can the company operate in a different market? Can it sell additional products and services to its existing customer base? Does the business model also work in culturally different markets? The answers to these questions can boost your growth potential.
How dependent is your business on individual employees, customers or suppliers?
Independence from any stakeholder group is a key point in building a saleable business. Firstly, you need to ensure that you are not dependent on a few key accounts. A good spread of customer base is essential. Secondly, the success of the business should not be tied to individual employees. A change must not shake the company. And thirdly, and this point is obviously not always as obvious as the others. You must not be too dependent on a single supplier.
If a potential buyer sees that you are overly dependent on one of these groups (customers, employees, suppliers), it will simply be too risky for them. To improve your chances, focus on diversification from the outset.
To take the example of our telephone service provider: it had around 6,000 customers who, on average, only paid a few hundred euros per month. The company could lose one or two customers every month without having to accept a drop in sales. For a buyer, this means that the source of income is bulletproof.
Is your company a cash drain or a cash cow?
When a buyer wants to buy your company, they are not only looking at the purchase price. They also have to factor in the financing of the working capital. That's the money your company needs to operate on the day you hand over the keys to the buyer. The more cash your company uses, the more problematic it is. The way to improve your valuation is to make sure your business generates more cash than it uses. If you collect receivables, collect them faster. If you can delay your payables a little longer, do that and increase your liquidity. So net working capital should steadily increase, not only an indicator of profit, but of concurrent liquidity.
How do you increase the share and quality of automatic, recurring revenues?
If a buyer buys your company, they want to know what will happen if you, the owner, leave the company. The more recurring revenue you can generate, the higher the valuation. Recurring revenue can be divided into six levels:
Automatic renewal, or more precisely the contractual obligation of your customers to continue buying from you in the future, is the most solid form of recurring revenue. To improve your score on this attribute, you should try to climb the recurring revenue tiers. So, if you have subscription revenue today, think about whether you could convert it to automatic renewal subscriptions, or whether you can negotiate contracts for so-called evergreen subscriptions. Once you have reached your highest tier, you should maximise the proportion of recurring revenue. The ideal would be one hundred percent. Very few companies achieve this goal, but the higher the proportion of recurring revenue and the higher you move up the ladder, the more valuable your company becomes.
In the case of our telephone service provider: the company billed its customers for recurring contracts. This gave the buyer confidence in the future-proofing of the company.
How well does your company differ from its competitors in your industry?
When Warren Buffett talks about the deep and wide moat he seeks as an investor, he means that he prefers to invest in companies that have a differentiated marketing position. The more unique the offering, the greater the ability to control pricing. The higher the profit margin, the more you can invest in sales and marketing – a nice little domino effect that allows you to be different. A marketing strategy must have two characteristics: customer benefit and distinctiveness. So check all your messages to the market. Look at your website and ask yourself: are we different? And is that important to customers? These are the two factors that drive up your company's value.
Acquirers won't buy what they can easily make themselves. And if your key competitive advantage is price, a competitor will quickly poach your price-sensitive customers.
In the case of our telephone service provider, the company invested heavily in technology that ensured that no matter when a customer received a call, it was routed to an available receptionist. At the same time, most of the competitors were mostly technically inexperienced micro-enterprises that often missed calls when there was a sudden rush of callers. Thanks to this unique routing technology, the company was able to handle high customer volumes and route calls efficiently. The buyer of the telephone service provider, a private equity firm, recognised this potential for other companies it owned.
How likely are your customers to buy from you again and recommend you?
It is obvious that your customers' satisfaction is important to a buyer, because when a buyer buys a company, they are buying its future. That's why you should measure customer satisfaction empirically and quantitatively at an early stage and optimise it continuously. Probably the most popular and respected method for doing this is the so-called Net Promoter Score. Essentially, this measures the likelihood of your customers recommending you. The more data you have, the more meaningful the result is. And the higher the value of your company.
How would your company develop if you were unexpectedly unable to work for three months?
The issue of dependency, which was discussed in point 3 above, naturally also applies to the founder, owner and managing director. A potential buyer will want to know how the company will function when you are no longer there. The more dependent the company is on you personally, the worse your selling position. It's not good if all employees rush to the managing owner when they have a question. It's problematic when customers only approach him when they need something or when all suppliers only knock on his door. All too often, business owners are proud of this way of working and boast about the efficiency of the system. It may be efficient, but if the entrepreneur as a central hub fails, not much value remains in the company. Make your company less dependent on you. Document your processes. Empower your employees. Make sure that all the things in your head are printed out so that your employees can read, understand and implement them when you are absent. Start small: Take a holiday and see how your business functions in your absence. When you return, find out where the glitches were and start plugging the holes. And then take another holiday, a slightly longer one. Find out what you need to strengthen before you become redundant in terms of optimising the company value.
If you are interested in this topic, I would be happy to discuss it with you.
Just leave me a message and I will contact you.