Reprinted with permission from Inc.com.
When you shop for a home, there are two types of properties: The “showcase”–renovated and staged to bring maximum bids for maximum dollar. And the “fixer”–in need of TLC and priced at a discount because the next owner will need to pour time and money into the project.
The same goes for your business. If you step back and take a hard-eyed survey of your business, would you be able to market it as a showcase or a fixer?
Too often, I’ve seen a founder bear the birthing and growing pains of a new business, only to have the baby snatched away by new management or impatient money during the always-longer-than-you-think march to profitability and growth. As an entrepreneur that should make your skin crawl. If anyone’s going to pocket the big profit, it should be you, right? And that boils down to auditing your company to find the places where some renovation today can increase the value of your business tomorrow.
Boost your take-out multiple.
Most established businesses eventually sell at some multiple of a profitability measure, such as EBITDA (Earnings Before interest, Taxes, Depreciation and Amortization). Typically, that multiple might be in the range of 5x-10x. (Business Valuation Resourcescan be a helpful starting point for determining the valuation of comparable firms, and what metrics matter most for any particular business.)
A number of quantitative factors will drive your multiple: top-line growth, bottom-line profitability, financial predictability, and industry sector. But there are also less tangible factors such as the quality of your product, the quality of your team, and the “hotness” of your sector and your company.
For example, I was on the board of directors of SuccessFactors, a cloud-based HR solutions provider that is similar in some respects to Salesforce.com, except that its CEO was an energetic Dutchman rather than an outspoken San Franciscan. At the end of last year, SuccessFactors was acquired by SAP for the astounding valuation of10.4x forward revenue— that’s right, not 10.4 times profits, 10.4 times revenue. That was $3.4 billion.
Success Factors was a great high-growth company, but it was also at the right place at the right time. SuccessFactors delivered a cloud-based HR enterprise solution just at the dawn of cloud-based business management–a powerful shift that means hotness and high multiples for companies like Salesforce.com and SuccessFactors. And for SAP, the largest enterprise software company in the world, it was strategically vital to make the shift to the cloud. SuccessFactors filled that need and its acquisition meant the company wouldn’t become a strategic asset for one of SAP’s competitors.
Maybe you won’t have the tailwind of being a takeover target that serves an acquirer’s long-term strategic plan. But you know that there are many places in your operational and financial plan that you can tighten up. Do it now. Both quantitative (baseline profitability) and qualitative (new paint). Make it an exciting business full of promise for you, employees, and customers–it will rub off on investors. If you can move the all-important multiplier from 5x to 6x, you just increased the value of your business by 20%.
Get a 360-degree business review.
Reach out to your support systems–accountants, lawyers, suppliers–and ask them where they see your company’s vulnerabilities. Basically you want to do your own due diligence before an acquirer does, and address any gaping holes before you put your company on the market. It’s your business equivalent of a home inspection.
Lower the acquirer’s risk.
If you are selling a personal services business you know it carries a lot more risk for the acquirer than a manufacturing or trading business. For instance, if your customers count on you to deliver the services (you’re a consultant or a psychiatrist), the revenue is at risk when you leave. A hardware store typically will sell at a higher multiple than a tax prep business simply because it is easier to maintain its future value through a change in ownership. The hardware store is an asset to sell. The tax prep business is a book of business based on providing a personal service. From the acquirer’s vantage point there’s the risk that when you cash out, your clients might leave as well.
There’s no way you can guarantee your clients will stay, but you can increase your stickiness factor. Long before you think about selling a personal service business ask your most valued customers to give you a detailed review of what they value most about your business. And what they wish you would improve. Don’t assume you know. Ask. Then devote your resources to upping the delivery on every element your clients most value. Happy and committed clients are going to be a valuable negotiating tool with a potential buyer. And stay flexible: Offering to stay on in some capacity for a year or two after you sell can boost your firm’s sale price.
The content contained in this blog post is intended for general informational purposes only and is not meant to constitute legal, tax, accounting or investment advice. You should consult a qualified legal or tax professional regarding your specific situation. Keep in mind that investing involves risk. The value of your investment will fluctuate over time and you may gain or lose money.
Any reference to the advisory services refers to Personal Capital Advisors Corporation, a subsidiary of Personal Capital. Personal Capital Advisors Corporation is an investment adviser registered with the Securities and Exchange Commission (SEC). Registration does not imply a certain level of skill or training nor does it imply endorsement by the SEC.