How to Maximize the Value of Your Business
As a business owner, you have spent countless hours agonizing over the complexities of keeping operations running smoothly. However, failure to think about the final piece of the puzzle, making the business attractive to a potential buyer, could lead to a less than optimal result.
To help avoid this mistake, we interviewed business owners, board members, investment bankers, accountants, and lawyers to get their thoughts on how business owners can maximize the value of their business prior to starting the sales process. Below, we summarize the five most common responses.
None of our experts believed any business started on Day 1 with all of these concepts in place, but all agreed that it is never too late to implement these ideas. They did caution, however, that implementing these ideas at least 12 months prior to initiating a sale will likely be the best way to attract more buyers and maximize the sales price.
1. Clean Up Books and Records
Providing easy to understand financials consistently ranked as one of the most important areas of focus. Buyers use these records to understand how the business operated over time and to look for opportunities for potential growth, margin improvement and/or operational advancement. Without basic financial knowledge, most buyers will be wary of putting in further due diligence.
For starters, make sure your accounting methods are in compliance with the Generally Accepted Accounting Principles (GAAP) for at least the past two years. This is one of the most overlooked areas, especially for small businesses that have experienced rapid growth or long-established entities that do the books “old school.” There were differing opinions on whether the time and expense of going through an audit was necessary, especially since many buyers bring in their own outside financial advisory teams to vet the books. Hence, the decision to provide audited financials will likely need to be made on a case-by-case basis.
A final common item that oftentimes needs to be addressed is the commingling of personal and business expenses. The company’s books and records should be a direct reflection of the potential earning power of the business. Your goal should be to show maximum profits by taking any extraneous expenses and liabilities off the books, especially those items that the new buyers will not retain. Failure to exhibit financial clarity can often derail a potential sale before the process even gets started.
2. Replace Tribal Knowledge with Policies and Procedures
Regardless of the industry, there are hints of tribal knowledge present in most companies. As an example, if you were to ask an employee how they completed a given task and they can’t refer to a documented method, this is tribal knowledge. If this knowledge turns out to be mission critical, it can pose a significant business risk, especially if the company has an aging workforce, an employee falls ill, or there is rapid employee exodus. Hence, if you do not currently have documented policies and procedures, begin compiling them.
Documentation should be a company-wide initiative. Rely on staff to help contribute to this endeavor, starting with your executive team. Begin by asking them to identify three-to-five frequently completed tasks that are specific to their role and document what steps are taken to complete each function. To verify the efficacy of the new documentation, have a different employee complete the task by using the newly constructed procedure. Once the executive team has finalized this exercise, replicate the process for their respective departments until there is documentation at every level of the business.
While documentation is valuable, awareness and access to the newly created policies and procedures is equally important. Technology platforms have been created specifically for this purpose, including some that may be specific to your industry. For smaller organizations that use the Microsoft Suite, consider OneNote, which may integrate into your existing software. While adding this technology or even hiring a consultant to document processes may require additional capital, the increase in valuation multiple upon the business sale should more than offset this cost.
3. Diversify Clients and Vendors
Concentration risk will be an item of concern for potential buyers.
Supply chain issues have come into focus over the past year due to COVID-19. From a vendor perspective, make sure you have alternative options available for critical supplies in the event there is a disruption in service.
Start by thinking about what would happen if your current vendor went out of business tomorrow. What would you need to know to make an educated decision on their replacement? Also, how long would it take a new vendor to begin services and how would this impact your ability to complete your orders on time and on budget? Factors such as price, customer service, and capacity are great places to start.
The same thoughts apply to concentration risk within your current client base or product mix. If a small number of clients or products represent a significant portion of your revenue, this may be seen as a detraction for a potential buyer. Strategically thinking about new product lines that can diversify your revenue sources should help improve what a buyer is willing to pay for your business.
Finally, creating proper reporting tools to capture client/product profitability across business lines is something that will help showcase the measures you have taken to mitigate customer/product concentration.
Though not easy, implementation of the proactive diversification measures discussed above should help deliver additional peace of mind to a prospective buyer and increase the price they are willing to pay.
4. Focus on Employees
While some buyers may want a full reshuffling on the management team to maximize “cost synergies,” others will opt for more modest changes with an eye toward rapid growth. As a result, there is a wide range of thoughts on when and how you should tell employees about a future liquidation. Clearly you want to prevent unwanted distraction and preemptive exits when news of the sale breaks, but spreading the word too early could exacerbate potential issues. Rather than focusing on the timing of the announcement, concentrate on steps that can be taken prior to the transaction that can help mitigate problems for the future buyer.
Start by identifying which employees are critical to business continuity. This goes further than just the executive team, consider employees who handle large accounts, key operations personnel, and anyone who may be an important piece of the puzzle when it comes to culture and morale.
Next, if you have not done so already, consider both a carrot and stick approach to retaining these employees for the medium term. Benefits including company ownership and multi-year bonuses are typically attractive to employees. These can be combined with restrictive covenants such as non-compete and non-solicit agreements to prevent key employees from starting a competing business or taking key customers.
Assuming you have locked in key employees without giving away the bank, the goodwill you will get from buyers by taking employee retention risk off the table should outweigh any additional costs associated with any potential contract buyouts.
5. Pursue Growth, but Leave Something on the Table
Every buyer’s worst fear is that the business falls apart the day after the sale. Thus, your job is to show prospective buyers how business continuity will be maintained under new ownership (or at least as much continuity as the new owner desires).
Business stability can be shown through multiple avenues including documented operational manuals, diversity of vendors/clients, employee retention and other ideas discussed above. But to really maximize value, you will need to leave some breadcrumbs on the table for potential suitors to see how the business can grow exponentially under their management.
This can be done by providing a strong story about how cost synergies can easily be achieved (hopefully without letting go of staff) or that additional capital could cut production costs, or increase sales through an investment in R&D. By looking at your business from the perspective of the potential buyer, develop stories about what your business offers them and how they can spur growth and profitability through an acquisition.
In the end, buyers crave success. Showing them that there is limited downside risk and significant upside potential is the best way to set yourself and your family up for the next stage of life.
Written by Chris Engelman, Managing Director & Nelson Greene, Wealth Advisor