I had the opportunity to share with you in March some lessons I learned as a private equity investor on how to approach the process of selling a business. I’d like to continue that discussion here. This blog post will focus on eight practical steps you can take toward maximizing the value of the business at exit. We will explain the first four in this post and the second four in a subsequent post.
1. Take the time.
When you’re thinking about selling your business, it is important to understand that it’s going to take time. It’ll take a minimum of six months, often times a year, to get your company truly ready to exit. The difference between taking the time to prepare versus going straight to market without adequate groundwork could mean the difference of more than 50% of realized value at the end of the deal. If you’re rushing to go to market, you’re doing yourself and your business a significant disservice.
I emphasize that this process will take time because I believe the following seven items need to be executed thoroughly and carefully—these are practical tasks with real implications, and are of upmost importance in the preparation.
I also would point out that bringing in an outside advisor or consultant could be a great aid in this process. This would provide an objective review of the ins and outs of the business. Often, a third-party advisor can focus on areas that management might have missed and can provide a fresh perspective. I would recommend you avoid bringing on someone who is simply interested in selling the business, and instead look for advisors who has owned and run a business themselves, or has served in a genuine consulting capacity with companies, as they can provide the important support and insights necessary to help you navigate the following seven items.
2. Put strong financial processes and financial controls in place.
What I mean by Financial Processes is that there should be a very well maintained set of books and financial statements. Additionally, you want a financially savvy person in the role, be they a controller or a CFO, and someone whose function is beyond bookkeeping. The processes should also involve a true reconciliation of cash. Most businesses sell products and services but don’t necessarily collect cash effectively or prioritize cash collection. Cash flow is very important, and businesses that focus primarily on financial statements and not on cash flow often run into surprises. Buyers don’t like companies that have experienced cash flow surprises.
Financial Controls have to do with checks and balances. How closely does your company monitor the ins and outs of its finances? How consistent are you in looking at key performance indicators (KPIs)? Companies that focus on KPIs at least monthly, if not weekly, tend to outperform those that do not and tend to command higher values. You may be surprised how big a deal it is but buyers like to see that a seller knows his/her numbers. If a company doesn’t have these controls in place—KPI monitoring, dashboards—they have to be set up and running smoothly before a sale. The lack of such controls could bring about a significant diminution in value by prospective buyers.
3. Focus on customer composition.
The key here is to understand your customer. Know your customer profile and why they are your customers. Here are some questions to help you assess:
- Do you have customer concentration?
- What is your customer churn rate? Do you have long-term customers?
- Who has the pricing power in the relationship? Does the customer have alternatives to buying from you? Can the customer easily switch to another company?
To the extent that there is customer concentration, there needs to be a well-articulated explanation as to why those customers are indeed sticky. At the same time, you’ll need to think about how you’re going to continue to diversify and dilute that concentration, and be able provide a clearly defined diversification plan to the potential buyer. This plan must include the specific steps involved, the designated responsibilities amongst members of management and an outline of the time frame that might be required for that diversification effort to show tangible results.
There is also the 80-20 rule, which broadly states, 80% of business comes from 20% of customers. It’s crucial that you understand the 20% subset. Who makes that up? What are their needs and desires, and how do you fulfill them.
Buyers want to know that the company understands it customers, knows where they are vulnerable, has a plan to address concentration, and is proactive in dealing with any potential or existing churn issues.
4. Focus on the service and/or product.
Along with an understanding of the customer base has to be an equally thorough understanding and grasp of the service and/or product of your company. The basic and fundamental objective for a business should be addressing the needs of its customers and solving a problem/pain point for them. The companies that provide services or products that are discretionary—nice to have but not necessary—are going to have a much more difficult time getting and retaining customers. Look at your business with an objective point of view and ask—Is there a way I can be more important to my customer? How do I make my business service or product an absolute need for my customer? How can I modify or improve my product or service to solve a more pressing problem? The higher the pain point you solve, the more indispensable you become. Assess objectively how important you are to the customer. Be honest about what potential shifts might be necessary to your service or product ahead of a sale process, then start making the changes necessary to move up the “urgency/importance ladder” of your customers’ needs.
These are some of the most fundamental aspects of your business that you and management need to be on top of. Let these ideas soak in, and we’ll come back next month to talk about four other areas of focus that will help you maximize the value of your business upon sale.
Related Reading: Business Exit Planning: 6 Steps for a Successful Retreat