When you run a small- to mid-sized business there are countless things to attend to, so an eventual exit plan may not be an immediate concern. Yet it must be part of your overall vision because strategic decisions you make today can have a dramatic impact on your organization’s value in the future. But how can you stay abreast of your immediate priorities, while planning for tomorrow? By knowing how to increase company valuation and putting the right practices in place.
I learned many lessons, in my past life as a private equity investor, about how to approach the process of selling a business. And today, as a business owner and finance consultant, I help my clients put strategies in place that not only bolster their growth but their worth in the eyes of potential investors and/or buyers. So, I’d like to share eight practical steps you can take to increase the market value of your company.
- Give Yourself Plenty of Time
- Implement Strong Financial Processes and Controls
- Develop a Diversified and/or Defensible Mix of Customers
- Build an Indispensable Service and/or Product
- Identify and Mitigate Volatility in Your Business
- Minimize Uncertainty by Presenting Realistic Forecasts
- Strengthen and Inform Your Management Team
- Invest in Marketing and Sales
Most of these steps can stand alone, so I’ve structured this post to make it easy to jump around. When you’re looking to increase company valuation, however, step 1 is non-negotiable.
1. Give Yourself Plenty of Time
If you delay business exit planning until you’re rushing to go to market, you’re doing yourself and your company a serious disservice. We have talked with founders who thought they could get 8x – 10x earnings for their company (as reflected by EBITDA), only to receive offers 25%-50% below that range. They were shocked. Sometimes, that price was a reflection of the overall market and variables beyond their control. However, it is often the case that better planning and targeted investments in a company’s infrastructure and operations can result in a significantly higher valuation.
Couple this with the peace of mind you’ll receive by laying the groundwork for your exit from the vantage of how it will impact not only your future but others in your organization and it’s a no-brainer.
Yet, it’s important to realize that this process is going to take time. You must execute the steps to improve your business valuation thoroughly and carefully. These are practical tasks with real implications that require preparation. In other words, expect to spend a minimum of six months, often times a year or more, getting ready to sell your company.
Bringing in an outside advisor or consultant, such as a fractional CFO, who can conduct an objective review of the business can be a great aid in this process. A knowledgeable third party can provide a fresh perspective and help you see areas of concern you may otherwise miss.
I would recommend, however, that you avoid hiring someone whose only interest is selling the business. Instead, look for a trustworthy consultant who has been in your position and can offer the support and insights you need to navigate the transition. They’ll be able to connect you to the investment bankers, attorneys, and/or tax advisors who will help with the eventual sale.
2. Implement Strong Financial Processes and Controls
The steps we take to make a business attractive to potential buyers are strikingly similar to what we must do to position our companies for growth. And this makes sense because buyers want to buy companies that are well managed and poised for future success. Therefore, one of the first areas we’ll look at are your financial processes and controls.
What Investors Really Want
Business valuation is a complex process, but that doesn’t mean you can’t influence the outcome. From the team at TCRH comes a behind-the-scenes guide to valuation.
When I say “financial processes” I mean there should be a very well-maintained set of books and financial statements that are overseen by a financially savvy person. Although you may have an excellent bookkeeper, the scope of this work goes beyond that and into the realm of a controller or even a CFO.
You will need to undergo a true reconciliation of cash, including the development of a cash flow forecast. A surprising number of companies sell products and services but fail to establish an effective system for collecting the cash they’re owed (aka, their receivables). Gaining an understanding of your future cash flow is extremely important as it will dictate whether you can make payroll or fund important projects. If you focus primarily on your financial statements, it’s easy to overlook cash flow issues which can lead to surprises. Buyers don’t like companies that have experienced cash flow surprises.
Financial controls, on the other hand, 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 with executive teams that review KPIs monthly, if not weekly, tend to outperform those that do not and typically command a higher valuation.
Buyers like sellers that know their numbers. If you lack financial processes and controls, increase company valuation by setting them up and get everything running smoothly before attempting a sale.
3. Develop a Diversified and/or Defensible Mix of Customers
Buyers want to invest in companies that have a broad base of customers that can deliver a scalable source of recurring revenues and cash flow. This doesn’t mean everything has to be perfect. But you need to be able to demonstrate a deep understanding of your customers and share a plan for addressing vulnerabilities such as customer concentration or churn issues.
Understanding your customers means that you know who your ideal customers are, why they would want to buy from you, and how you plan to keep them coming back. Here are a few questions to get you started on an assessment:
- What problem or pain do you help resolve for your customers?
- Who has the pricing power in the relationship?
- Does the customer have alternatives to buying from you?
- Can they easily switch to a competitor?
- How do you keep your customers engaged with your business?
- What is your customer churn rate? In other words, do you have long-term customers, or do they buy once and move on?
- Do you have a problem with customer concentration?
Customer concentration refers to an 80-20 rule, which broadly states that when 80% of your business comes from 20% of your customers you have a high customer concentration. This is a red flag to buyers that indicates risk, but it’s not necessarily a bad thing if it’s by design. If you have high customer concentration it’s crucial that you can justify the 20% subset. Who makes up that group of customers? What are their needs and desires and how are you uniquely positioned to fulfill them?
A well-articulated explanation as to why your mix of customers is the way it is and a clear plan (with tangible results) for addressing the risks will build trust with potential buyers.
4. Build an Indispensable Service and/or Product
The most basic and fundamental objective of a business should be addressing the needs of its customers and solving a problem for them better than anyone else. 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. That is to say, whenever possible find a way to make your product and/or service indispensable to your customers.
Look at your business with an objective point of view and ask:
- Is there a way I can be more important to my customers?
- How do I make my service or product an absolute need for my customer?
- Can I modify or improve my product or service to solve a more pressing problem?
- How can I stand out? In other words, how can I position my product or advisory services as superior to what my competitors offer? Typically, this means you provide more value and/or are a better fit for your target market.
The higher the pain point you solve, the more indispensable you become. Be honest with your assessment of how important you are to the customer. Consider the shifts that might be necessary, then start making changes so you can move up the “urgency/importance” ladder of your customers’ need, while increasing your market value.
5. Identify and Mitigate Volatility in Your Business
Volatility is an ordinary part of doing business, but it’s often a symptom of a lack of control which can be concerning to potential buyers. Therefore, if you want to increase company valuation in anticipation of selling your company, you need to look for and develop a plan to resolve volatility in your organization.
There are many ways volatility can surface within a business. On the finance side, you may experience volatility with respect to profit margins and sales. Or, you may be experiencing customer, supplier, or employee turnover. A number of things can cause these issues including weak relationships, poor oversight, or misalignment when it comes to your goals and objectives.
You’ll need to look at each and every point of volatility, so you can identify (and make a plan to mitigate) the source of the problem. Buyers want to see that you know where your weaknesses lie and that you plan to address them.
6. Minimize Uncertainty by Presenting Realistic Forecasts
Business owners often make the mistake of putting forth aggressive forecasts they can’t support with facts and figures. Essentially overstating the future value of the company. However, this is the fastest way to reduce the value of your business. The more unjustifiable upside you present, the less credible you appear, which typically results in lowball offers.
It’s critical that you share realistic and supportable projections with your buyer. Buyers are understandably skeptical of forecasts provided by sellers because the interests of buyers and sellers are typically not aligned.
So, one of the surest ways to build trust and credibility in a sales process is to put together a transparent forecast based on data and historical precedence. Then, provide all the necessary documentation so the buyer can follow along and verify the assumptions. Forecasts built on a host of hypotheses to show the coveted hockey stick projection will be a turn-off, not an enticement.
7. Strengthen and Inform Your Management Team
Ahead of a sale, you must fill every important management seat with the right person. This is crucial. Buyers will pay a premium for a B- company with an A+ management team, but not the other way around. Sophisticated buyers know that success or failure in a business is all about management. Hire, structure, incentivize, and train an A+ management team and you will absolutely increase company valuation, even command a premium.
In addition, in instances where the CEO is planning on exiting there has to be a clear successor identified. And, that person should be in the role for at least six months before embarking on the sale process. It is critical that buyers know that the company will continue without the owner in the driver’s seat. If the owner is seen as “indispensable” then that is a major risk area and could potentially lower the valuation considerably.
Communication throughout the organization is also essential. Buyers will quiz managers in the mid-ranks to see if they echo the same vision as senior management. If the message isn’t consistent, this can expose weak links and company disconnects. Thus, before engaging with buyers be sure to launch a coordinated communication effort. Brief everyone so they can prepare to articulate the company’s goals and vision.
I also want to point out that in some cases there might be a category of people—the “previously protected”—that need to be re-evaluated. To elaborate, there could be a nephew, sister, cousin, or friend in a critical role in the organization. If I’m a buyer and I see a management team crafted out of personal connections, in my mind that can be a red flag. That’s not to say they’re not qualified, but they need to be aware of this fact and capable of articulating and justifying their function within the company.
8. Invest in Marketing and Sales
Finally, in the current socially connected business environment, online marketing, branding, and messaging have become essential to many businesses. Most companies need to improve their online marketing and sales strategy. Every company should have one, and it should include a thorough execution plan. It doesn’t matter if you’re selling pet rocks to children or heart pumps to hospitals; you need to have an online presence and multiple marketing and sales approaches, including an active social media strategy.
Please note, online marketing strategies are constantly changing. Your message must be consistent with the market and the customer to whom you are selling. Refresh often. Stay current with trends and with customer wants and needs, regardless of the product or service you provide.
To do this, you need to know how customers like to communicate. In the last few years alone, consumer-focused email campaigns have moved to text campaigns, and now, more recently, to app campaigns. You need to be wherever your customer is, no matter where “there” is and no matter how it changes.
Lastly, keep in mind that while it used to take four touches, on average, to get a customer to act, today it’s more like 7-12 touches, depending on your business. That’s primarily because the walls have come down with regards to accessing customers.
In the information age, everyone is accessible, and information is ubiquitous. However, it’s important to avoid over-messaging your customers or you risk losing their attention altogether. In today’s environment, every communication should provide value. Customers are more likely to engage if you offer them something vs when they feel that you’re asking them to do something.
A company with an active, thriving marketing and sales function that provides a steady source of traffic, leads, and revenue growth is clearly more valuable to potential buyers.
How to Increase Company Valuation: The Bottom Line
Running a small business has its challenges, which makes it easy to brush aside the notion of planning for your eventual exit. But you never know when an offer will land on your doorstep. Everything I described above will help you build a growing business, not just prepare your company for an eventual sale. The main difference is that when my clients ask me how to increase company valuation, I scrutinize these specific elements of their business through the eyes of their potential buyers.
At The CEO’s Right Hand, we work with clients to build and pursue financially sound growth and exit strategies for their businesses. Schedule a free consultation today to see how we can help you prepare for the next stage of your evolution.