When it comes to maximising a business’ sale price, what’s the most important factor?
Vistage Speaker and partner at Assay Advisory, Phil Ives, says the answer is not what most people think it is.
After running a number of highly successful B2B companies, including two ‘gazelles’ (businesses that grew at a minimum of 25% per year for the first five years), Phil now supports business owners who want to make significant changes, achieve growth or develop exit strategies.
Working with a range of clients who want to sell their businesses, Phil has seen a recurring theme: too much focus on maximising profits ahead of selling. He says the true value of a business - and the thing which investors ultimately look for - is the quality of the talent.
Here’s how to grow your business to sell by using people power.
How a business is valued
In most industries, the ‘multiples of profit’ method is used to determine a company’s maximum value. Business profit is multiplied by a figure which is industry and market dependent, for example, in the recruitment sector it might be the profit of the company x 6 (the multiple). In this example, this multiple is an average for the sector, but the multiple can go up or down depending on the particulars of the business.
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With this model in mind, and with the multiple seemingly dictated by the market, it’s easy to see why the focus for many business owners becomes heavily weighted on maximising profits. Phil says this an illusion: “The truth is that the multiple is not dictated by the market. There are other factors which affect the multiple: risks bring the multiple down, while assets take it up.”
Examples of risks
Phil says one of the biggest risks from an investor perspective is talent - or rather a shortage of talent. For example: your average industry multiple might be a 6 but that figure could come down to a 3 or even lower if investors have concerns about any of the following with regards to your business:
- No succession plan
- Over-reliance on the founder
- A senior leadership team nearing retirement
- Questions around the capability of the team to scale-up
A company is only as good as its people, so a business with one or more of these issues could see it’s value drop by as much as 50%.
There are a number of other risks, apart from talent, including a lack of business processes and systemisation and reliance on too much revenue from too few clients. If you only have a small handful of clients or infrequent income, the business’ revenue stream is also at risk. What happens if you lose one of those clients? As Phil says, “Undue dependency on any one factor isn’t healthy - it increases the risks for investors. The higher the risks overall, the lower the value of your business when you sell.”
These types of issues are not quick to fix. Re-structuring a management team, attracting talent or diversifying your income sources can take years to resolve so these issues need to be addressed well before you consider selling. Ideally, they’ll have been strategically implemented from the inception of your business.
How to gain value
Just as your business’ value will go down if there are risks around your management team, so it follows that investors will pay a premium if you can prove you have the best talent within your team. “It’s the things which are not on the balance sheet which take the multiple up and up and up,” says Phil.
So, how do you boost your value?
Phil is clear about what he thinks is the most important factor: “The first thing an investor will pay more money for is a business’ talent capability and its culture. There are a lot of people who hear the word ‘culture’ and think of it as the soft, fluffy stuff. The reality is it’s a hard commercial point. ‘Culture eats strategy for breakfast’ as they say!
“This is because a business that attracts the best people, and keeps the best people will outperform the competition. Companies with the best talent, and the best capability, and the best culture will typically come up with the best strategies and all the other factors you need to make a business thrive.”
Phil explains that these ‘other factors’ a business needs to have in order to maximise sale value are as follows:
- The potential to innovate systems or products. “A lot of people hear the word innovation and think it has to be about product innovation but it can be about the way you run your business,” says Phil. “Innovation demonstrates how you’ll stay ahead of the competition.”
- Product extension. “If you can crystallise your unique offering - your magic source - you can leverage that and build more products around it,” Phil says. “Increasing the multiple for your business sale doesn’t come from actually having new products, it comes from demonstrating that you have the capability - the potential - within your business to develop new products.”
- The ability to extend your routes to market. Can you demonstrate that you can move into new territories and explore new channels?
- Your brand. If you have a strong brand, you can diversify easily which gives your business added value. Strong brand credentials mean people will want to work for you and other businesses will want to work with you. Phil gives the example of the Royal Mint: “They are rapidly running out of tarmac in terms of their core product, coins, as we move towards a cashless society, but they’ve understood that they have massive value in their brand so they’re creating partnerships with Harrods and other brands, creating commemorative collectibles and the like. In this way, they’ll continue to go on long after coins have disappeared.”
- The potential for scale-ability. “It’s not about a business having scale at this moment in time,” says Phil. “It’s about being able to demonstrate it has the ability to scale significantly from where it presently is.”
When it comes to selling your business, the numbers on your balance sheet are important but ultimately, in order to get the best sale price, an investor needs to see potential and longevity in your business. This comes down to the foundations of your business and those foundations are created by the talent that underpins your business - people.
For more ideas about how to grow your business, take a look at our report Going for Growth.