Five Things You Can Do This Year To Increase The Value Of Your Business.
I meet with business owners every day who have spent years, even decades, building their businesses with the hopes of one day selling and retiring. However, many of them have spent next to no time understanding how business valuations work and what they can do to proactively increase their business valuation.
These five tips will help you not only increase the value of your business, but also ensure you’re ready when the time arrives to find a buyer.
- Clean Up Your Financials.
If you do anything this year, make sure you stop running personal expenses through the business in order to get as many tax write-offs as possible to lower your taxable income. When a business valuation analyst comes in to review your financials, they will “recast” the financials, meaning they will identify any personal expenses and/or one-time expenses and add them back to the bottom line. However, banks often will not accept many of these “add backs,” thus lowering your seller discretionary earnings (SDE).
This has a major impact on not only the value of the business, but also the debt-service ratio and metrics that the bank will be looking at to determine if net profit can provide a livable wage to the owner and family, in addition to safely making the monthly debt servicing payment required for underwriting compliance.
Think of it this way: If you run $10,000 of personal expenses through your business, thus lowering your SDE (seller discretionary earnings), you’ll get some savings off your taxes. However, if you are hoping to sell your business for three times SDE (the approximate national average) that $10,000 cost you $30,000 off the fair market value of your company. Is the tax savings on that $10,000 really worth it?
- Diversify your revenue.
What’s the most dangerous number in business? One. One source of revenue makes buyers nervous. If you have multiple services, multiple products or multiple sources of revenue, it provides some assurance to the buyer, even if it’s only perceived assurance, that there is stability if any one service offering or product were to be discontinued or disrupted.
The same goes for vendors, customers or contracts. If your company is generating more than 25% of its gross revenue from one source, it puts your business at much higher risk. Future buyers want to see that revenue is growing year over year, but they want to see diversified revenue growth.
- Know your numbers.
We all know how upset Kevin O’Leary gets when someone comes on NBC's Shark Tank and doesn’t know their numbers. O’Leary has been known to ask, “How big is the market? How fast is it growing? How many competitors are there? What’s the break-even analysis?”
Knowing your numbers is a quick indicator to a buyer that you have your pulse on the business and you are actively managing and aware of what is going on. On the flip side, a buyer pays for what the business does, but will buy it for what it could do in the future. This is important because buyers rarely pay for potential; they only pay based on past financial performance. However, every buyer buys based on growth potential.
A good executive summary or pitch deck to buyers clearly displays your past performance numbers, but also shows realistic forecasted growth potential. The growth potential can only be justified by clearly seeing what the numbers were compared to and what the numbers are forecasted to be. Having a clear and accurate picture of where the business was and currently is helps paint a justifiable and reasonable picture of where it could go. That is why a buyer typically purchases a business.
- Get control of your accounts receivable.
In most small business transactions, the buyer writes two checks: one for the business acquisition and another to fund the operating expenses. If you consistently float your AR for 60 days or more, this severely limits the ability of a buyer to fund the acquisition and then have sufficient working capital to fully fund the business operations and payroll expenses for up to 60 days or more.
Alternatively, if you collect payment upfront or have very short terms of AR, that second check — the check to fund operations — becomes much more reasonable for a seller to be able to handle without additional debt.
- Establish some form of recurring revenue.
All recurring revenue is not equal, but any type of recurring revenue is better than one-time revenue. Company size, industry and other factors have a standard valuation multiple that will be used by the business broker or valuation analyst to determine the fair market valuation. Whether it’s consumable recurring revenue, subscriptions or contractual revenue, this helps increase the valuation multiple to get an increased overall valuation.
Chase Busenbark is a native of Southeast Missouri and comes from a family of business owners and employers in the region. Chase earned a bachelor’s degree in business and has been actively involved in his family business from a young age. His participation in the planning and implementation of business infrastructure, contracting, accounting, sales management, and business development activities provided him with a diverse set of skills. He has done everything a business owner would do for a 100-person company and can apply this experience to business brokerage.