How to build a service business that will sell

Building a service business with the intention of eventually selling it can be difficult. For many service-based businesses, it takes a while just to find the right mix to make the business profitable for one person, and most of that business is built on the steady creation of relationships within the industry that you are in. After you have built a successful business that works, its time to either think of keeping the status quo, scaling, or possibly exiting the company. The following high-level steps will help you build value in a service company if you are looking to sell as part of your exit plan.

Step 1: The Paradigm Shift

Up until now, you may have been viewing your business from an interior perspective. You have been busy working on increasing sales, decreasing costs, and streamlining your activities. With this hard work and effort, you have gotten to a comfortable place where net income is relatively consistent and your daily activities are equally consistent. Now that you’ve gained stability, you begin to think about the future of your business. Where does this go? What do I want from it? How can I cement my legacy? Can I sell this business, and what does that look like?

The first step in this journey is to begin to look at your business from an outside perspective. If a prospective buyer were to take a look at your books tomorrow, what would they see? For many service-based businesses, they would see a business that is dependent upon a singular person to create and maintain revenue. This singular person also decides what costs would be the greatest factor in service delivery, and where the costs will have the greatest return on investment. The revenue in these businesses is primarily derived through long term relationships with a great deal of dependency on the owner’s goodwill in the marketplace. 

If you remove the owner in this situation, what would happen to the business? Would you buy a business like this?

Let’s put ourselves in the buyer’s place for a moment. Your investor is most likely to be someone with experience in the field, looking to expand their reach. They want to acquire clients in the most cost-effective manner, and they want an acquisition that will give them this without having to spend countless years marketing and spending money to acquire new clientele. They want a business that will continue acquiring clients and will automatically retain as many clients as reasonably possible after the purchase. Simply put, investors want a system.

Step 2: Creating Value in a System

If you were going to invest your money into a business in your industry, what would be attractive to you? Most people would say that they would want something that would not take a lot of time investment or be too difficult to manage from a high level. After all, most investors will have their own business to worry about. They also would want the business to be synergistic with their own – to fit in and merge with their current business without too much in the way of reorganization. 

A fairly good amount of research in your industry will lead you to some mergers and acquisitions in that industry. You will need to ask yourself what the acquired companies have in place, what made them a desirable acquisition, and how you can replicate it. 

For most service-based businesses, the owner is the central figure of the business, with acquired clients that were built on years of trust and service delivery by him/her alone. The sellable business, however, must create a distance between the owner and the business. The sellable business is not dependent upon the owner and can run with very little input from the owner. The sellable business is close to turnkey and mostly passive. The sellable business is a functioning money-making machine.

To turn a business from an owner-centric business into a systematic machine, we need to focus on the three principals of a sellable business: Process, People, and Profit.

Process: 

Begin by breaking down all of the steps that you take in your business. Think of your business like a big corporation. A big corporation is generally broken down into three core components, of which three executives generally manage each component: Marketing (CMO), Operations (COO), and Finance (CFO).

What do you currently do in each of these realms? Write down your current process in each. 

For marketing, how do you currently acquire clients? If it is referral based only, with little to no effort put forth by you to increase the number of referrals, you are not maximizing your possibilities and you need to expand, which you can do by adding more people. A system of marketing needs to be in place, with a budget and methodology in the acquisition process. Think about how you can automate this process to the point where it is not dependent upon you as a central figure.

With operations, you need to have a process in place for service delivery. You may have to streamline your service offerings to fit a specific mold so that each project is similar to the next. Your process needs to be as efficient as possible, with as little expertise needed as possible in each step, so that almost anyone can step in and complete the task. If you look at any business that has made it on a national scale, the operational process has been one of the biggest keys to its success. I know a service business isn’t quite like McDonald's, but a lot of lessons can be learned from the processes one company has used to make billions. Each component of your meal has been broken down into simple, easy to follow steps, to combine itself into a brown bag that you can receive in less than a minute. Efficiency and ease of training is the key here when streamlining operations

Finance needs to be proactive. There needs to be a system for settling the books in a reasonable amount of time and there needs to be metrics that are reviewed and compared to industry averages by management on a consistent basis. If you have been sloppy with financials and your knowledge of financials in the past, now is definitely the time to fix it. This will be the first place that an investor will look to get a picture of your business, so you want to make sure it shows above-average ratios in the key areas that will be evaluated (profit margin, debt ratios).

You will also need to bridge the gap amongst each of these departments – in other words, how do each of these departments work with each other? How can you streamline communication and feedback in each of these realms to guide the business toward a central goal? You guessed it – this is the CEO function. 

People:

Now that you have a process map the next task is to fill it with people. Why? Because an investor will not have the time or maybe even the ability to do each of these tasks themselves, and why would they want to? They want to buy a system, not a job. Use your written processes and try to figure out how you can put people into the positions to perform these functions while still maintaining profitability. 

One of the biggest issues I see in service-based businesses is the thought that they can train a person to do what they do and sell the business to them. They like to call this “a succession plan.” Succession plans are usually bad news for the following reasons.

1)    You are teaching someone how to do everything. You have not compartmentalized the processes. You have identified someone that is capable of running a business on their own and after showing them the ropes there is no reason for them not to do it on their own. Generally speaking, your non-compete is also worthless.

2)    You are introducing them to your clients, while simultaneously talking them up in front of the clients, assuming they will be with you until you decide to sell. After a couple of years, they become closer to your clients than you are to them. Why should your successor pay you for the right to work with those clients when they are already working with them? Whether or not you trust them they are more likely than not going to act in their own self-interest – one disagreement on compensation could see them out the door with half of your clients in hand. 

So, how do you avoid this fate? Compartmentalization. No one person should have control of each aspect of the client relationship. The client needs to view your company as a singular face, rather than a singular personal relationship within the company. Strategically, you need to deliver the same service that you would normally deliver amongst a broad spectrum of people – from client acquisition to client delivery. You need to break down the process so that other people are delivering, while you are the strategic head (CEO) of the business. 

At the same time, you may need to begin to distance yourself as a person from the business itself. You may need to rebrand to help the business stand on its own (for instance, removing your name from the name of the business and replacing it with something that doesn’t inherently call attention to you, but to the business function). Investors would prefer to buy a company name that doesn’t call attention to a specific individual within the company. It is much easier to transition from this after you have built a substantial business already.

Profit: 

An investor wants a system that makes money with as little time invested as possible. More likely than not, your acquirer will have industry experience, so it won’t be necessary to make the business completely passive and it’s not likely that you would be able to make it that way anyway (if you could, why sell?). You will need to make it as passive as possible so that the only thing that is ultimately necessary is strategic management. This is the most appealing business proposition for investors – with a few tweaks and installation of trusted executive associates the business should be able to run itself. 

So now that you have all the people and processes in place, is the business turning a hefty profit without a heavy dose of your sweat equity? If not, you will need to make adjustments in the people and process until you are showing the profit margin and financial ratios necessary to make your business appetizing to future investors. 

Step 3: Selling Your Business

Now that you have real value in your business that an investor would want to pay you money for, it is time to look at how you will make the sale happen.

As mentioned before, the investor will likely be within your industry or have ties that are synergistic within your industry. You should research acquisitions within your industry to get an idea of who may be interested and exactly what they are interested in (hopefully you’ve done this already in step 2 when you were planning your value proposition). You may consult a business valuation expert and a broker in this step to get an idea of what your value is and if there may be anything that you could do to increase this value. 

You will have to provide up to date financials and taxes for years prior to the acquisition, and you will want to figure out how to demonstrate all the value that you’ve created in the company. Operational maps, charts, and strategic processes should be a component of your marketing in the sale of the company to maximize your perceived value and your ultimate offer. By understanding who the players are you can also use these efforts to maximize the number of offerings that you receive. 

For most service-based businesses, acquisitions are based on the clientele to be acquired, with the understanding that the acquirer will institute their own processes and people. If you have done your due diligence and built the value into the company that makes it easier for the acquirer to blend your business into theirs, you will be worth significantly more in their eyes. For example, in the accounting industry, many valuations use a gross revenue multiple of around 1 x Revenue. A firm with a great system that is easily integrated may net 2 x Revenue or more.  Demonstrating the value of your firm to prospective buyers will be key. 

You will also want to structure the sale in the most beneficial terms as possible – does this mean that you will do an installment sale? Do the purchasers want some sort of escrowed guarantee? What will you do with the money once it is received? How will you reduce your taxes to the lowest level possible? It is recommended that you retain some experts at this step (lawyers, CPAs, etc.) while you craft an agreement that works in your best interest. 

Selling a service-based business for a great value is possible, but it will take some work to get there. If you integrate these steps into your exit plan strategy, you will run a great chance of coming out on top and creating a valuable business that can be easily sold.