Maximizing Your Business's Price

"The amount of value a company creates is governed ultimately by its return on invested capital, revenue growth, and ability to sustain both over time."

– McKinsey & Company Inc., Tim Koller, Marc Goedhart, David Wessels, Valuation: Measuring and Managing the Value of Companies

Hello and welcome back! If you’ve been following along, we’ve already discussed envisioning your life after exiting your business and setting goals. Now, let’s dive into a topic that I know every business owner cares about: how to get the highest possible price for your business.

You’ve poured time, effort, and maybe a few tears (hopefully of joy) into building your business. It’s only fair that you get rewarded for it. In this post, I will explore how businesses are valued, what drives that valuation, and what you can do to increase it.

How is the valuation done?

Before I talk about valuation methods, let me start with some key broad points to keep in mind:

• Free cash flow matters the most.
• Financial statements, on an accrual basis, are just the start and not the end.
• The future matters more than the past. Buyers are paying for future cash flows.
• Buyers look for growth and return on invested capital, which differs from EBITDA or operating profit. They (should) seek profitability relative to the capital invested, not just overall profit.
• Risk is a critical factor for buyers (determining the discount rate or multiple).
• Valuation is both an art and a science. Don’t be fooled by either the math or the artful selling techniques.
• Value is not the same as price. Value reflects the business's intrinsic worth, it’s the start of negotiations, while price is what the buyer and seller ultimately agree on.

Now, let’s look at how valuation professionals determine what your business is worth. There are extensive books on the subject, but below is a super simplified overview of the most common valuation methods.

Income-based valuation

• Values your business based on its ability to generate future income.

• The most common method is Discounted Cash Flow (DCF), which projects future cash flows and discounts them back to the present. This is the gold standard, in my view.

Market-based valuation

• This is commonly known as applying a “multiple” to a financial metric like revenue, EBITDA, or other financial metrics.
• This is essentially about comparing your business to similar companies.
• This approach works best in industries with plenty of comparable sales data but can be limited by the availability of such data.

Asset-based valuation

• This method calculates your business's net asset value by subtracting liabilities from assets.
• It best suits businesses with substantial tangible assets, such as manufacturing or real estate. However, it may not account for intangible assets like brand value or customer relationships.

What are the valuation drivers?

Now that we've covered the methods let's talk about a few factors that can influence your business's valuation. This is not a comprehensive list.

Financial results

• Revenue and profit. Revenue shows how much money the business brings in, while profit (gross profit, operating profit, or net income) indicates the amount left after expenses. Importantly, profit must be paired with the amount of capital that is deployed to get the profit.
• Free cash flow. The ability to generate consistent, predictable free cash flow is crucial to valuation.
• Growth. Sustainable growth in revenue and profits indicates stability and potential.

Customer base

• A diverse customer base reduces risk.
• High customer retention signals reliable future revenue.

People power

• An experienced management team and well-trained employees reduce dependency on you, increasing business attractiveness.

Operations

• Efficiency. Streamlined processes and systems add value.
• Dependency. Over-reliance on you, the owner, may decrease value.

Intellectual property

• Patents, trademarks, and proprietary technology can significantly enhance value.

Legal and regulatory issues

• Ongoing lawsuits or compliance problems can scare off buyers, while proper certifications and licenses are essential.

How to increase your business's value

Now, let’s get to the part you've been waiting for: what can you do to boost your business’s valuation? Here are some levers you can pull to increase the value.

Improve financial performance

• Increase revenue. Explore new markets or launch new products.
• Improve profit margins. Reduce costs by improving operational efficiency.
• Operate with the least amount of invested capital.

Document everything

• Ensure your financial statements are accurate and up to date.
• Document your business processes to demonstrate operational efficiency.

Diversify customer base

• Avoid relying on a small number of major clients. Reduce concentration as much as possible.

Strengthen your team

• Train employees to take on more responsibilities, reducing dependence on you. More on this later.
• Implement incentives to retain key staff.

Protect intellectual property

• Ensure your intellectual assets are legally protected.
• Use confidentiality agreements to safeguard sensitive information.

Minimize owner dependence

• Transfer day-to-day operations to managers to show the business can run without you.
• Develop a plan that shows the business can thrive without your direct involvement.

Address legal and compliance issues

• Resolve any pending legal matters to prevent scaring off potential buyers.
• If applicable, make sure all licenses and certifications are current.

Optimize operations

• Invest in technology or equipment that improves efficiency and reduces costs.
• Regularly review expenses to identify areas of waste and cut unnecessary costs.

Plan ahead

• Start early. This is worth repeating: start early. All the above takes time, more time than you’d think. Ideally, begin 2-3 years before you plan to sell.

Final thoughts

Maximizing your business’s sale price isn’t about quick fixes. It’s about planning and execution. Remember, the time and effort you invest in preparing for a sale can pay off substantially when you sit down to negotiate with potential buyers. Even if you decide not to sell immediately, you’ll have a better, stronger company.

Let’s keep the conversation going

What steps are you considering to increase your business’s value? Do you have specific challenges? Feel free to reach out—I’d love to hear from you!

In the next issue, we’ll dive into the steps and questions business owners should ask to create a comprehensive exit plan.