Members of our Advisory team are frequently asked “How do I make my company more valuable?” by business owners. Ultimately, what they are after is to understand: “What is my company worth?” For a privately held company the answer is, of course, “That all depends what someone else is willing to pay for it.”
Here’s an analogy:
If today someone is asking $100 for a rare baseball card, and you know for certain that you will be able to sell this same card in 10 years for $1,100, the annual earnings are $100 per year or 10%. This is a fairly good and conservative investment. But what if you lacked any certainty about what its value would be in 10 years? Would you still pay $100?
Investors love predictability. They look for consistent and transparent financial performance as an indicator of future outcomes. So, strong financial performance over time, coupled with reduced risk, increases value dramatically.
The greater the predictability of a business’s performance, the more willing a buyer or investor will be to purchase based on expectations of future earnings.
Predictability of future performance is one important factor in valuing a company, along with:
- Sales growth
- Level of liabilities
- Net assets, including cash reserves
Optimizing value
Here are ten factors that would make it easier to have a “best-priced” exit/equity event for a privately held business. Each of these items decreases risk for the investor or buyer, and thus increases value.
- Audited financials to increase confidence that numbers presented are accurate.
- A “quality of earnings report” that gives a detailed analysis of the historical revenue and cost structure of the business.
- A clear legal entity structure, including well-documented relationships.
- Alignment among leadership, partners, board members and owners.
- Good risk management, including controlled costs and absence of claims/suits against the organization.
- Strong intellectual property and brand protection (patents, trademarks, copyrights, trade secrets, etc.)
- No “time bombs” or hidden liabilities (secret deals, untracked inventory, unhappy clients or suppliers, etc.)
- Few or no personal guarantees for the business, working capital issues, etc.
- Use of performance dashboards and other metrics.
- A written liquidity plan with established accountability.
Of course, there are many other important things to consider when an investor values a company. Some of them are perhaps harder for a financially minded professional to measure, as they are “softer” in nature. But they are equally important. Here are some examples of key drivers we’ve identified:
- Hub and Spoke: A strong, experienced management team, which can lead your company well, even in your absence. The ability to attract and retain top talent by being an “employer of choice” undergirds your company’s ability to perform well without micromanagement.
- Concentration Risk Mitigation: how dependent your business is on any one employee, customer or supplier.
- Customer Satisfaction: the likelihood that your customers will re-purchase and also provide strong references.
- Competitive Advantage: how well differentiated your business is from competitors in your industry.
Taken together, the quality of a company’s financial performance comes down to the level of confidence one has in the predictability of the future outcome: the predictability ratio of sales and profitability at today’s value. This means value can be reduced by anything that takes away from transparency into a business, lowers the likelihood of the current forecast, or increases the risk of a negative surprise
So, as a rule of thumb, focus on reducing risk and increasing quality forecasting as guides for improving value.
To see how your business measures up and how you might improve on these key drivers of company value, get your free Bond Growth Score. Use the report to quickly zero in on which growth performance driver is dragging down your value the most and then take corrective action.
Note: This article is a second edition of a previous article published by our partner 2Swell, Corp.