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How do I Maximise the Value in my Business?
What do companies such as Google, Facebook and Amazon have in common? What relevance does the commonality have to your business?
In short, the answer is the concept known as Goodwill. Leaving aside the accounting definition for now, what is goodwill?
Many business owners are proud of the constituents of their balance sheets that contain physical assets such as buildings. Added to these are plant and machinery, cash and what you are owed.
This is all good stuff. However, these assets are no good to a business unless they generate a return – profits that is.
What would you prefer?
Here are two different businesses each generating these profits. Which one would you prefer?
- Assets of £250,000 generating £25,000 of profit; or
- Assets of £750,000 generating £50,000 of profit?
Personally, I would prefer the business 1 with £250,000 of assets since this is giving me a 10% return on the assets. Business 2 is giving me 6.7% return with greater funding required.
This is a very simple example. Before moving on, consider this: if your buyer has the choice of either business which one would be chosen?
So where does goodwill come in to play in your business?
Owners may focus on accumulating assets you can touch or are readily convertible into cash. There is nothing wrong here. However, if you are looking to maximise your value, you would focus on building-up those assets which allow for the creation of value. Value is found, amongst other things, in new customers, selling more to existing customers and new territories for your products and services. As a result you demonstrate to a potential buyer that for each £100 that is invested into the “marketing machine” will generate £500 of profit then you have “Goodwill”. It is also far better if that £500 is in the form of recurring revenue. Hence, the life-time value of those customers will be greater, as will be the value of your goodwill.
So, building-up physical assets is fine. However, if these assets take-away the resources to build other assets, such as goodwill, that will generate more customers and revenue, ask yourself this question: Whether this is the best use of resources? Should I really be investing in goodwill?
How will investing in Goodwill increase the value of your business?
When I look at acquiring business with clients, I ask how much my client needs to pay and how quickly the investment will be recovered. To assess the latter, which arguably is the more important of the two, we need to consider my client’s appetite for risk. Here we need to look to the future rather than the past. The past provides the evidence there is a foundation to work from but it is no guarantee the investment will be recoverable in the time frame my client has set as part of the risk assessment.
After the business has been acquired the true value will be known and as a result my client will need to be reassured by the evidence of the impact of the marketing and selling activities on revenue and margins.
Where is the value?
Consequently, my client and I would look at recurring revenue; customer mix and their margins. By demonstrating past forecasts (written prior to the period under review) produced actual revenue, the appetite for risk will be increased. Since, we have confidence that £100 invested in marketing will produce £500 or more revenue.
Consequently, you, the seller, have created a sustainable and transferrable business with value that is in Goodwill. Furthermore, the business being acquired will continue to operate successfully after the sale. There will be little or no disruption to its cash flow after the owner has left.
It does not really matter which exit option you take. If the underlying value is dependent on the owner the buyer will see it as too risky. The result being there is little or no goodwill and the value you hoped to realise will not be forthcoming. Even if there is a trade sale, it is likely to be in a structure that will include an earn-out. Here, the buyer places most of the risk with you since the balance of the full consideration will be dependent upon future results and remain unsecured until paid.
Where are those hidden assets?
In his book: “Good to Great”, Jim Collins talks about “Sitting the right people in the right seats on the bus”. He says, there needs to be a management team capable of creating growth and managing the business without you.
In my experience, a buyer, who pays full value for a business, sees the key employees as fixtures in the business who can deliver those forecasts. So, the quality of the people is vital and moreover they will provide the continuity during the integration of the two businesses. Poor planning at the integration stage and after the sale is one of the key reasons deals go wrong and fail to deliver the value expected by the buyer. As a result the handling of employees, understanding their culture and beliefs is so vital.
Process and procedures
In his book: “The E-myth revisited”, Michael Gerber talks about the importance of these and how vital they are to a successful business. To receive the maximum value for your business it needs to at least maintain or increase its profits during and after the sale. These will be as a result of processes which can be found across the whole business. Furthermore, the benefits can be seen in a business such as the Timpson Group. This is the key cutting and shoe repair business owned by the Timpson Family. James Timpson, the chief Executive says that no one is more important than anyone else. therefore everyone should be trusted to do want they think is right. The people best placed to improve the business are those working on the front line. these are the people who serve customers, pack boxes and raise invoices.
The key point he makes is that leaders should stick to working out how to achieve the goal – that is leadership. Leave the processes to the people who do the job.
Here is one of the key drivers of increasing the value of goodwill. Ideally the more diverse they are the more valuable goodwill will be. No one customer should represent more than 10% of turnover. As a result, there is a greater risk of a large bad debt. The effect of the loss will result in a reduction of profits by a much greater percentage. Moreover there are likely to be cash flow issues if your working capital is tied up with this customer.
Products and Services
It is really important to know where your profits are being made or not as the case maybe. Knowing your margins for each product or service line and, indeed, each customer is important to a buyer. Moreover, the ability to manage these will add value to your business when you come to sell it.
Diversification works when it can be properly managed. I have seen businesses loosing value if this is not the case. Likewise I have seen more value in businesses who sell less to more customers, than more to fewer customers. Find a niche and to develop your business within that niche can create real value.
Where ever possible the creation of recurring revenue is something that will add value to your business.
These areas are not easy to put right and maintain if you, the owner, are working “in” the business rather than on putting your succession plan into action. This is where leadership comes in to play, as opposed to management of these issues. Furthermore the knowledge of having an idea of who your potential buyer might be will enable you to tailor these matters to suit them.
In my experience, a buyer is paying for the future of your business. So by having a realistic forecast and achievable growth plan showing where there is future growth, profit and cash generation is all part of where the goodwill is to be found.
When you consider selling your business you really need to start planning for the succession. Elsewhere on the website in the paper How long does it take to sell a business an idea of the timescales is set out. Likewise look at where the Journey to sell my Business Starts elsewhere on this website. In my experience the value of goodwill is derived by spending time putting the business into a position where it could be sold even though you may decide upon another option.
As you can see from this paper, goodwill is something that exists in a business and in order for it to have value to a potential buyer there are several matters which need to be addressed.
Bearing in mind the sale process can take months and moreover it is not something that can be rushed into. It requires a business that is sustainable without you the owner. It has to be sellable in the first place. Moreover, it will mean the systems and processes are in place and you, the owner, are not working in the business.
If this paper is of interest to you then I would be very happy to chat it through with you and see if it is something that works for you and your company.
I look forward to hearing from you.
If you would like to read more of the Overview of Selling a Business, please return to this page on the website.
Andrew is the director of Assynt Corporate Finance Limited and an Accredited Member of the Association of Crowdfunding experts.
Previously a partner and head of corporate finance at Baker Watkin LLP, Andrew has more than 35 years of experience in all forms of corporate finance across many business sectors.
Andrew is also the Chair of Governors at a local school and an Assessor of Expeditions for The Duke of Edinburgh’s Award.
You can find out more and connect with Andrew over on LinkedIn.
Need Help? Contact Andrew at Assynt:
If you are serious about selling your business, contact Andrew to arrange an informal chat, in person or over the telephone to assess the options open to you.
You can also contact Andrew by email at: email@example.com or by completing the form on this page.