22 Feb Three Keys to Creating a Business Someone Will Buy
Business owners often wake up one day to learn that they have built a significant business but their business is not that valuable or can be sold. This is usually because they have created a business that provides good (or even great) cash flow but they have not created a business someone will buy.
Business owners don’t usually give a lot of thought to their business exit. They get to a point where they want to get out and realize that the only good way out is to sell their business. Then they get hit with the fact that while they have built a business that has value, the value is low, it is not ready to sell, or worse not saleable.
Why is this? Typically, the owners focus is on the profit and loss, not the equity and characteristics that attracts buyers. This is understandable because profit and the cash it generates is important to keep the business running and support the owner’s lifestyle, but it is a short-term way to operate and is only one component to adding value that will affect a sale.
Knowing your business value, knowing your Buyer and understanding your risk/return are three keys to create an exit or business sale that you will be satisfied with.
One, Know Your Value
Your business value is THE most important factor you can understand in selling a business. It is the largest reason deals don’t get done.
There are three things you MUST UNDERSTAND about your business value you are not going to want to hear.
- “Potential” does not drive value much if any. Every business has potential markets and new opportunities. If they are so lucrative why have they not been realized.
- It is largely a math equation. The value of your business will be assessed based on your industry, how you perform compared to others in the industry, and your profitability. What you think it is worth doesn’t factor into the equation unless you don’t want to sell your business.
- Value does not equal sellable. Your business may be worth millions on paper but if you are key to the business or there are too many risk factors it is not getting sold.
In smaller businesses annual cash flow is a measure of profitability used to determine value. An industry multiple is applied to this cash flow amount with adjustments for the specific business to determine the market value of a business.
In larger businesses the EBITDA (Earnings before interest, taxes, depreciation, and amortization) is the main measures for value. Like cash flow, a multiple is applied to EBITDA with adjustments for the business to determine the market value of a business.
Cash Flow or EBITDA will be one of the first qualifiers of your business. Remember, buyers are going to need to have enough cash from the business to pay for the business and provide the return they need from the investment.
Your buyer will want to see consistent growth in your cash flow or EBITDA for the previous 3 to 5 years. Growth is one of the keys to creating a business someone will buy.
Understanding, the multiplier and the affect it has on the value is key and needs to be in the owner’s thoughts for every decision that is made. Owners make decisions daily that can affect profit and loss and cash flow that can drastically change the sale price positive or negative.
During a transaction one misstep can change the value significantly due to the multiplier.
Two, Know your Buyer
Creating a business that has investment value is much like creating a product or service that a customer wants to buy. You need to understand your buyer very well, their expectations, and their requirements.
Take the time to learn about what your probable buyer will be looking for and how they will review your business opportunity. Learn the finer details of what they like and dislike about a business like yours. Write it down and refine it over time. If our business is not attractive to your desired buyer, you will not sell it.
Do everything you can do make changes in your business to be attractive the buyer.
Naturally, buyers want to see historically stable and growing EBITDA and ample cash-flow not only to support the current operation but also the cost
Growth is one of the keys to creating a business someone will buy.
Note, buyers need to have enough cash from the business to pay for the business and provide the return they need from the investment.
Three, Know Your Risk & Return
Put yourself in the buyer’s position. They may be stepping into ownership for the first time and investing their hard-earned money or investing other people’s money. Either way they are going to be very keen on understanding the risks of your business.
Because of this, buyers are going to examine your business risk from a much different viewpoint than you have. These buyers may like your business, they may like your industry, and they may like you. But at the end of the day it all boils down to a risk vs. return decision.
The buyer is going to take an in depth look at the overall industry risk. They will also look the projected growth or decline of the industry and the market you are operating in. They will likely be asking questions about the industry and your market that you have not thought of before. The more you can be prepared with industry knowledge and the risks of your business, the better you will navigate this.
A buyer is focused on making a good investment. Reducing the risks with your business is a key to creating a business someone will buy.
The return on investment is relatively easy for the buyer to review. They will look at your financial statements of the last 3 to 5 years. Buyers need to see how your business has performed and whether you’re performance has improved. They are evaluating the returns have your business like reviewing the returns of a stock.
A key to this review is good financial information. If a buyer finds errors in your financial information, it will cause doubt in all information. Errors kill deals. Do not even start considering the sale of a business until you have sound financial information.
The information they uncover during the due diligence process will ultimately control whether they can make the investment or not. They may be investing millions of dollars of their or their investors’ money. Making a bad investment has significant consequences for them. Virtually nothing can sway a buyer’s decision if the return on investment is not appropriate. If you are creating a business someone will buy it has to provide a reasonable return.
Make your business the best investment possible in order for buyers want to get in and ride the wave!
The odds are against you when selling a business. Arm yourself with information and prepare for the sale if you want to get out with the money you want! Business owners spend decades working in their businesses only to find out they will not be able to sell. Know your value, know your buyer, and know that your risk and return are appropriate for the investment.
If you work on these 3 things it will drastically increase your chances of creating a business someone will buy!