A major component to most middle-market business owner’s strategic plan is to build value and eventually monetize their investment. Regardless of whether the exit strategy is slated for one, five, or even 10 years in the future, the key to a profitable sale lies in initiating the planning phase well in advance. This strategic process should entail determining your go-to-market readiness, maximizing top value drivers, and determining the correct timing for a potential exit.
1.) Determining Go-To-Market Readiness
A crucial step of the planning process is evaluating a business’s go-to-market readiness. Before a business owner makes the decision to sell, they should have an external assessment prepared to help them determine the business’s go-to-market readiness. This assessment should evaluate various qualitative factors that represent potential valuation enhancers and detractors. These factors should be assessed through the lens of potential buyers to determine how they may perceive the potential risks and rewards of ownership, and to understand the general attractiveness of the business in terms of a potential investment decision by potential buyers.
2.) Maximizing Top Value Drivers
Once a company has had an external assessment conducted to determine their go-to-market readiness, they should work to maximize their top value drivers, thereby increasing the exit value of their business. Common top value drivers in middle-market business valuations include the following:
Potential buyers want to know the business isn’t going to fall apart the day after they purchase it. Having well-documented systems and procedures in place can help prevent this. In addition, owners should take care to have written customer, supplier and employee contracts in place and reviewed by legal counsel before putting their business on the market.
Active Management and Employees
Middle-market business owners often wear multiple hats and are the driving force behind a business. However, if the current owner does everything, the future of the business is at significant risk once that owner is no longer there. This is why buyers often prioritize businesses with strong, active and engaged management and employees that can continue to run day-to-day operations of the business long after the seller is gone.
Most middle-market businesses suffer from some lack of diversification. For example, if 80% of your revenue comes from a single customer, your business carries more risk than one in which no single customer accounts for, say, five percent of revenue. The same can be said of products, services and suppliers. As a result, business owners should strive to diversify before putting their business on the market.
Since the value of a business is directly related to the rewards of ownership, and inversely related to the risks, it follows that a growing business is worth more than one that is stagnant or in decline. As a result, if your business is currently in decline, it may not be the best time to sell. Similarly, if your business is doing well but there is a significant risk of imminent decline, it may not be an opportune time to sell.
If possible, sellers should avoid negotiating with a single prospective buyer. Instead, business owners should consider working with an investment banker who can identify potential buyers and negotiate the best possible transaction for the seller. Once potential buyers know they are competing against other buyers, prices and terms often begin to shift significantly in favor of the seller.
3.) Timing Considerations
While retirement, burnout and a need for additional leadership or capital investments are three of the most common reasons a business owner might decide to pursue the sale of their business, many owners struggle to know if it’s the right time to exit. The three primary factors that need to align in order to exit at the right time and maximize value are owner readiness, business readiness and market readiness.
Arguably the most important of these factors is the individual readiness of the business owner. Many business owners spend decades devoted to their business, causing it to become a part of their personal identity and purpose. Exiting the business will likely cause a dramatic shift in their life; therefore, it’s important for owners to be truly ready for the coming changes.
Another important factor to consider is business readiness. The best time to sell your business is when revenue and profitability are on an upwards trajectory. In addition to strong financial performance, the business should have people, systems and controls in place to ensure the business will succeed long after the sale. This enables buyers to see a clear path for additional growth and, therefore, increases the exit value of the business.
Lastly, when considering the right time to sell, business owners should examine the state of the merger and acquisition (M&A) markets. If M&A markets are strong, a business owner may be better off selling now versus spending additional time and resources to minimize valuation detractors or maximize valuation enhancers. Alternatively, if M&A markets are weak, a business owner may be better off waiting for markets to recover.
Whether you are ready to sell your business or not, now is the time to begin preparing for your eventual exit. This will enable you to maximize the value of the business in a sale transaction. If you start the preparation process only when you are ready to leave, it may be too late to affect the outcome of the sale.
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This material has been prepared for general, informational purposes only and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. Should you require any such advice, please contact us directly. The information contained herein does not create, and your review or use of the information does not constitute, an accountant-client relationship.