At a recent M&A event I attended, a prominent Charlotte CPA firm owner made a bold and accurate comment to the many business owners in attendance – “Put in great management, processes, tools, and infrastructure and you will be a better, more profitable business. When it is time to exit and sell, the investor community will require these items anyway.” He then mentioned disappointing statistics highlighting how most business owners wait until 6 months prior to selling to begin implementing sound business practices. While this is all preventable, most business owners I work with oftentimes do not know who to turn to for help or what help is available. Speak to any M&A firm and they will corroborate the 2 most important factors to business valuation – free cash flows and sustainable top-line revenue growth. Let us dissect the top-line revenue growth further …
The “Math” of Business Valuation is simple, but often misunderstood.
Recently I worked with a client in the “Printing” industry. Yes, they went digital (or Document Services) a number of years back, but most of their contracts were still structured as a “Printing” company, meaning high year one contract values (say $50K) and a small $10K/yr. maintenance agreement (cancelable anytime). The M&A firm valued the business at:
$1M Revenue @ 20% EBITDA = $200K X 5 multiple = $1M Value
They were not growing, so they hired Sales Management. But here is where it gets interesting:
- Immediately, new customer prospects were acquired, and sales grew 40%
- Customer contracts were restructured to a subscription model: $25K/yr. for 10 yrs.
- Profitability increased to 30% EBITDA due to no additional costs
The M&A firm revalued the business at:
$1.4M Revenue @ 30% EBITDA = $420K X 8 MULTIPLE!!! = $3.36M Value
WAIT…. WHAT? How did 40% revenue growth triple the business value? Seasoned Sales Leadership not only identified growth, but the right profitable growth. The valuation of a 5X Multiple to an 8X Multiple was due to more predictable revenue streams in subscription services and not increasing costs to support the growth.
What are my options as a business owner?
There are plenty of sales coaches, sales trainers, business consultants, etc. in the marketplace to help identify growth, and many of them can. However, if only #1 above (new customer prospects were acquired) occurred, the business value would only have grown to $1.4M, not $3.36M. Experienced Sales Executives do this throughout their career for stockholders at extremely large companies. The same thought leadership and strategy can be employed to generate business value whether you are $1B or $1M. However, that thought leadership comes only from experience at the highest levels in organizations. Here are my suggestions to you if you own a business or work with business owners:
- If you are ready to exit, start early by putting the necessary infrastructure items (strategy, process, tools, people) in place that investors require.
- Hire the most experienced sales leader that understands business value and the contributing drivers.
- Hold this person accountable to the results and ultimately the CIM (confidential information memorandum).
- Sustainable revenue growth often trumps free cash flow given the sustainable characteristics. Don’t let only a finance expert value your company.
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