Maximising the value of your company will not only help you to achieve a higher value when it comes to selling your business, but it will also make it more attractive to prospective buyers – even if a sale is not imminent.
It may seem like a difficult task, but by tackling the process as a series of small steps it becomes much more achievable; and by taking the first steps as early as you can, you have a better chance of realising a higher sale price.
Below are some of the key steps you can take to achieve the best possible value for your company.
1. Get your books in order
Accurate accounting information and financial statements are an important element for the effective management of any business, but when it comes to selling your company they also provide the best measure of current and future performance. Financial statements will be scrutinised as part of the due diligence process, so it’s essential that they are accurate, up-to-date and that any anomalies (for instance, exceptional items) can be explained.
Buyers evaluating your company will typically require at least three years’ of financial statements, preferably audited. As well as historic financial statements, you will need to ensure that a robust management accounting system is in place; this should include monthly sales, costs and profit information, ideally broken down across the company’s different revenue streams.
2. Looking to the future
Alongside accurate current and historical financial statements, having a comprehensive business and strategic plan to accompany any financial forecasts for your business will increase the company’s credibility in the eyes of potential buyers.
A written plan provides potential buyers or investors with the assurance that your business knows where it is going and how it will get there. However, it’s important that any forecasts are supported by detailed assumptions, and written and confirmed orders will give forecasts and plans added credibility. See our post How to create a business plan to raise investment for more details.
3. Systems and controls
Systems and controls are the policies and procedures put in place by a company to track, manage and report financials. They are implemented to ensure that risks are being managed, and that resources are being used efficiently. They also ensure compliance with laws and regulations, and safeguard assets against loss and damage.
It’s important to be able to demonstrate to a prospective buyer that the right processes are in place for your business to function effectively, efficiently and in compliance with all rules and regulations, without requiring the involvement of key management. Making sure that all these processes are clearly documented will reassure a potential buyer that the company can function effectively from day one, post-sale.
A strong controls environment can also help to reduce the number of warranties and indemnities needed as part of the business sale, because the buyer will be more confident that the company is in good condition.
4. Contracts and recurring revenue
Customer contracts, service contracts and retainers represent significant intrinsic value for a buyer; they provide an assurance of regular income, as well as ensuring that – at least for the length of the contract – customers will remain with the company after the sale.
So where contracts already exist it’s important to make sure they are up-to-date and enforceable, as they will need to withstand the scrutiny of commercial and legal due diligence. Strengthening existing customer contracts (providing they are profitable) – and if possible, confirming new recurring revenue streams – will reassure a buyer that they will inherit a consistent cash flow.
5. Speaking of cash flow…
…it is the number one factor most potential buyers look at when determining the valuation to place on a company. A company which can demonstrate sustainable and growing cash flow gains added credibility for its products or service, and underlines management’s ability to drive growth.
A buyer may also be willing to pay more for your company if there is a likelihood of higher and more certain cash flows – particularly if the buyer is considering debt to help fund the deal, as cash flows could be crucial in servicing that debt.
6. Diversify revenue streams and reduce customer concentration
As a smaller company, you may find that a handful of customers generate a large proportion of your business revenue. However, any customer representing 10% or more of your company’s revenue would pose a serious risk to earnings and cash flow if they were to switch to a different supplier. So where possible, aim to reduce customer concentration by diversifying your company’s customer base, which will increase the reliability of future revenue streams – and help increase your company’s valuation.
Typically, a buyer will carefully review any customer relationship that comprises more than 10% of overall revenue, so making sure that contracts are in place with such customers will help to mitigate an element of the concentration risk.
7. The quality of company earnings
The quality of earnings refers to the amount of earnings attributable to increased sales or reduced costs, rather than to any artificial profits created by aggressive accounting policies. It can be used to predict a company’s future earnings, so it’s an area that will be particularly significant if the buyer is looking to value your company on the basis of earnings. A relatively small change in the level of earnings being assessed can convert into a material change in the valuation of a company when using the earnings basis of valuation, which in turn directly influences the consideration agreed upon in a deal. A potential acquirer will, therefore, be particularly diligent in assessing the quality of the selling company’s earnings.
There are steps you can take to maximise the quality of earnings within your business, including applying conservative accounting policies, recording revenue correctly, and accurately recording accruals, liabilities and stock.
8. Protection of intellectual property
Protecting intellectual property – such as patents, copyrights, brand names and trademarks – can help a company to sell its products and services for a higher price. If your company can deter competition from entering the market by demonstrating protected intellectual property, you will be able to better protect your market position – something a buyer will be prepared to pay a higher price for.
9. Reduce overheads and increase profitability
Look at ways to cut costs or generate efficiencies that will lead to increased profitability. If a buyer decides to value your company on the basis of a multiple of earnings, increased profitability will lead to an increased valuation; it will also show the buyer that the company can be operated efficiently.
10. Review your capital structure
Capital structure is the combination of debt and equity that a company uses to fund its operations and growth. While interest from debt reduces taxable profits, a higher debt burden means the company needs stronger cash flows to service the capital and interest payments.
Although it may not be possible to settle your company’s debt pre-sale, refinancing to a cheaper source of debt or consolidating a number of debt items could reduce interest payments and increase the valuation of your company. The balance of net debt (debt less cash and cash equivalents) at the time of sale will be subtracted from the purchase price.
11. Review group and ownership structure
An inefficient corporate structure – such as the existence of redundant corporate entities, and the need to deal with complex internal structures – can cost you money. So if you’re preparing for a sale, reviewing (and possibly streamlining) your corporate structure can help you to eliminate unnecessary corporate governance expenditure, identify tax benefits, and reduce the amount of time senior management spend on unnecessary entities.
12. Power to the people
A company is nothing without its people. Employees should be one of your company’s key assets, and a buyer will probably want most if not all employees to remain committed to the company after any sale. To retain employees in the long term, there are a number of incentive schemes you can put in place – such as an Enterprise Management Incentive (EMI), a tax-advantageous share option scheme. Your company could grant options to selected employees, enabling them to acquire shares over a set period, provided that certain qualifying conditions are met. Bonus plans tied to profits can also be introduced, to motivate key employees and incentivise them to remain with the business after the sale.
While a company’s people are key to its success, by contrast it’s important that the business can operate successfully without the owner-manager(s). If an owner-manager is seen as essential to the company’s success, a buyer will be concerned about how performance may be affected following their departure post-sale.
As a departing owner-manager, the more time you spend involved in the running of the company (such as winning new sales or nurturing existing customer relationships), the less value the company will represent to the buyer. If you work full-time in the company, the buyer will also need to consider the cost of taking on a like-for-like replacement. So it’s important to put a succession plan in place, and ensure that your key responsibilities as owner-manager are delegated to other senior managers.
Further reading: Exit strategy: Selling your business vs family succession
If, at the time of sale, the company is still reliant upon you as owner-manager, the additional risk may be addressed by a smaller consideration being paid up front, with a significant deferred amount or earn-out (performance-based payment) put in place.
We always recommend that you seek advice from a suitably qualified adviser before taking any action. The information in this article only serves as a guide and no responsibility for loss occasioned by any person acting or refraining from action as a result of this material can be accepted by the authors or the firm.
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