In The Five Stages of Value Maturity that we teach in our Owners’ Roundtable series, we first review Stage One – Identify Value – and Stage Two – Protect Value. After you’ve identified the actual value of your business, determined its target value (i.e., the amount needed to achieve your retirement goals) and taken steps to protect its value, the time has come to build value. Building value is a necessary step in the value maturity process for every business owner, under every conceivable scenario.
Need proof? Consider this: We currently are in the midst of an unprecedented generational transfer socially and economically. There is a tidal wave of business exits on the horizon—and it’s drawing nearer very quickly. Early baby boomers have already reached retirement age – they’ve already started transitioning their businesses – and the tail end of this generation will get there in a few short years. When that occurs, the businesses they and their slightly older baby boomer brethren own – roughly four million – and the combined value of those businesses – $10 trillion – will flood the market. That presents a near-unprecedented opportunity for buyers. Yet it will put incredible pressure on sellers to position their companies as attractively as possible.
If you’re a business owner, then you probably realize that this scenario is, to some degree, in your future. Therefore, if there’s any delta between your company’s actual and target values – large or small – you’ll need to build value to close or eliminate the gap.
If you’re lucky enough that your business’ actual value is also your target value, you’ll still need to build value so that you and your team can facilitate a transition under the time frame and conditions you desire. Additionally, buyers like to invest in growing companies. There are few buyers who are interested in buying companies only to keep them at the same levels of production and profitability. The value of the business may work for the business owner; however, if growth is flat over the prior two to three years, then buyers could be scared away.
Building value occurs over a longer time horizon—usually years. Yes, there are short-term actions you and your team can implement to build value in smaller, tactical ways. But broad, strategic actions are usually relied upon to increase cash flow, and ultimately, the multiple you’ll receive for the business.
In our Owners’ Roundtable series, when we discuss building value, our dialogue often centers on intangible value. For example, let’s say hypothetical ABC Company has a multiple of six, but maybe only two of those six points are represented by its tangible assets (e.g., property, plant and equipment), whereas the remaining four points are representative of intangible value.
What comprises intangible value? Also called intellectual value, intangible value is represented by the Four Cs (i.e., four types of capital):
- Human capital (e.g., employees, and a business’ ability to recruit, develop and retain them)
- Customer capital (e.g., relationships, contracts)
- Structural capital (e.g., processes, technology and their connection to personnel expertise)
- Social capital (e.g., culture, brand)
When it comes to valuing a business, intangible value is often more highly rated than tangible value. In this example, ABC Company’s owner is fortunate to have more assets (i.e., intangible assets) of higher value. Now, as he seeks to build value, he can choose to enhance his existing intangible assets; protect them; or further develop intangible assets.
Certainly, our owner and his team may decide it’s strategically prudent to enhance tangible assets to accomplish a strategic objective. But generally speaking, most businesses can develop and improve value if their focus is on increasing intangible value.
Remember: Exit planning is not a future event—it’s a current and future process. As you seek to build value in your business, keep these guidelines in mind:
- Be disciplined in your approach, and plan accordingly. We recommend 90-day cycles, or “sprints,” that focus on key growth initiatives and hold team members accountable throughout the process. Once your first 90-day sprint is over, assess your progress and re-evaluate your program. You’ll probably determine that subsequent 90-day initiatives you’ve planned for are still viable and should proceed. Or, you may determine based on your progress under the first 90-day sprint that subsequent strategies are no longer priorities for your business. Leave yourself some flexibility to adjust your activities as needed.
- Document all your processes and procedures to ensure that intellectual capital stays with your business. Some employees may handle key processes within your operation; if they leave, you can’t put yourself or your company in the position of having that knowledge walk out the door. Potential buyers want assurances that processes and procedures are documented; this eliminates surprises for them, and validates the overall value that is placed on the business.
- Execute relentlessly. When choosing and setting priorities, make sure all details are accounted for. Who will be responsible? What are your options? What are the deliverables? Where will the resources come from? What are the risks? And what are the milestones that will demonstrate you’re on track? Execution requires discipline grounded in action. Following sequential steps to getting things done keeps you moving—and moving in the right direction. Taking the time to organize before you execute will help clarify your capabilities and ensure you are working on the right things.
At the end of the day, you must be able to measure your progress in terms of how your business’ value increases based on the action steps you take in your process of building value. In the case of ABC Company, for example, its current multiple of six could be increased by a half point or point – potentially representing several million dollars – in the intangible value side of the equation by undertaking a company-wide initiative of documenting processes. Or, something else – perhaps a patenting initiative – may add additional intangible value points. Whatever the case, this process is a measurable one; the strategy must be clearly articulated and pursued with vigor so that an accurate measurement can be taken once it’s completed.
One final note: We’ve talked a lot about planning and timing. If your ultimate goal is to sell your business, then the amount of time you should remain on board post-close can be greatly affected by your structural capital. If that capital is poor, then the buyer will need time post-close to acclimate themselves to your processes. This will require more of your time post-close and hinder you from starting the next chapter of your life. Strong structural capital can help a business owner transition out of the business more quickly.