Six Ways to Increase the Value of Your Business

You’ve worked hard over the years to build your company, and now you’re thinking about selling all or part of your business. But before you put it on the block, consider this question: How can you be sure that your business will be fully valued, or will even be attractive to a prospective buyer or investor?

Very often businesses are undervalued because executives overlook or underestimate the importance of six critical factors buyers use to make their decisions. The good news is that by addressing these issues well before you put your business up for sale, you can significantly increase margins and growth and maximize the value of your business in the marketplace.


Are You Leaving Money on the Table?

Buyers actively seek to buy underperforming businesses where a combination of operating improvements and growth can result in high returns. Take the fictional example of a large private equity fund that purchased a rapidly growing technology firm. The revenues declined under the former owners from approximately $40 million to less than $20 million. EBITDA (earnings before interest, taxes, depreciation and amortization) declined from over $10 million to less than $5 million.

The buyer brought in new management and made numerous operational and financial changes to increase EBITDA to $10 million within a year of buying the company. The new management team took steps to save on manufacturing costs. A new sales team was able to increase sales and reduce working capital.

This story gets repeated numerous times across every industry when buyers, such as private equity funds, announce a successful exit from an investment. The question for you is, will you make the operational improvements and have your company fully valued, or will those gains go to the buyer because they made the operational improvements?

To increase the value of your business, think like a prospective buyer or investor. Use the following questions to help you determine where to focus your efforts:

Do you have a clear vision and mission for your company, and can you communicate it to your buyer?

A well-defined statement of vision and mission sets the context for all of your business decisions. However, buyers will be looking to see if these statements are supported with up-to-date systems and processes. This includes: a strategic business plan, annual budgeting process, accurate financial statements and specific metrics for operating the business.

Many times, pieces of this information can be out of date or missing, especially when a company is in high growth mode. The inability to maintain accurate records can cost your company dearly in creditability and valuation. Keeping this data current in an easy-to-access format generates confidence in your company’s ability to achieve its vision and mission and allows the buyer to give your team the benefit of the doubt for those “off ” years when earnings and sales were down.

Is your business growing at a rate commensurate with or above the rate of growth for similar-size businesses in your industry?

If your industry is growing but your business is not increasing at or above the growth rate of the industry, you need to look at changing your customer base or changing the way you sell your products. The growth rate of your business is critical because it demonstrates the acceptance of the product by the customer base. If the growth is below the industry average, a problem exists somewhere in the business. High-growth businesses command a higher multiple of EBITDA than ower-growth businesses.

A buyer is looking to double or triple the investment in five years and needs to be convinced that high growth is possible, or the investment will not be successful for them. Looking at why your business is not growing at or above the industry norm and making the appropriate changes could have a significant impact on your businesses valuation. (To find out where your business stands, contact your industry trade association.)

 Is your business operating at or above the gross margins for similar-size businesses in your industry?

If your gross margins are below the industry norm, you need to reduce your materials costs or lower your labor and other direct costs. These costs of goods sold often have a large variable component, meaning that management has greater control over these costs than other fixed costs such as long-term leases. The gross margins reflect how much pricing power the business has as well as how well you manage the purchasing of raw materials and control labor costs. Low gross margins imply a commodity business with little competitive advantage other than price. Higher margins command large purchase price multiples since they imply a defensible market position.

Do you focus on maximizing cash flow or minimizing taxes?

The best approach is to maximize cash and not manage the business to minimize taxes. When cash is the focus, there is typically more money flowing into the owner’s pocket. One of the most important components of valuation is the cash flow or EBITDA. Anemic cash flow due to management’s focus on maximizing tax savings and not on generating cash can significantly reduce the valuation of the business. Your business’s ability to generate cash (and not only profits) will be a buyer’s prime criterion for valuation.