How to maximize business valuation
How exactly can you maximize the business valuation? Find out all about it here.
Understanding how a company is truly valued is the main way to calculate the worth of a business and to know what price it sells for. Merely getting the business valuation done is one thing, but increasing it before the sale takes place is another. But how do you know if your business valuation is fair? And how exactly can you maximize the business valuation? Find out all about it here.
A lot of the business owners usually reach a stage where they want to sell their business, which is also when they begin to understand the purpose of valuation. And when this time comes, the owners want their company to be sold for the highest possible price. But when they learn that their business value is much less as compared to what they thought, they go into a shock.
Due to this, many companies are ready to pay a higher amount for learning about the secrets regarding how to maximize their business valuation. Even though the process of selling a company is not exactly like selling a house where homeowners at times believe that the price of their house would be high, there are similarities. But why does this happen with real estate? Well, the only answer to this is that the owners are emotionally invested in their asset (in this case, their home).
Find out how can you maximize the business valuation in this article. But before that, let us understand a bit about what the purpose is for valuation, as explained below.
The purpose for valuation
Even though the main purpose for valuation is to prepare the business for a sale, there are many other purposes as well that makes business valuation very important. A few examples of the reason why business valuation is needed are:
- Purchase price allocation: This means reporting the liabilities and assets of the company for identifying any intangible and tangible assets.
- Financing: You would need to have the business valuation done before you can get a loan, as they check and decide the loan amount your company deserves.
- Buy-Sell Agreements: This includes the rules of the transfer of equity that takes place between shareholders or partners.
- Mergers, Acquisitions, and Sales: The valuation of a company is important for negotiating a merger, acquisition, or sale. This is so the parties that are interested can get the best fair market price.
- Estate and Gift: The company’s valuation has to be done before the gifting or interests, or estate planning, or after the death of an owner. It is important as the valuation of the company is required by the IRS for charitable donations.
- Shareholder Disputes: At the time, it is in the best interests of the shareholders when a breakdown of the company takes place. This would also include the transfer of shares that the shareholders are withdrawing.
Top ways to maximize your business valuation
Now that you are clear about the purpose for valuation, the next thing is understanding how to maximize the business valuation. Here are the following strategies that would be able help you in increasing the business value:
Focus on the bottom line, not the top line.
The businesses get their value not from their top revenues, but from the bottom line of profits. When you are about to sell your company to a buyer, the buyer would see the earnings of the company to determine its worth. The main thing that is noticed is the cash flow through which the value of the company is evaluated. This is how to maximize the business valuation, which is what everyone is looking for.
The reason cash flow is taken into consideration is that having $6 million in sales with $2 million earnings is much better than having $11 million in sales and $600,000 earnings.
As a matter of fact, the earnings gained from the services or products that do not bring any cash flow or profits in the company, would eventually hurt the overall value of your business. This is because the profits margin would reduce, headaches would increase and the number of employees would increase for which their salaries would again reduce the overall revenue more.
It is very important to keep a decent price of their work and not keep the price low just like every other small business. Hence, it is important that you value the products or services that you are providing even if your company is small.
Make yourself redundant
Usually, if a small business owner wants to be successful, they would have to be personally involved in every part of the company to maximize the business valuation. With this, the buyers are challenged to change their owners with someone who is equally qualified and capable. Nonetheless, the moment a business owner decides that they want to sell their business, it is since they want to enter another activity or business or they want to retire.
It is important that the key employees and the owner needs to be “backfilled” in case they want to leave as soon as the company is sold. The small companies that can operate by themselves gain more profits as compared to the ones that need the supervision of the owner. This is normally attractive for the strategic acquirers and the private equity firms. These kinds of buyers usually look for companies that have the management team in place that is highly experienced.
To make your company much more self-reliant and to maximize the business valuation, you would need to put all your attention towards training the employees to handle their main responsibilities properly. In short, with each person handling their tasks well, the dependence would be reduced and so would the risks. Not only would your company become more marketable, but it would also enhance the efficiency, reducing the risk and downtime you would have lost due to that one employee.
Focus on your earnings’ quality
The final value of your business is taken from the cash flow of the company or even just from the potential to create cash flows later on. But that is not all. Even the quality of the cash flow is investigated, which is during the sales process. The banks and investors see the repeatability and consistency of the cash flows when they are determining its quality. So, the companies that have revenues from just one project have a greater revenue volatility than those with less predictable projects (or short-term projects/clients).
Tackle with the IRS
Almost every business owner has used their personal funds to pay for the business at some point or the other, so that they could be able to reduce the taxable income. Even though the owners enjoy some benefits due to this, it can bring up issues when it’s time to sell the business.
One of the main reasons is that, even though you did all to maximize the business valuation, the banks and buyers would not consider the personal expenses added. This would hurt the value of the business, not showing the true value. To avoid these, begin stopping any activities like these three years before you sell the business. And even though it would not help you entirely, it would surely do a lot to maximize the business valuation in the end.
Select the niche that is your strength
Even though you know how to do a little of everything, avoid being all things for all the people. You need to pick up a niche and use that to build up a brand and a company. This is much more valuable than building a company that attempts to serve everyone. The main reason is that this would not keep your company stable and there wouldn’t be a way to determine the exact value of the company as per the industry.
Get your house in order
If you are planning to sell your business, the planning can never be too soon, as it takes about 6 to 12 months for the sale process to complete. Hence, it is better that you begin to plan for the sale 2 years before the sale actually occurs, so that you have the time to maximize the business valuation. Then you can have the buyer to evaluate the business after the business valuation is conducted. And for these two things, you would need all the documentations of the human resources, legal and financial departments of your company.
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So, it is advised to maintain all the documents before time like the company bylaws, articles of incorporation, pending litigation, work comp claims, liabilities with past employees, accounts payable aging report, accounts receivable aging report, employee handbooks, procedure manuals, tax return, financial statements, and any documents specific for your company. Other than this, it is good to clear all the financial statements.
Diversify Your Revenues
When you are about to sell your business to a buyer, they would not only look at the dollar amount. They would also check if the revenues are expanding and sustaining at a much greater level over the long run. And this makes it important to bring diversity in the revenue, which means that you need to have many ways by which your company would earn money.
And if you are wondering how you would be able to meet new audiences and sell new products, then here is the answer – take surveys or meet customers to find out what they are looking for. The businesses that have a better understanding of what their customers want, and what they would be ready to pay for, would be able to make the best products and opportunities for both the customers and the company.
Improve Your Margins
The difference between the expenses of running the company and the revenues of the company is the margin, also called the gross margin. And it is obviously good to have a bigger gap making the margin bigger. To maximize the business valuation, you would have to improve the margin and increase the gap. This includes reducing staff, and investing more in making the company run faster. In short, you would have to do more with less. Other than this, it is also advised to note down the growth in the margin over the years.
Improve Your Executive Team
It is a good point that if you want to maximize the business valuation, you would have to ensure that your company has a winning executive team. It is not enough for just you to be the star. All those around you have to be top-notch as well.
Set Yourself Apart
Another thing that is a must for being successful, beating the margins, and maximize the business valuation is that you would need to aim higher than what your competition is aiming at. And the very first step is market research. Once you know all you need to know, and more than what the competition knows, you can easily beat the others and increase the company’s value.
Plan For The Long Term
There are businesses that are ready to pay a lot just to get a proper guide on how to get higher returns as the business grows old. But there it isn’t that simple. You would need to understand what the the buyers are expecting from the sale and employ the right way to achieve the goals of the buyer. Even though everyone expects something different, plan in such a way that most can get what they want from what you offer.
But before that, you need to work and grow so that the trust is built. That is when you would be able to maximize the business valuation.
Cleaning up your financials and multipliers
It is not an easy task to run a business, even though it is highly rewarding. And the stress levels increase for the owner when it comes to keeping the finances of the company proper. Many owners do not think about the finances as an important part during the starting stages of the business. But later on, it becomes a huge part of their daily lives.
And for reducing the stress and keeping everything in place, so that it can be easy to understand, here are some tips to help you out:
- Separate your personal finances and business finances: Even though this is a very common point that you may know about, are you still following it? By making them separate, you would be able to reduce your personal liability and it would be easier to keep track of all the finances. Moreover, your business would not be considered as legitimate if you keep them together by mistake too.
- Keep 10 minutes aside daily: It is important to review and organize all the invoices, reports, receipts, spending and bank statements. Though it seems as though it is not important, if you begin to do so, you would enjoy the fact that there would be less errors in your finances in the future. This would also allow you to easily estimate how to maximize the business valuation when you want to. Moreover, you would also learn more about your business and know where each dollar is going.
- Know your cash flow: You now know that by keeping a track of your cash, you would be able to know where each dollar is going. And if you are taking a little time out to go through and organize all the invoices and other financial related document every day, you would know how the cash flow is. Further, if there is any issue that is affecting the cash flow, you would be able to deal with it instantly and maximize the business valuation at the end of the day.
Think of your company from the outside
With the purpose of valuation and the tips on how to maximize the business valuation understood properly, the next thing that you need to know is how an investor or an outsider sees your company and its value. Basically, you need to understand what the investors sees and decides how much to invest in your company.
The equation that investors use is that if the market has a demand, and your company is able to fulfil it to the end, your business value would be high. But not everything works like this. There are many factors that are taken into consideration, and knowing them would help you to maximize the business valuation. Below are the factors that investors consider while checking the value of your company:
The market is one of the most important factors that is looked at when the business valuation is determined.
In short, your company should not be in a bad industry, as even though your business is doing great, it would not help you with the investor. The investors look into the trends in your market, and compare your company with similar ones to get the estimate valuation of your business.
Size of the Market
Most investors, mainly the VCs, usually invest in companies that are in a very large market. And this is obviously no surprise, as they value the business that has the potential to grow. In short, they would think about your potential growth curve.
So, if your company is in an industry where the business would grow slowly or not grow after a certain point, investors may walk away. This is also because you would not be able to maximize the business valuation as the company would not be able to grow. So, the higher the growth projection, the better.
The founding team
In case a few of the founding members have a good track record, mostly in the same industry, it would maximize the business valuation. This is since it would be based on the promise of repeated success. And this would impress investors, as they respect entrepreneurs who have a great track record.
Another thing that investors look at is the competition landscape. They would see and analyze the competition you have, any barriers to enter the market, and how tough would it be. In short, they would analyze if you can beat the competition and grow to maximize the business valuation. Moreover, if you have a great plan or a leg up in the competition, ensure that you let the investors know about it.
Size of the funding
The investors would want to know the amount required, as some angels look for companies that have smaller capital needs, while VCs look for companies with larger capital needs. If you feel you can work with small fundings in terms of milestones, then it would be the best option.
Even though the economy and time is not in your hands, it has a very important effect on the valuation of the company. Hence, you would want to strike when the iron is hot by doing the due diligence of the marketplace and time everything accordingly.
Investors would also look at the exit size, based on the type of company and the industry. With this, investors would then find out how much equity is needed to get their ROI goal.
Funding is a main part of the business and how well-funded your business is from the beginning would tell how the future valuation is determined. Hence, if you want to maximize the business valuation, ensure that the initial funding processes are done.
Even though this seems frustrating where you would need to have money to get funding, it is important to increase the valuation of the business. So, to get into the game in the starting stages, you can get a little funding from your friends or family before you move ahead to seek a larger VC round.
In the end, to maximize the business valuation, you would have to take big steps and risks. You cannot just be calm and expect to walk your way into having a very high value of your company. Be open to feedback and use it to make your business grow. If you surround yourself with advisors that you trust, it would help you to create and even execute a scheme that would help you easily maximize the business valuation in no time.