Every two years we get swept up in Olympic fever at my house. I’ll be the first to admit that I tend to get hit the hardest. Whatever events are scheduled that day, I’ll stay up late to watch every minute of coverage.
One staple of every Olympic games is the infamous Russian judge. You know the one I mean. He or she holds a competitor’s performance to the highest possible standards. They will not be swayed by sentiment. They reduce a lifetime of hard work into one meticulously calculated number. We love to hate the Russian judge. But if you’re going to compete on the world stage you’ll have to figure out how to impress him.
Attracting a good valuation when you sell your business is similar to getting a high score from the Russian judge. Buyers will base the value of your business on a two-part formula: 1) your company’s pre-tax earnings, or simply “cash flow” times 2) a multiple. The former is up to you as the business owner. Think of cash flow as your Olympic performance: It is influenced by how skillfully you’ve run your business over the years. The first part of the value equation is firmly within your control.
The multiple is more like the Russian judge and his scorecard. The multiple for your business should fall within an expected range given the size of your company and its industry. A recent PeerComps report showed EBITDA multiples ranging from 3.6 to 6.1 for businesses with $2M-$7M in annual sales across 265 businesses sold. Like a judge’s score, where the multiple lands within a range is a matter of the buyer’s opinion.
If your goal is to sell your business for the highest possible multiple, here’s how to bump up your score:
If you’ve run your business for any length of time, you’ve probably gotten used to the risk associated with owning it. Potential buyers are highly sensitive to risk, and will make their own assessment as to any apparent or potentially hidden risks that may jeopardize their investment. The antidote to risk is often diversification. Businesses that have diverse customer segments, product assortment, service offerings, suppliers and revenue streams have the ability to command a higher multiple.
Dominate a Niche in Your Industry
I recently spoke to the owner of a digital printing business. Over the past twenty years the company has developed a niche by offering round-the-clock expedited service to customers in the financial services and pharmaceutical industries. Another digital printer I know specializes in packaging prototypes for CPG companies. Whether its construction or consumables, dominating a niche in your industry goes a long way towards increasing the multiple when you sell your business.
Create Recurring Revenue
Generating sales is one of the most vital endeavors at any business, regardless of industry. If you have to beat the bushes for every new customer, however, that endeavor is viewed as risky in the eyes of a buyer. If you as the owner have been bringing in new customers at your business for the past twenty years, how will the buyer do it without you? I once met the owner of a commercial HVAC business who had “evergreen” contracts in place with his customers. The contracts would renew annually until cancelled, something only one percent of his customers did.
Best-selling author John Warrillow writes extensively about recurring revenue business models and how they impact the value of your business. Suffice it to say that buyers love businesses with a recurring revenue model and pay handsomely for them.
Show Consistency or Improvement
No matter how much a judge may admire an athlete’s performance, any stumble is reflected in their overall score. If your business experiences a dip in sales or profitability, it is likely to affect your multiple and valuation. There may be a perfectly plausible reason why your numbers were down two years ago, but it’s the rare buyer who will overlook a blip in your company’s performance.
Athletes do their utmost to peak at the right moment — not too early or too late, but at the precise moment when it matters most. The ideal scenario is to take a business to market when it has been showing consistent, or better yet, improving financial performance for the past three to five years. Alas, one of the ironies of entrepreneurship is that this is also the time when most owners are least likely to sell.
Outperform Industry Averages
When you sell your business, buyers will compare financial metrics at your company — gross margins, net margins, major expenses like rent or payroll — to averages for your industry. One of the digital printing businesses I mentioned had pre-tax profit margins that were almost four times the industry average. That is eye-popping performance and was reflected in the value of the business, which sold for a multiple at the highest end of its range.
You typically get one chance to sell your business, if you’re lucky. The process isn’t unlike world-class athletes who train for decades and have just minutes to convince the judges they deserve gold. Earning high marks is a daunting task, but it can be done — as long as you figure out how to impress that darn Russian judge.
Want to learn how you can sell your business for a higher multiple? Let’s talk.