Recently, I spoke with an entrepreneur in his early 60s who recalled that when he started his business, his basic idea was a couple of rounds of raising money, followed by an IPO.
Now, seventeen years later, in a going concern but with no IPO in sight, he is in the middle of an enterprise systems upgrade, has a wife who had just been diagnosed with Alzheimer’s, and an unsolicited offer from a potential buyer–with a due diligence list a mile long–and a business that wasn’t prepared for transition. And, while he has a profitable company, he is totally unprepared to navigate this.
Preparing your business for sale is a multi-step process designed with one goal in mind–maximizing the value of your business at exit–preferably on your own terms and timing. Even if you’re not looking to sell your business now, it’s important to create a business that is “built to sell.”
It can easily take a year to sell a business while you’re still operating. Many owners wait too long to start preparing and thus leave value on the table, or fail to attract the optimal owners. Starting early pays huge dividends by increasing financial and time freedom for owners. For small businesses, one rule of thumb is to allow at least one year of preparation for each decade of operation. Larger businesses have much more at stake if they’re not ready for prime time.
The best approach is to postpone the sale for a few years and gradually implement key changes to their business to maximize the value of the company. Value building thus becomes the focus of innovation and continuous improvement efforts.
Basically, anything that increases transparency, efficiency, revenue or profitability, or decreases risk or costs, or strengthens the capacity to improve should be considered. The chances of attracting offers and getting a premium price are highly enhanced by making the business attractive to buyers.
The core strategies to being attractive are being:
- Market-advantaged and profitable (EBITDA)
- Risk-protected (the multiple)
- Able to be independent of the owner
A Top-Level Checklist
- Fully operational and experienced management team, distributed decision-making
- Market offerings with relative competitive advantage in growing markets
- Systematized customer acquisition
- Diverse customer base, record of retention
- Documented, state-of-the-art systems and processes with transparent metrics
- Cross-trained employees–so well trained they could work anywhere, but so well managed that they don’t
- Recipes, trademarks, patents, etc. All legally protected
- Daily dashboards. Monthly financial statements issued by third business day. Clean annual audit
- Capacity for experimenting, innovation
Key Projects To Prepare for Sale
1. Build a management team
Replace yourself on the org chart, or you won’t grow or be attractive to buyers. Start at the top (for example a CFO, a COO and an HR Director) and fill out lower level positions as needed. Define roles and responsibilities for each position and hire top-notch people.
2. Get an actionable valuation
Left to their own devices, virtually all owners overestimate what their businesses are worth. It’s rather normal. What you want to learn from this kind of valuation are three industry-relevant things: 1) what it would likely sell for today, 2) what it could be worth if you tried, and 3) the specific things that will raise value–ROI-ranked if possible.
Repeat this every few years as you approach your target sales date. This kind of valuation serves several purposes:
- It provides an unbiased, defensible estimate of your company’s value by a third party. If you hope to sell the company for $25 million, but the valuation comes in at only $6.5 million, you know something is wrong.
- It’s a reality check on your readiness and timing.
- It’s the content and context for what and how to build value.
Online, do-it-yourself valuations (like ours) can be very accurate and instructive. Professional valuations range from as little as $5,000 all the way up to $50,000. Your accountant may be a helpful resource for tax purposes, but not necessarily for the most actionable findings
3. Define / document business processes and systems
You can’t transfer (or even improve) what you can’t describe. This includes an employee manual, an automated accounting system, a CRM system, a marketing and sales process, operations and fulfillment SOPs, etc. Such systems reinforce and support the management team. They also provide transparency and give further evidence that the whole business is not just smoke and mirrors.
4. Clean up the books
Clean company records unleash the power of your financials, improving the effectiveness, and timeliness of decision making. This starts with a professional accounting audit, but ends with actually implementing the auditor’s recommendations. Examples include better documentation of expenses, invoices, backorders, payroll deductions, benefits, bonuses, cash management and more. You may decide to upgrade systems.
5. Inventory physical assets
This typically includes buildings, furniture, manuals/books, hardware, specialized equipment, manufacturing or office supplies and software – property, plant and equipment. There are numerous good software programs available to track and manage physical inventory at larger businesses. For a small business, you can simply use an Excel spreadsheet.
Many companies over or under-estimate the value of their physical assets. If you under-estimate, you are leaving money on the table when it comes time to exit the business; if you over-estimate, you create suspicion in the buyer’s eyes and endanger the exit strategy negotiations. Keep it current.
6. Form an advisory board
This is different from a Board of Directors, since the advisory board members have no formal fiduciary responsibilities and therefore assume no legal liabilities. They are advisors, not directors. Bring in smart people who you trust, who understand your business, and who will ask insightful questions and help you find the answers.
There are many variations, but all effective advisory boards have the following in common: independent advisors who think for themselves, understand the business, work well with each other, and who are willing and able to spend at least a few hours a month on the business. Their networks may also eventually help you find the right transition strategy, potential buyers, etc. Avoid the temptation to form a showboat board where the advisors are famous but have no time or interest in helping your business. Limit the number of golf buddies, relatives and friends on the board.
7. Do an enterprise audit
This is not a financial audit. A business (or operations) audit covers marketing, sales, customers, partners, internal operations, management structure, compensation and more. It’s about capabilities.
There are many approaches but we urge you to do a “market-in, customer-centric” approach. Start by interviewing a good sample of friendly existing customers, some newbies, some attractive still-prospects, some regrettably formers. Clarify, verify and confirm what you hear. Listen hard, take notes, swallow your pride and seek to understand and document their needs, expectations and priorities.
Probe for sources of satisfaction and dissatisfaction. Get concrete examples. Find out what exactly would merit a “10” rating or assure a wholehearted referral. In other words, get actionable input.
Tick, tie and coordinate these with your operations audit findings. Look for ways to connect, sequence, and stage things that logically should be sequenced, or go together, and address multiple things in one swipe.
Then map these to your internal capabilities–to internal groups, to your processes, your company competencies, policies, habits and tribal customs (“how we do stuff around here,” aka culture.) Ask “why does this happen?” five times and follow the data to actionable causes.
SWOT–strengths, weaknesses, opportunities, threats is a fine framework for summarizing findings… thus opportunities for improvement projects. Try also to let this inform your next cut at strategic planning.
These customer conversations can be uncomfortable for you, your sales staff or company colleagues–consider asking your advisory board for help or hire a consultancy. If you use an outside firm, you must have confidence in their competence and objectivity. Ideally, if you plan to sell your company in 5 years, you should do this audit now, with follow-up audits every 12 to 18 months thereafter. The follow-up audits can be focused on the areas that need most attention (for instance, marketing, sales or Information Technology). Audit prices range from $3k to $20k, depending on the size of your company and the scope of the audit.
Under the right circumstances, the follow up audits can be done by bringing together your high potential people as a “design” or action learning team” to build a better enterprise–aimed at higher value.
It can be one of the best team building tasks you’ll ever do.
8. Create a value building plan
Pull valuation fixes (#2 above) and customer inputs (#7 above) into a portfolio of improvement projects, but in one enterprise value building plan. Look for ways to connect, sequence, and stage things that logically should be sequenced, or go together, and don’t overload particular groups. Don’t forget to tackle the risk items that are most likely and most serious.
Designate a competent leader and create teams to address any areas for improvement. Make sure each team understands they are responsible for solving these problems, and set up a reasonable reporting framework (update you in a rhythm that fits the tasks). Hold the leader and the teams accountable for results, because solving these problems shows a potential buyer that your company is nimble and has a culture of continuous improvement.
Even if you hire an outside firm to guide you through the process, you will still need an internal leader to coordinate things within your company. If not you, it should be your number two. There is no better way to prepare people to lead.
Do everything you can to load the efforts for success. Get the right people involved. Only tackle 2-4 things at a time and do them really well–no tinkering at the margins. Use “SMART” goals–specific, measurable, actionable, realistic and time-bounded. Insist on laying out explicit well-conceived approaches and don’t guess (“In God we trust, all others must bring data.”). For all value projects, give people guidance for how much time to spend that sensibly balances their workloads with your timetable. 10%-half a day a week–is a good placeholder.
You will make the most progress if you carve initiatives into 90 day sprints and lay these out in approach papers and work plans. Then have at it, do regular updates, bust barriers as fast as you come across them, then call “time out,” pause to take stock, come up for air, learn, recognize contributions and celebrate gains; figure out how to work better/smarter for the next 90 day cycle. Think of this as interval training for building value.
One important goal is, over time, to incorporate this process–plan, do, assess, adjust–into your management system… so your management process itself adds more value. And for this, consider adding a metric just for your management team that tracks how well and how long it takes to resolve items on your value plan list.
9. Review all IP risks, insurance policies, legal vulnerabilities
Google “risk management,” look through the stuff and think through what any sensible buyer would be concerned with–and you could ask your advisory board to lead this. Make sure the company is adequately insured for all major risks. The easiest way to do this is to bring in one or two insurance agents from competing companies. Most insurance agents will develop a comprehensive proposal at no charge. Once you decide on an insurance package, be sure to have your corporate attorney review the policy to make sure you are actually covered for the risks you deem most important.
Some of the most informative and constructive conversations with prospective buyers are around risk management plans. If you have done your due diligence and are managing a risk plan, you will seriously strengthen your case for a premium price.
10. Develop and test a disaster recovery plan
This is especially important for businesses with major computer infrastructures (dozens or hundreds of servers) and time-sensitive, mission critical applications. Many firms specialize in disaster recovery planning (or “business continuity planning”). A good plan usually requires months of preparation and testing before it is considered complete. It is vital that your plan addresses both backup and recovery procedures. We’ve seen too many companies who do an excellent job backing up all their applications, systems and data, only to fail during a disaster because of inadequate recovery processes.
11. Review all employee, partner, and vendor contracts and policies
This review is designed to make sure your company fully complies with all applicable city, state and federal laws, and minimize chances of frivolous lawsuits or other legal actions. Many small business owners have their real estate attorney handle all of their legal issues — this is a huge mistake. You need a competent business attorney who understands and works with businesses like yours.
12. Draw up appropriate stay agreements for key employees
There is a chance that key employees will leave the company if they hear rumors of an impending sale. A “stay agreement” specifies the terms and conditions under which an employee may leave. It can impose penalties for leaving before a certain date or event, such as loss of stock options, etc. The goal of the stay agreement is to provide incentives and “golden handcuffs” for key employees. They’re also an effective means of quieting any negative talk through the grapevine. Talk to your attorney and HR Director and have appropriate stay agreements drawn up and signed by key employees. Be sure to recruit your “keepers.”
13. Start networking
Start with business buyers, other business owners, and business brokers. A good place to start is with trusted contacts in your particular industry association, a local entrepreneurship group, a city Chamber of Commerce or a local chapter of a business broker association. MBBI (the Midwest Business Brokers and Intermediaries), for instance, has monthly meetings where business buyers and sellers can get together to learn more about buying and selling a business—typically for the cost of a lunch. Other useful groups are The Entrepreneurship Institute, the Turnaround Management Association, and the Association for Corporate Growth. You don’t need to tip your hand – you can simply ask for perspectives on the players, on game-changing developments, or who the go-to knowledge resources are for xyz.
14. Looking for the right opportunity
Finally, although it usually takes years of preparation to sell a business, sometimes the right opportunity comes along much sooner. Be sure to watch market trends and keep your ego in check. Many entrepreneurs have missed opportunities because they were convinced they could do better later, only to watch their window of opportunity close over time. If a great offer comes along before you have everything in place, take it—or at least give it serious consideration. This is especially true for fast-moving, trendy businesses, where being “first to market” can create huge valuations (which usually decrease rapidly once the trend fades). Examples include companies like Facebook, YouTube, Airbnb or Uber.
We believe this article is a good primer. A couple of final thoughts:
- Get started. Now.
- Do the most important, high value things first, well, 2-4 at a time, packaged in 90 day chunks.
- Everything in this paper has an analog or a version that’s appropriate for a $300,000 business or a $30 million one.
- You have worked hard to start and build your business. Your optimal exit probably won’t be a piece of cake either. But it’s very likely to be the single most significant financial transaction in your life–so don’t sell yourself short.