josh

Three Areas Drive Business Value

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areas

There are three primary areas of your business that drive value. In large businesses, there could be a dozen or more departments. But, when you get down to brass tacks, there are only three essential areas no matter your size: marketing, operations, and accounting.

Marketing

This is how well you attract leads and turn them into customers. The latter is often called “sales” which I’m not intending to shortchange but let’s keep this simple. Do you have a sufficient pipeline of new leads or existing customers interested in more assistance? If not, fix that first. Once that’s fixed, how well do you convert prospects into customers? Fix sales conversions once leads aren’t an issue. Customer retention shouldn’t be ignored and tends to fall apart if the next area isn’t working.

Operations

The operations area is where you make or deliver the product or service to the customer. This is where the sausage gets made, and there’s constant tension between speed and accuracy. It’s where mistakes, complaints, accidents, customer changes, under-billings, and delays happen. There’s no way to eliminate all issues but if you can get a little better every day, you’re making progress. The key is to develop systems followed by all employees to minimize problems. Taking pride in doing boring things well is critical for operations success.

Accounting

This is where you count the beans, create financial statements, and comply with tax laws. But these are minimums today. A good accounting department also provides feedback to the other two areas without shame and blame. Accounting should tell marketing whether prospective customer meetings are turning into new sales so they can improve or double-down. They should also tell operations when errors are increasing and where they’re happening so they can fix them.

Parting Thought

I think we often complicate what a business does and it makes it hard to identify the problems and solutions. If you’re struggling, there’s a good chance it’s in one or more of these three areas. I would improve them in the order above because good marketing and sales spark cash flow needed to hire more good people to improve the other two areas. Just make sure you delight your customers or more sales can backfire. 

Josh Horn, CPA, CVA
Horn Valuation

Sign up for this blog here if you’re interested in valuation for family business succession and dispute settlement. My clients are business owners and attorneys. You can email me at [email protected] and connect with me here on LinkedIn, Facebook, Twitter, YouTube and Instagram.

“Once-in-a-lifetime events demand an expert.”

Seller Misconceptions That Disappoint

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misconceptions

Here are common examples of business seller misconceptions and the more likely realities.   

“They have the money.”

Are you judging a book by its cover? I’ve run into this if the potential buyer is a local celebrity, mover and shaker, drives a nice car, etc. None of these status symbols mean they can write a big check or borrow the money to buy your business.

“I will get paid upfront.”

Many deals are owner-financed instead because (1) most buyers can’t write $1 million and higher checks and (2) banks rarely loan on intangible assets. Unfortunately, that also means you need to make sure the business will turn a profit after you stop working there or you won’t get paid.

“It’s worth annual sales.”

This is someone who thinks if their annual sales are $5 million, their business is worth $5 million. Some businesses sell for 1 x sales and higher but don’t get your hopes up until forward-looking cash flow, growth, and risk support that value and a serious buyer proposes a number at that value. This is rare. 

“My friend got 10x EBITDA. My business is worth that too.”

Do you have all the details about your friend’s business, the structure of the deal, and the buyer? A conversation over lunch isn’t sufficient. Unless they are willing to share their documents, it’s unlikely you will understand how the deal was done. It’s possible they don’t even fully understand it.

“My daughter/son/competitor will buy it.”

Have you talked to them? Often, the conversation was superficial. Have real conversations with children and competitors if they are your exit plan. If the answer is “yes,” you still have a lot of work to do. If it’s “no,” you have even more work to do to find replacement buyer(s) and execute your plan.

Parting Thought

Once these become part of your belief system, it’s hard to get them out of your head. My clients that avoided disappointment were realistic and thoughtful. They asked a lot of questions before they formed opinions. Often, the number in my valuation report was a pleasant surprise. It doesn’t guarantee a sale at that value but it’s better than getting attached to a plan and a number based on misconceptions.

Josh Horn, CPA, CVA
Horn Valuation

Sign up for this blog here if you’re interested in valuation for family business succession and dispute settlement. My clients are business owners and attorneys. You can email me at [email protected] and connect with me here on LinkedIn, Facebook, Twitter, YouTube and Instagram.

“Once-in-a-lifetime events demand an expert.”

Higher Business Value Comes from Action

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action

Here are examples of risks in businesses I valued recently. 

Risk

  • The Company has high customer concentration. One customer comprises 80% of sales. If the Company lost this customer, it could go out of business. 
  • There is key person risk embedded in the knowledge, experience, and abilities of the owners that has not been taught to other employees. If any owner dies or becomes disabled, the Company would have difficulty performing critical functions. 
  • The Company has no buy-sell, operating, or other legal agreements. The lack of an agreement directing how issues such as retirement, disability, death, divorce, bankruptcy, quitting, and terminations (among others) should be handled could cause delays, confusion, and shareholder disputes. A dispute that cannot be resolved could put the Company out of business. 
  • No single shareholder can make controlling decisions. This could gridlock the Company when decisions require a legal majority or supermajority.
  • Neither the owners nor the Company owns insurance policies covering the lives of any of the owners. The Company will need to buy out deceased owners with Company assets. This could deplete cash and working capital required for payroll and vendors. 
  • There is no written standby agreement with another company or individuals that could mitigate the effects of losing key people. If enough key people are lost, the Company could go out of business without a backup plan. 

Fortunately, you can take action to solve all these problems.

Action

  • Diversify your customer base. Actively cultivate multiple new customers that can replace the sales of the customer creating the concentration.
  • Train your employees on the knowledge, experience, and abilities of owners and key employees. The book, Traction, has some great examples. A short version is to document your processes using the 80/20 rule and keep it simple.
  • Contact an experienced attorney who can draft and put a buy-sell agreement in place. Review it at least once a year to make sure the provisions are still sound.
  • Put controlling decisions in the hands of fewer owners or create an agreement that provides remedies to make decisions faster while protecting all the owners.
  • Purchase life insurance covering all owners. How this should be structured will be different for every business. It’s good practice to coordinate life insurance with the buy-sell agreement. Be mindful of various income and estate tax provisions you must navigate. You should have a good idea of the value of your business on an ongoing basis so that the life insurance proceeds are sufficient. 
  • Contact companies that could help run or even buy your Company in an emergency. Emergencies could include death or disability of owners or key employees. You can structure formal or informal agreements with a company that could step in if necessary. This can be particularly important if you’re the sole owner and your spouse would have to find someone to run or buy your Company.

Parting Thought

Take action on each of these risks by putting them on your calendar and chipping away one at a time. It will increase the value of your business and even if you decide not to sell, you will sleep better.

Josh Horn, CPA, CVA
Horn Valuation

Sign up for this blog here if you’re interested in business valuation for family business succession and dispute settlement. My clients are business owners and attorneys. You can email me at [email protected] and connect with me here on LinkedIn, Facebook, Twitter, YouTube and Instagram.

“Once-in-a-lifetime events demand an expert.”

Tradeoffs in Business Valuation Settlement

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tradeoffs

I’ve had some success helping owners who wanted to stay out of court over business valuation disputes. There are tradeoffs, however.

The value of a business (simplified) is:

V = CF x (1 + G) /
(R – G)

Where V = Value, CF = Cash Flow, G = Growth, and R = Risk

We solve for “V” by estimating the other three variables. If any one of these happens:

  • Cash Flow (CF) goes up
  • Growth (G) goes up
  • Risk (R) goes down

Value (V) goes up and vice versa.

When all three variables move and in the same value-increasing or value-decreasing direction, the value of the business can really change.

It’s important to understand what tradeoffs you may be accepting to reach a faster settlement out of court. In practical terms,

  • Management interviews are usually limited.
  • Documents reviewed are usually limited.

As a result,

  • Future cash flow could be higher/lower than what is known.
  • Future growth could be higher/lower than what is known.
  • Future risk could be higher/lower than what is known.

Here are examples of needle movers that may be unknown without enough interviews and documents:

  • $1 million in new sales from customers (CF up)
  • $1 million in new equipment purchases needed (CF down)
  • High-demand technology developed (G up)
  • Headed into a down cycle (G down)
  • Owner able to be absent from successful business (R down)
  • One customer comprises 90% of sales (R up)
  • Discounts for lack of control & marketability? (V down)

If you’re an active owner in the business, these needle movers may be known. If you’re a passive investor, living somewhere else, or married to the business owner, they may not. It’s also not unusual for an active owner to know things another active owner does not simply because of division of responsibilities. 

Why Does this Matter?

Here are two examples that show business value ranges when all three variables are changed.

Example 1:

  • Solve for “V” when:
  • CF = $450,000
  • G = 2%
  • R = 25%

$450,000 x (1 + 2%) / (25% – 2%)

= $459,000 / 23%

= $2,000,000 Value

Example 2:

  • Solve for “V” when:
  • CF = $550,000
  • G = 4%
  • R = 18%

$550,000 x (1 + 4%) / (18% – 4%)

= $572,000 / 14%

= $4,000,000 Value

The value of the business doubled and increased by a whopping $2 million!

Parting Thoughts

I am not encouraging you to go to court in every situation. I was hired in cases that went to court that shouldn’t have. The critical point I want to make is you should work with someone like me to estimate the likely highest and lowest values for the business. After a range of values is estimated, you can make an educated determination to accept tradeoffs or push for more information. Sometimes, more information gives my clients enough peace of mind to settle their case. Sometimes, they decide they must go to court. If you’re interested in more information, my webinar, Settling Business Valuation Disputes, is here: https://youtu.be/43xLivwdyOs

Josh Horn, CPA, CVA
Horn Valuation

Sign up for this blog here if you’re interested in business valuation for family business succession and dispute settlement. My clients are business owners and attorneys. You can email me at [email protected] and connect with me here on LinkedIn, Facebook, Twitter, YouTube and Instagram.

“Once-in-a-lifetime events demand an expert.”

How to Speed Up Your Business Valuation

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speed

After, “how much will this cost?”, the second most common question I get is, “how long will this take?” These will speed up your business valuation. 

Close the Books Faster

Even with all the automation tools available today, many businesses take too long to reconcile accounts, close their books, and provide clean financial statements. Work towards closing a few days after a month and year. Sit down with your accounting team and figure out the roadblocks. Too many manual processes? Data everywhere? You may need to…

Upgrade Accounting Software

Many businesses haven’t modernized at this basic level. Software today can be accessed anywhere online, has security protocols, and can create reports your business valuation analyst needs. Your valuation analyst can also remotely access your accounting information and run reports. Without this, they will spend more time at your facility and need more of your valuable time. You’ll be better positioned to…

Digitize Everything

If your systems are mostly paper, it’s time to step up your game. Not only will it slow your business valuation, but you’re more susceptible to fire, flood, and theft risks. Having the ability to produce documents for your analyst in Adobe and Excel will save time. Request that your accountant and attorney provide digital documents so they’ll be easily accessible when you’re ready for a business valuation.

Parting Thoughts

The benefits of this extend to more than business valuation when you want to sell or transfer your business. By closing your books faster using modern accounting software and digital documents, you can increase business value every day because you’ll have data to increase cash flow and reduce risk at your fingertips. Consult with your IT professionals to make sure your data is secure and backed up off site.  

Josh Horn, CPA, CVA
Horn Valuation

Sign up for this blog here if you’re interested in business valuation for family business succession and dispute settlement. My clients are business owners and attorneys. You can email me at [email protected] and connect with me here on LinkedIn, Facebook, Twitter, YouTube and Instagram.

“Once-in-a-lifetime events demand an expert.”