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Building a business to exit

Building a Business to Exit

Building a business to exitPeople often have a vague idea that they will grow their business and sell it one day, or perhaps they start out with a specific plan to exit within 5 or 6 years.

This is rarely thought through in detail as there is a dearth of information in startup books about what the end of the business journey might look like.

Exit is generally an end that isn’t well understood so it can be hard to plan with the end in mind.

In this piece, I want to consider what’s involved to sell a business or build a business to sell.

Books to Read

If your ambition is to build a business to sell, Shoe Dog the book written by the founder of Nike gives a good idea of what the journey might involve. Imagine yourself running such a business, with all the uncertainties that this might entail financially and emotionally. Does that appeal to you?

Another book that details the struggles that a household name business went through to emerge victorious at the other end is Dyson.

Realise that for every success there will be many businesses that don’t make it to the other side.

Many founders are likely to want to one day sell their business so the first question is why you hope to one day sell the business. Is it that you want to get a lump sum pay off to reward you for the long years you will put into creating the business?

Methods of Valuing a Business

EBITDA is the traditional method of valuing a business used by accountants, namely earnings before interest, taxes, depreciation, and amortisation.

There are relatively easy ways to value certain parts of the business – such as stock, fixed assets (land, machinery, equipment etc.).

There will very probably be a sizeable intangible element to the value of a business. Intangible elements would include “goodwill” – this could encompass trademarks, and the reputation of the company – ie the brand. Such assets are notoriously difficult to value, and in many cases will come down to how keen a potential buyer is to acquire the business in question. If there is a strategic fit, a buyer might pay a significant premium to acquire a business.

Therefore, in practice, exiting a business comes down to focusing on increasing revenues so that you have recurring income (preferably on contract). Other value drivers include IP, technology or media doing the work (to produce predictable and high margin revenues). It is also necessary to have scale such as a minimum of £5M or more in revenue.

In the book, Agglomeration by Jeremy Harbour and Callum Laing set out a vision for small businesses to be able to exit. However, even that strategy relies upon having at least £500K of EBITDA. A number most businesses don’t have as top line revenue let alone bottom-line profit.

When EBITDA is Not the Yardstick

In some cases, the yardstick by which a business is valued is not EBITDA but something else. That’s because there is no single formula to valuing a company on exit that can be used to precisely value every private business. The seller will want to drive the price up, and potential buyers will want the opposite. Stephen Robertson gave some useful insights on this topic in episode 18 of the Brand Tuned podcast

In my blog How You Can Increase the Value of Your Business Without Increasing Turnover I discussed Instagram and Whatsapp as examples of companies which were acquired for a sum well beyond their “market value”

These examples demonstrate that synergies within businesses can result in a valuation which is far higher than the company turnover or traditional methods of valuation might suggest. There is an element of the qualitative, rather than the quantitative, when assessing a company’s sale prospects, and if there is a competitive bid (as in the Whatsapp scenario) this tends to push the valuation even higher.

Maybe you are a local business serving a loyal customer base, or you are not in the technology space but rather selling goods and services. Whilst the examples I’ve alluded to of a strong valuation, not based on turnover, involve technology companies, most companies now interface with technology at some point.  We are living at a time when any company, even your small business, could learn from these examples, and be savvy about how to increase its value.

At the very least you will have a website to promote your business and all businesses increasingly have an online dimension. Many businesses become successful by offering an effective way of enabling consumers to buy from them online. In the blog post I referenced just now, I mentioned how Victoria Plum made bathrooms available to order on the web, and in less than 15 years built up a business worth millions of pounds. I also cited Skyscanner as an example of a website that has become successful.

Aiming to Succeed Using Technology

As the web and technology become more important in our lives, it means intellectual property is inevitably critical to businesses aiming to succeed in some way using technology.

Opening your eyes to what is involved to sell a business, and what type of business to build to be able to achieve a sale that gives you enough money to retire on is important if that’s your dream. What you don’t want to do is to chase an unrealistic dream just because it’s the holy grail of entrepreneurship that’s dangled in front of new businesses.

In many ways it’s the big lie in business that you create a business you’re going to potentially exit for a big pay out. That’s simply is not true for the majority of service based non tech businesses.  Indeed, for a law firm you don’t get a big pay off as is clear from Lynn Burdon’s book Lynn’s Laws of Leadership (Practical Inspiration Publishing)

If you’re thinking big, take some time or advice, to understand whether you’re being realistic, and what’s involved to sell the type of business you’re building so that if a time comes when you get tired or ill, or your priorities change, and you want to exit, you know what to expect.

According to Daniel Priestley, some small businesses reach a stage where they need to sell their business and find few takers. It could be that the spouse of the owner wants to hold the owner to their stated agreement of retiring. Or it’s possible that the business isn’t fun anymore. The owner may be bored, tired of it, is sick of the industry etc.

The business may need some work, but the owner doesn’t have fresh energy for it. They have paid off their house and have other assets that produce more than enough income to live happily. The business simply isn’t adding anything to their life but it’s taking precious time or location freedom.

Daniel Priestley believes that one problem business owners have is that they don’t believe their business would operate without them. They go in every day, or the owner is energetically tied into the business and even when they aren’t physically there, they can’t fully switch off. When such an owner comes to sell the business, even though the business is healthy and profitable, there isn’t an available buyer to take it off their hands. Many end up looking for ways to literally give their business away.

That’s one scenario where a business looks to exit. It’s remarkably common for many businesses to find they can’t sell their business when they want to sell it.

When You Want to Sell

If by the time you’re ready to sell your business, you find that there happens to be someone interested to buy it from you for the right price, then you’re very lucky and will be able to sell your business without difficulty (assuming you’ve got your affairs in order so that it will pass the due diligence stage without difficulty).

Due diligence is an exercise involving lawyers who will pour over your legal agreements, review your contracts, and look into the intellectual property and other aspects of your business).

However, in practice selling a business usually involves preparing for a sale at least 2 years in advance. It’s about identifying potential buyers, creating competition between them, making the business the best it can be in terms of EBITDA, and being ready for the sale so that nothing holds you up when a buyer for the business is available.

The reality is that the big payoff the owner assumed would be around the corner when they were ready to sell their business just doesn’t exist.

What the End for Many Businesses Looks Like

The end for many businesses may not involve selling the business as a going concern. When the owner wants to stop working, be that due to ill health or because they want to retire or indeed if the business owner dies leaving the business behind, the end will probably involve winding up the business and selling off its assets. These assets might comprise machinery, website, domain names, customer lists and any other intangible assets.

If you decide that you want to work till you drop then perhaps your exit planning should involve identifying a few competitors your executors could approach when the time comes. It’s likely they would be interested in buying your customer list at the very least.

In conclusion, most entrepreneurs go into business because they want more time, more freedom and more money. Certainly, more freedom and control over their lives is a key driver for many founders. So, if you’re not in business to achieve an exit, it’s worth knowing this at the outset, so that you can build the right business to match your aspirations.