Irish folklore is full of stories and fables about leprechauns, fairies and other wee people who are responsible for mischief and miracles as people embark on journeys to find the pot of gold at the end of the rainbow.
Has anyone ever discovered that elusive pot of gold at the end of the rainbow? Can you even find the end of the rainbow? Science folks explain that rainbows are made in the sky and never touch the ground so finding the end of the rainbow is not possible (The Naked Scientist https://www.thenakedscientists.com/articles/questions/where-does-rainbow-end)
Many business owners are also on their fantasy path seeking a pot of gold when they eventually exit their business. Is this pot of gold a mirage too or is it more tangible and realistic? Only time will tell.
In any market, prices are a factor of supply and demand. Anyone who has taken an introductory economics course has learned the intricacies of competitive markets and how the relationship with supply and demand will impact price. We see it every day in our financial market updates and the prices we pay in the grocery stores or at the gas pumps. An untimely frost in citrus-producing regions is seen with increased prices at the produce stands. OPEC countries agree to restrict the supply of oil on the world market to stabilize prices. Farmers gamble every year on what they plant-based on world prices and what market data predicts for global productions (supply) and demand.
The same is true for business transaction markets. For businesses to change hands from seller to buyer, there needs to be both a willing seller and a willing buyer. The market ultimately decides if the seller does, in fact, receive a pot of gold at the end of their tenure with the business.
Just as Irish folklore has many players in the elusive search for the pot of gold, so too are there many players in the business transaction industry. Lawyers, accountants, valuation experts, merger and acquisition specialists, business brokers, lenders and others can all play a role. Sometimes they are helpful and other times, they are putting up obstacles to getting the deal done.
The business owners often most surprised at how small the nuggets of gold are when they put their business on the market are those who have not planned and executed their treasure hunt well. Unlike the pot of gold at the end of the rainbow, business sellers can impact the pot of gold at the end of their rainbow if they strategically build value each and every year they own the business. They are in control of the size of the pot of gold. No one else puts it there for them to discover.
The multiples often quoted in the industry are set by the private equity markets. So, if you happen to have a business in an industry that typically sells with a multiple between .5 and 4.0, your business is unlikely to attract the multiples of industries with an 8 – 10 high end range. However, where you fit in the multiplier range for your industry is indeed under your control.
A buyer is looking at future earnings potential post-acquisition; whereas, a seller often looks back fondly on how well the business has provided for their family. Lifestyle businesses and many service-based businesses do not have high commercial transferrable value and thus are worth less than businesses that have intentionally built up transferrable commercial value: value that will transfer to the new owner. Why would a buyer pay good money for something they are not going to receive? Non-transferrable value is associated with the personal qualities of the operator or service provider rather than the owner of the business.
This is similar to the “ugly baby” syndrome. No one thinks their baby is ugly. Business sellers don’t think their business “baby” is ugly either. It is a common obstacle associated with owner-managed businesses that are put on the market. Approximately 80% of privately held businesses put on the market do not sell for various reasons. Unrealistic expectations tops the list!
Want to find out how ugly your baby is?
The second but related fundamental is a clear understanding of risk in the business. Businesses are inherently risky and business owners are risk takers. However, as an owner, you can take steps to bring the risk level down. By reducing risk, you increase your business’s value. Higher risk requires higher returns which drives down the price. Low risk businesses are attractive and thus realize higher selling prices.
De-risking is, in fact, the first step in accelerating the value of your business. De-risking isn’t as fun and exciting as embarking on growth initiatives but it’s a relatively easy way to increase the business’s value without significant time or investment.
As Elbert Hubbard reminds us, “do not take life too seriously. You will never get out of it alive.”, the same is true for business. Eventually, everyone will involuntarily exit their businesses. Being able to exit your business on your own timeline and with your preferred exit option is our goal. Whether you’re considering an internal sale to family or employees or an external sale to a strategic or financial buyer, the time to accelerate value is now. Build a little bit more value every day rather than leaving the heavy lifting to the final frontier. Ensure you are able to leave the legacy you desire once you exit your business.