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Building Business Value to Close the Gap

Building Business Value to Close the Gap

Exit planning is a process that results in the creation and execution of a strategy allowing business owners to exit their businesses on their terms and conditions. It is an established process that creates a written road map, or exit plan, often involving the efforts of several professionals, facilitated and led by an exit planning advisor who ensures not only the plan creation but its timely execution.

Exit planning strategies encompass where to begin, what to look at and evaluate in your business, and how to go about planning for your transition. One of the first steps in a successful business succession plan is creating as much value in your business as possible. This is the time to take a step back and look at the aspects of your business and determine where you can improve your value.

Understand the Steps to a Successful Succession Plan

According to a recent survey conducted by the Business Enterprise Institute (BEI):

  • 79% of business owners are expected to transition out of their business in the next 10 years
  • 78% of business owners have discussed their transition plans with their family
  • Only 17% of business owners have put their actual plans in writing

When you started your business, you typically made a business plan but why doesn't anyone want to create an exit plan?

Think of it as not having a will. Your business needs a “will”, not just a buy-sell agreement, in case something happens to you. A written plan is crucial that details how and when you are going to exit your business.

To ensure a successful exit plan, there are steps every business owner should follow. The first step in this process is to identify the owner’s objectives. It is important that business and personal financial resources and goals align. As the business owner, you need to look at what your objectives are as well as your personal and business goals to really establish a good comprehensive plan.

Know Your Objectives: When, Who, and How Much

When thinking of exit planning, there are three main objectives:

  1. When do you want to sell/exit?
  2. To whom do you want to sell or transition to?
  3. For what price do you want to sell your business for?

These three objectives are a systematic approach that starts by looking at all of your possible goals and objectives and all of the possible actions you can take to achieve those goals. All those possibilities are narrowed down until the best solution is achieved given your objectives.

When Do You Want to Sell/Exit?

When you exit is the one area that might change most often. Outside influences can change the timing of an exit. Examples are market values, a pandemic, even personal objectives could be different. Getting into business is one thing but getting out of it is a whole other aspect.

To Whom Do You Want to Sell or Transition To?

One of the options of who to transition your business to are family members working in the business. You have options to gift and/or sell shares to family members. It’s important that you have family members work in the business first before the transition because you will want to make sure they really understand the business for it to be successful.

Another option is transitioning to insiders such as your management team. Oftentimes there are management groups already in place that are more than capable of running the business. Further options are ESOPs (Employee Stock Ownership Plan), strategic buyer(s), or a competitor. When choosing who to sell to, it’s important to align your personal objectives with the objectives of the potential buyer.

For What Price Do You Want to Sell Your Business For?

The third objective in exit planning is how much will you sell your business for. That price is based on knowing the answer to how much your company is worth. There are multiple ways to value your business. It's not just looking at your bottom line or your assets and saying that is what your company is worth. Some ways to value your business are using a multiple of EBITDA, using a multiple of seller discretionary expenses, or it could be based on your company's cash flow.

(Download Video Transcript)

Business Value: How Do I Close the Gap?

The asset gap is a term in which there is a gap between the resources a business owner has and the resources they’ll need for a comfortable business exit. In order to determine whether there is a gap or not, you need to determine the value of your company and then what your needs are in retirement. To close the asset gap, there are three options:

  1. Stay and Work – If you have a business where you receive a good salary, it’s providing a good lifestyle, and you can’t make up the asset gap, then you should continue to work.
  2. Get What You Can – If you only get what you can get for your business, you will need to update your goals and change your lifestyle to shrink the asset gap.
  3. Build Value – Increase the value of your business so your retirement goals are met.

Building Business Value with the Value Builder System™

The Value Builder System™ measures the risk in your organization through an assessment of various areas of your business and it helps you identify where those risks lie. As you grow your business into a valuable asset for the future, the first step is to assess the value using the 8 key drivers of business value. Each of these value drivers are used to evaluate where your business stands today and outline areas to improve.

1. Financial Performance

This value driver does not mean you need to have an audited financial statement or even a reviewed financial statement, but what it does mean is you need to have accurate financial information. It's important that when a potential buyer starts the due diligence phase on your organization, they don't lack trust in the numbers and those numbers are accurate. A potential buyer will want to look at some successful results and they're going to focus on top-line revenue and bottom-line income.

2. Growth Potential

When addressing growth potential, it comes down to capacity. A company that is already at capacity is not going to be worth as much as a company that has capacity. When someone looks at buying your business, they want to buy it because they want to take the business to the next level. Key areas of growth potential are through revenue expansion and earnings predictability.

3. The Switzerland Structure

Independence is the theme for this driver. It’s important to not be reliant exclusively on a single customer. A business also should not be reliant on a single vendor, a single supplier, or even just your employees. Just like Switzerland, a company should be neutral to its customers, vendors, and employees so there isn’t a reliance on just one single source. Being too reliant on one customer, vendor, or employee can impact the business’s value.

4. Working Capital

Working capital is basically your company's cash flow – it’s the difference between receivables and inventory compared to accounts payable. One might think that it’s a good thing to pay all vendor invoices at once so there are no payables, but it’s not necessarily good from a cash flow standpoint. You don't necessarily want to have more receivables than payables on your financial statements because then you’re paying out more than you are bringing in. It's a very important balancing act to have the right receivables and inventory to payables because when you're getting ready to sell and a buyer looks at those numbers, it can affect the value and ultimate sales price.

5. Repeat Sales (Recurring Revenue)

Often companies chase the work that they're getting. But if you can find a way to have recurring revenue come into your business automatically, the more the value of your business will increase. To have a steady recurring revenue stream, determine what you can do with your business and what you can sell that can automatically repeat again and again. Service can be an option in terms of service contracts. For example, a customer may buy a product and then they also purchase a year's worth of service that could be billed automatically monthly and then every year that service renews.

Whatever it might be, you want to create a way to automatically have your revenue reoccur so you don't have to chase it as much. It also gives you predictability so you can actually look at your sales in the future and you can budget. Recurring revenue is something that increases your multiple when you're looking at valuing your business quite a bit.

6. The Monopoly of Control

This value drive has to do with finding ways to differentiate from other people. What can you do to really set yourself apart from your competition? The answer is to look at what your customers’ needs are. Every organization should challenge themselves to do this. If you do, then you're going to have more ability to have pricing strength because you're offering something that no one else offers.

7. Loyalty (Customer Satisfaction)

It’s important to measure your customer loyalty and your customer satisfaction. One way to do this is with the Net Promoter Score. This survey is one question which states: On a scale of 1 to 10, how likely are you to refer someone to this business? Then based on the score, you can tell how well your customers are satisfied with your business:

        • Score of 9 or 10 are the attractors. These customers are the ones who are actively promoting your business, sending referrals your way, and telling people that they need to buy your products.
        • Score of 7 or 8 are considered passive customers. They come to you when they need something but they're not actively promoting your business to other consumers.
        • Score of 1 to 6 are the detractors. These customers are not loyal to you. They're ones that might buy from you if it's convenient but they're not actively trying to come to your business.

One recommendation when implementing the Net Promoter Score is to add an optional question that asks why. People by nature have a tendency to want to tell you if they're dissatisfied with something or they're unhappy. It's important to always add this optional question because this will give you some insight into areas to focus on if you do get a low score. Then resurvey your customers within about 9 to 12 months to see if you've gained some better scores.

8. Management Depth (Hub & Spoke)

This raises the question – do you have a management team in place or is the business solely reliant on you? This area is about changing the owner's mindset from needing to be all in on the company details to one being focused more on the higher-level areas and being able to plan for the future. If you’re trying to sell your company and it’s solely reliant on you to bring in the business, it's going to be hard for someone to take over when you're the one that's doing most of the work. As the business owner, you need to plan for the future and build your company's value. Your management team should be relied upon to run day-to-day operations so they can transition with a new buyer when the time comes.

Get Your Value Builder Score

To assess the value of your business, take the Value Builder Assessment Survey. Once the survey is completed, it will generate your score that will give you some insight into the weaknesses of your organization. You will be scored independently in all areas, and you will also get an overall score. Businesses that score 80% or higher tend to sell for about 70% more than those that score less than this threshold.

Take the Value Builder Assessment Survey

Every business has weaknesses somewhere and using the Value Builder System™ can help you identify what those weaknesses are. Once you identify and correct them, your score will increase and the value, and ultimately sales price, of your business will increase as well.

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Biz Tip Topic Expert: Nancy Mehlberg, CVB, EA

Nancy Mehlberg, CVB, EA

Nancy is a Principal with SVA Certified Public Accountants and helps clients improve their company profitability and protects their interests by clearly understanding their future goals. She works closely and proactively with clients with an emphasis in business and income tax planning and financial reporting.

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