Owners who have moulded their businesses to match what acquirers typically want are usually rewarded with a premium valuation. Those who don’t can be heavily penalised.
Jeremy Furniss, partner at Livingstone, an international mergers and acquisitions advisory firm, shares his thoughts on the most important things entrepreneurs with an eye on exit should be focussing on:
Very rarely will an acquirer pay a high price for a business and agree to the founder disappearing off into the sunset, when that founder is still engaged in hand-to-hand combat in the trenches of the business. It would be lunacy.
But unfortunately, a common problem we come across is that entrepreneurs wrongly perceive an exit to be their succession plan. The reality is they will only achieve an exit if they have a succession plan, and that plan is at the very least partially implemented.
Ideally, an entrepreneur will have ‘promoted themselves’ to chair, distanced themselves from day-to-day operational management, and appointed a CEO or MD who is demonstrably running the business successfully. Doing this six weeks before pressing the button on a sales process will look hopelessly superficial. Doing it a year or more before going to market demonstrates a sustainable and credible succession solution.
Without doubt, a business that has the wind in its sails and has enjoyed strong growth in the years leading up to a sale is going to be an interesting and exciting proposition to a buyer, and hence more valuable than a business that has been treading water for several years.
The key is being able to demonstrate an order book, pipeline, or contract base that is supporting visible growth into the future. You want to be selling the business when you have that visibility, and the buyer isn’t required to take a punt on you being able to sustain growth for the 12 or 24 months following the acquisition. The last thing buyers want to be worrying about is sales falling off a cliff a few months after paying a premium value for the business.
Although the absolute size of the business isn’t something that can be changed quickly, it is nonetheless very important for entrepreneurs to realise that scale is a key driver of value.
There are certain thresholds of business profitability – typically £1m EBITDA (earnings before interest, tax, depreciation and amortisation), £3m, £5m and £10m - that, when crossed, result in a much greater level of interest from acquirers.
More and more acquirers will become interested as each of these thresholds is crossed. Beneath £1m of profitability, you may struggle to attract significant interest from blue chip acquirers. Most acquirers would rather do one £50m deal than ten £5m deals. Just because a deal is small, doesn’t make it any less complex, time consuming, or expensive to execute in terms of advisory fees.
There is also a clear trend of valuation multiples (the value of the business divided by the annual profit) being higher for businesses with larger profits, as scale generally indicates a more developed and robust business.
4. A competitive bidding process
Finding the right types of buyers can have a huge impact on value. Acquirers will value a business based on their own perspective of what the target company can do for them.
In our experience, if we have three or four offers on the table from strategic acquirers, it’s common for the highest offer to be 50% more than the lowest, sometimes even 100% more. And that’s in a situation where all of those acquirers would have received an identical amount of information about the business.
You don’t want to talk to everyone; you want to talk to the five buyers who are really going to jump at the opportunity. That means being very thoughtful about who you approach, and being able to see the opportunity from their end of the telescope. This is an area where a good adviser can add a lot of value, narrowing the field of potential acquirers without having to speak to 20 or more.
‘Me too’ businesses rarely attract premium prices. In contrast, ‘differentiated’ businesses do. This could mean having an established and highly regarded brand; proprietary intellectual property; a proven research and development pipeline; unique products or services; or operating in a market with high barriers to entry (where it is difficult for new competitors to win over clients).
A final point Jeremy stresses is to avoid ‘dependencies’, which can depress valuation. So in addition to avoiding a dependency on themselves, entrepreneurs should be trying to make sure their businesses are not overly dependent on a single or small group of clients (if a single client accounts for more than 20% of revenues, alarm bells will start ringing with most acquirers); a single supplier for a key product; or key staff members (as is typically the case in service businesses, where a small team of ‘heavy-hitters’ can often account for a disproportionately large percentage of sales).
A good place to start when you are preparing your business for sale is to fill in the St. James’s Place Entrepreneur Club app, which will give you a clear picture of your current position.
The opinions expressed by third parties are their own and are not necessarily shared by St. James’s Place Wealth Management.
Exit Strategies may include the referral to a service that is separate and distinct to those offered by St. James’s Place.