Successful business owners know exactly what makes their business profitable
Unfortunately, there is no simple way to determine the exact worth of your business. I am regularly asked by HVAC and plumbing business owners, what are the elements that influence the value of a business? How about enhancing the value of it? Where do I find a buyer? What do buyers look for? And the list could go on and on.
Questions about tax implications related to selling assets compared to shares are best dealt with by a financial advisor. Construction companies that get most of their work by open bid have little value other than their hard assets and the work on hand. Retrofit and service companies have higher values. Recurring revenues are great.
It is important to note that only 20 per cent of businesses listed for sale do sell. If you are getting ready to sell, you need to do everything possible to be the one out of the five that sells. We are now in the “grey tsunami”—meaning there are many owners who are older and want out and there are fewer buyers.
Value of your business
Here are some key elements that will help you get a better understanding of the factors that influence the value of your business and how to enhance it.
- Are your annual pre-tax profits in each of the past four years higher than five per cent of sales? If not, then your value will be a fire sale.
- Does the business rely on your everyday presence to succeed? If yes, fire yourself. Spend the next 90 days working yourself out of a job. Identify the day-to-day tasks you do and train others to do them.
- Is the majority of your work from repeat customers and planned maintenance? Building both will not only increase your sales but allow you to do more work in the shoulder seasons.
- Do you have good structures and systems in place? Develop them. Talk to your association manager. Many associations have good programs developed, for example, the Heating, Refrigeration, and Air Conditioning Institute of Canada (HRAI) has an excellent human resources program designed for its members.
- Do you have a high turnover of employees? Are your employees close to retirement? If yes, severance and replacement are two major issues.
Every successful business manager should know what it is exactly that makes your business profitable. Who are your most profitable customers and how much do they generate for your business? Make sure that you are able to show how you manage your cash flow. Being able to identify you company’s critical success factors and how you measure and monitor your key performance indicators will only add to the value of your business.
Ask yourself these three questions: 1) Would I buy this business? 2) Would I pay this price? And 3) If I bought this business, what would I do to improve profits? If you can answer these three questions, you are setting yourself up for success.
When looking to find a buyer, look to suppliers, industry associations, industry contacts, peer groups, business brokers, accountants, lawyers, and business consultants. And don’t forget the 10 Commandments of Buying a Business. (See below.)
What’s my business worth?
Firstly, review your balance sheet and remove any redundant assets. Excess working capital should be taken out along with assets that you might want to retain.
You need to calculate the normalized earnings before interest, tax, amortization, and depreciation (EBITDA) for each of the latest four years.
Take your profit in each year, before tax, amortization/depreciation, and interest, and add back any personal expenses that have run through the business. Adjust your salary to $120,000 per year. The average of the latest four years would be your average EBITDA.
Hopefully, by now, you have a realistic expectation of what you could expect for the business. Without a willing buyer you are not going to sell. A buyer who has a strategic reason for buying will pay the best price. Possibly a competitor or someone in a complimentary business. The buyer may see economies of scale, such as reduced rent, lower office costs, better utilization of manpower. Or maybe your contact list is a key ingredient.
Provided you are not in new construction, you should be able to get at least four times EBITDA and maybe as high as six times. If a share sale, minimize the working capital requirements. Keep inventory as low as reasonably possible as excess inventory increases the need for working capital.
One last point—no one is going to write you a cheque for the full amount. They will want you to take a vendor take back for one to three years and they are going to want you to help with the transition and maybe work for a year or two as they are going to be looking for assurances that the employees won’t quit under the new ownership and neither will the customers.
The 10 Commandments of Buying a Business
- Price is based on history. It does not guarantee the future, so evaluate the potential.
- Buy a good track record. Keep away from turnarounds. Buy something with a proven track record and spend your energies on fine tuning.
- Take control. When you buy someone’s business, you are losing a key element of that company’s success—namely, the previous owner. Make sure you take control.
- It’s all about making money. Don’t fall in love with employees, location, or products. Fall in love with profits and keep your objectivity.
- Focus on the few keys that add to the business. Don’t develop bad habits.
- Improve processes. Use technology to the max and develop key performance indicators for you and your managers.
- Find the nuggets. Talk to your customers and your employees and ask them the “Magic Wand” question—if you had a magic wand, what is one thing you would change about your business?
- Three musts: Explain things in simple terms, nothing beats a great attitude, and your team should be proud of what they’re doing.
- Keep looking for flaws and remember—the devil is in the details.
- Above all, have fun and make sure your team has fun, too.