The reality is many business owners don’t get big salaries or drawings on the way through, and have to wait until the day they sell their business to get their big pay day. An owner’s wealth is usually all tied up in their business until the day they liquidate it, which can be 10 or more years after they started it.
This may dishearten some of you, but:
a) It doesn’t have to be this way if you choose a different growth path e.g. growing faster, or selling a part of the business sooner.
b) Selling a business is actually no different to how you don’t see the rewards from property ownership until the day you sell the house. Rent can be profitable (if it exceeds the mortgage and other expenses), but it’s the capital sale and capital gain that generally makes most property owners wealthy. Just like selling a house the value will be based on two key factors: 1)the buyer’s perception of value and 2)the competitive tension from others who want it as well.
c) The rewards at the end of the rainbow can be very significant.
“If you aren’t going all the way, why go at all?”
None of us will work and live forever, so facing this exit strategy question for the future is crucial in determining how you need to operate right now in order to get there.
When it comes to the end of your business’ life there are only really four options you have as a business owner:
1. Close it – you don’t sell any of it! For businesses of little value to anyone else, this is an unfortunate end to all those years of hard work.This is especially common in many retail stores where the value lies only in stock, and some service based businesses where the value lies only with an individual’s brand/reputation that is non-transferable to others. The key to avoiding this is building transferable value that your successors/buyers can leverage from as well.
2. Keep it – in which case your financial focus will be profit so that you can extract wealth (salary, drawings, dividends) along the way.
3. Sell part of it – in which case your financial focus will most likely be a mix of profits, and also rapid sales growth too since a buyers price is heavily influenced by future sales projections.
4. Sell all of it – as above.
WHO WANTS TO BE A (PENTA) MILLIONAIRE? According to Smart Money Magazine, a study in the US identified that 80% of penta millionaires ($5 million+) are entrepreneurs who have started their own businesses and then sold them. Those last four words being the key ones! Business ownership is a proven and successful method to build significant wealth but generally only once there is a successful exit. Until that point many business owners often draw lower salaries than their employees feeling comfortable that they are somehow building a nest egg. The problem with this approach is that most don’t regularly calculate their progress towards that exit goal, or consider the exit options until it is too late. The solution is that you, as the owner, must build your company in a certain way with the end game in mind.
The key to determining which path to take is to work out which one is best aligned to your personal why, vision, values, and goals. However, three other key considerations are:
- Energy – how much, and how many years of it, do you have left?
- Cash flow – how much is needed to fund this growth and where will it come from?
- Timing – when is the best time for you to exit?
If you’re not sure what you want to do yet, then the best approach is to operate as if you were going to sell it, even if you’re not. Whether you sell or not later doesn’t actually matter right now. What matters is that you create a leverage-able asset that gives you the option to sell later should you want to. Remember the key concept about treating your business like you would any other asset – if it’s not gaining value then it’s going backwards.
A profitable, growing business that “could” be sold is great for staff too. Not only does it provide financial resources to grow and pursue exciting new opportunities, but exit sales often provide great opportunities to move into new roles or larger organisations with more opportunities.
“Go big or go home. Because it’s true.What do you have to lose?”
When you do sell a business, prospective buyers will do full due diligence into your entire financials and operations. You need to create the operational discipline to focus on sales and profit growth, and minimise waste. Strong sales and profits give you all the options, to sell or to keep.
FRANCHISE THINKING Perhaps the most famous franchise thinker is Ray Kroc, who built the most famous franchise of all – McDonald's2. Kroc was a milkshake machine salesman who became involved with McDonald’s, a small restaurant chain based in San Bernardino, California. The McDonald brothers were clients who had purchased multiple mixers. Seeing the franchising potential of McDonald’s, Kroc offered to work as a franchising agent for a cut of the profits. Ultimately, Kroc’s ambitions eclipsed those of the McDonald brothers. In 1955, Kroc became president of the McDonald’s Corporation. He bought out the owners entirely six years later. By the time of Ray Kroc’s death in 1984, McDonald’s had 7,500 locations in 31 countries and was worth $8 billion. His personal fortune was estimated at $500 million. We won’t all amass such huge fortunes in our lifetime, but by treating our business as a) the first of many and b) a model that someone will one day buy, we will significantly increase our chances to build something of great worth to the market.
No one knows which way the horses are going to come in and; unfortunately, no one can know the exact best time to sell your business either. It’s a true gambler’s dilemma. Do you keep going while you’re running hot with just one more bet/just one more year? Or do you take the approach that “one in the hand, is worth two in the bush”, and sell up while you can?
One thing we do know for sure though is that far too many owners play the game too long, holding onto their businesses for too long and missing the best sales window. One such Kiwi entrepreneur we know was on the verge of retirement and offered $100 million dollars before the GFC (Global Financial Crisis) around 2008. He said no as he wanted a bit more, and then kicked himself for the decision later, working even harder for the next 5-6 years to rebuild the business back up to that same valuation.
It’s very difficult to predict the future, of course, especially market downturns, but the concept of “sell on the slope (not on the way down)” generally holds true for all businesses.
This is where you rapidly grow a business, sell at point “a”, for “b”, with the buyer confident of getting to “c”. Assuming this happens, everyone’s a winner. There’s something in the deal for everyone.
A radically different, and usually harder, journey is also required for getting from “a” to “b”, and then “b” to “c”. It requires a very different management and leadership style, very hard work, tremendous experience, natural ability, and great staff appointments.
Some entrepreneurs are masters of building businesses rapidly and then selling early while future growth prospects look very positive e.g. Shane Bradley with Sella, GrabOne, pets.co.nz, and Neighbourly.
ECONOMIC TIMING Economic cycles can also have a big impact on the multiplier you can get for your business, and therefore the best time to sell it. In 2008 before the GFC (Global Financial Crisis) had kicked in, some Marlborough vineyards were going for as high as $220,000 per hectare. Just a year or two later though and these prices had gone backwards by as much as $100,000 to just $120,000 per hectare. It was only in 2016, eight years later, that the prices had picked back up again to pre-GFC levels.
What Investors are Looking For
When it comes to business investors we could write an entire book on:
- Common investment mistakes.
- Types of investors.
- What they are looking for.
- Where they are looking.
- Investment documentation.
- Valuation methods.
- Investment amounts and rounds.
- Deal dynamics.
- Doing the deal.
For now though, the important thing to remember is that business investors are no different to property investors really. Each will have their investment preferences and formula and there is no one-size-fits-all business for investors. Their preferences will be based on their backgrounds, investment beliefs, life stage and interests. We can though summarise what they are looking for on average.
Our Business Assessment Rating (BAR) tool was designed after a survey to over 400 of New Zealand’s top business investors on how they determine the attractiveness of a business for sale. Partial-investors will ideally want you to be strong across all measures as they are relying on the existing team to grow its value. Investors making a full acquisition of your business, however, may only care about some elements e.g. when Bacardi bought 42 Below they weren’t so worried about the poor profitability as they felt this would be resolved once they pulled the brand and range into their much larger supply chain and distribution channels.
Either way, if you focus your efforts on raising your BAR scores now, then it will put you in a much stronger position to exit later, and for a much higher valuation.
Big corporates will only pay for what they can’t steal.
Types of Growth & Exit Journeys
1. Low/no growth, low/no sale (or death)
This is the path of most businesses. Low/no growth leading to low/no exit sale opportunities at the other end.
2. Quick growth, quick sale (do growth once)
The great benefit of this approach is that you work hard for a few years, and then exit for a good multiple (multiple of profits) before the business needs new energy and new skills to keep that growth going. This is the “build to sell” model.
3. Quick growth, but best sale window missed
This is the situation above but where the owner held onto
the business… and growth got harder before maturing and plateauing to a natural size. The exit multiple is a lot lower than above, and often comes after many more years of working too. This is far from ideal.
4. Quick growth, decline, low/no sale
This follows on from the situation above – where the business went beyond maturity and actually started to decline. Again this is, unfortunately, fairly common. This can be a dangerous trap for business owners and leaders who remember their past glory and what they could have sold for, and throw themselves in deeper to turn it around.
5. Second growth phase, longer but higher sale (do growth twice)
For situations 3 and 4 above, the key to maximising your exit sale is to get the business back on the rapid growth path in order to “sell on the slope”. If this is you, then you’re on the right growth program. The downside is you have to do this rapid growth all over again. The upside is your exit sale might be even higher than had you sold when the business was younger (2. above).
Overlaying these last four scenarios together, we can see the rapid growth to a point (marked as “?”) and the four common paths and options ahead:
- You might have what it takes to get to “w” yourself, or you might decide to sell it to someone who can.
- You might have what it takes to overcome a tough period of no growth and then do it all over again, getting to “x”.
- You might be happy having the business plateau and stabilise at “y”, perhaps extracting profits year after year.
- You might even be happy with the business declining to “z”, winding it up and doing something else (although we doubt that after all your hard work getting there.)
As mentioned earlier, no-one can predict the future
of course, but these are very common business journeys that have repeated time and again over history. The key is knowing which one you’re on, which one you want, which ones you’re happy with, and which ones you’re not!
This critical question will arguably have more impact on the business’ growth path than any other decision, as leaders can be visionaries who take the business forwards to conquer new frontiers, or bottlenecks who restrict it from ever reaching any kind of critical mass or momentum.