Cashing Out: 3 Tips for Valuing and Preparing Your Business for Sale
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The grind that goes into building a business and creating a book of happy clients is remarkably hard. The perception of overnight successes that fill the airwaves betray the long, lonely hours and meager rewards earned while grinding through the struggle to get a start-up off the ground and into profitability.
After years of carefully caring for an idea that becomes a business, many entrepreneurs feel exhausted and begin to consider selling what they’ve created and retiring to a world of peace and comfort; or launching in on a fresh idea that they’re passionate about. That’s exactly where I found myself after 23 years of long days and unstable returns. The lights in my office seemed to burn brightest during the late night and early morning hours. All of the time away from family and friends was taking a strain.
While I knew how to build a business, I had no idea how to get away from it. I considered appointing a trusted CEO and backing into a role as chairman of the board. I loved the idea of providing advice and counsel while handing off the day-to-day grind to a more eager, qualified candidate.
Then, one night a fellow entrepreneur invited me to his home for a dinner party. Over drinks he laughed and smiled as he showed me around his custom 8,000 square-foot mansion overlooking beautiful Lake Norman. I asked him how he got so lucky (a term he and I ironically use to describe hard work and determination). He smiled and simply said, “I decided to sell one of my franchises. I cashed in on the pot of gold at the end of the rainbow.”
He then spent much of the evening giving me the rundown on how he transitioned from founder to investor. His days are now filled with pitches from hungry wantrepreneurs hoping to pursue their dreams with his cash and guidance.
1. Valuing a business on profits.
My friend (we’ll refer to him as Mark) shared with me that if you want to sell a business as quickly as possible, the valuation should be based on the profits earned by the company. A multiple of earnings is the most favorable method for valuation to the buyer, as they are paying based on the actual profits earned in previous years. It’s a track-record of success that can help set the true value of the business without the need for drawn-out negotiations.
Stever Robbins highlights this method in his article by looking at Warren Buffet’s approach to business valuations. “Warren Buffett uses what's called a discounted cash-flow analysis. He looks at how much cash the business generates each year, projects it into the future and then calculates the worth of that cash flow stream "discounted" using the long-term Treasury bill interest rate.”
If it’s good enough for the world’s third-richest billionaire, it very well could work for you.
2. Valuing a business on potential.
In the tech industry it’s much more standard to see a business’ worth to potential investors measured in potential earnings. While billionaire Mark Cuban likes to call expensive investments in start-ups and early-stage tech ventures “FOMO: Fear of Missing Out” money, the cost of purchasing or investing in tech can be dictated by the feeding frenzy of investors circling the venture.
Certainly, valuing a business based on potential is much more lucrative for the Founder(s). After-all, potential could be huge, even in a poorly executed venture. So, if you’re up for a longer negotiation, consider asking potential buyers to value your business based on the potential of the proprietary product or service your firm offers consumers.
3. Good housekeeping.
Nobody wants to purchase a lemon. Whether it’s cars or business, buyers want a smooth transaction and hassle-free ownership. So, if you’re considering selling your business, take a page out of Armin Laidre’s article, "7 Steps for Selling Your Business."
“Firstly, you'll need to gather together any financial statements and tax returns from the last three years and go over them with a professional accountant to ensure all of the papers are in order. Other important pieces of paperwork include contracts for leased premises, proof of ownership of assets you own and any debts the business has.”
If you have the power to remove debt from the business’ ledger, get on top of the obligation and pay it off. You need to make sure contracts are rightfully established between parties, and definitely make sure every Founder has been satisfactorily compensated for past work, while keeping them in-the-loop on your decision to sell. If the current ownership of the company is on board, paperwork and contract are in order, and the business is being run well, you’ll have a much easier time finding a motivated buyer.
The journey from founder to investor is a challenging, but potentially rewarding experience. It’s a time where all of the hard work and dedication can bear fruit. You can fund your retirement, and finally live life on your terms. But, don’t let your excitement about retirement (or your next start-up) cause you to leave money on the table. Take your time, dot all the I’s and leave your business on your terms.