Understanding the end game and how to scale a business ready for exit is a crucial skill for any serious entrepreneur.
With the recent sale of Spreets to Yahoo7! and last week’s acquisition of Skype by Microsoft, budding start-ups have been given a timely reminder of what it takes to ready a business for the ultimate exit.
When a sophisticated entrepreneur goes into a business, it is likely they have researched three or four companies that may one day be their potential buyer.
Understanding from day one who may buy you, and why, can make a significant difference to the way you go about building the business and what areas of the business you pay special attention to.
The exit point is where the majority of entrepreneurs will crystallise their biggest return in business.
Whether it be a private sale to another company, a sale to a publicly listed company or an IPO, understanding how to prepare for a transaction such as this will make a big difference to the net worth of the entrepreneur.
The average private business in Australia sells for 1.5 times its profit (EBIT). A multiple of 1.5 is what most business owners can expect if they sell a business with little to no preparation.
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Investing some time and thought into the process can see a private company reach valuations of anywhere between three to eight times profit.
However, if a company can tick a few more boxes like strategic value, good management, and operating in a growth sector, then traditional valuation goes out the window and, like any other sale, the company will sell for what it is worth to the buyer, which in some cases is significantly more than eight times profit.
Most of the variables that really boost a valuation are factors that are best prepared for while the company is still in its early days, while the entrepreneur can still move and shake the business model.
The five main fundamentals of preparing a business so it’s exit-ready are:
Key man risk
The number one risk factor in the majority of small businesses in Australia is that the company is too reliant on the owner.
Similarly, research has indicated that the number one criteria for investors or buyers looking at a business is a good management team.
It’s important that the owner, 12 to 18 months before looking to exit, puts in place a CEO that can run the business semi-autonomously.
This can be a scary transition for a lot of entrepreneurs who are used to overseeing every detail, yet it is crucial that the owner fire themselves if they want to build an asset that can one day be sold.
For those still in the early stages of business, it is beneficial to start thinking about how you can dilute your involvement in the company as you navigate through your growth path.
As an owner, removing yourself from the day-to-day of the business enables you to work on higher value activities such as creating strategic relationships, looking at acquisitions and working on the business.
Systemised and documented
Removing yourself from the business will largely be a function of how effective your systems and processes are.
Not only does systemising the business allow you to dilute your involvement as an owner, it means that every member of the team knows exactly what their roles and responsibilities are.
This is particularly true for businesses that are IP heavy. If the information that is needed to run the business is in your head, then this places a glass ceiling on the growth of the business.
Entrepreneurs who are serious about selling their business need to take what’s in their head and work out how to put it on paper so that it can be replicated without them.
A mentor of mine, Domenic Carosa, once told me, “You need to turn their intellectual capital (what’s in your head) into intellectual property.”