An Exit Planning Tool - The Sellability Score

Are you thinking about selling your business, but you’re not really sure where to start?  Do you have an exit strategy in place?

Selling a business is not as easy as selling a house.  With a house you know what you’re selling - 3 bedrooms, 2 bathrooms, a great view, in a popular location.  There are probably several similar homes in the local neighbourhood that you can look to for comparison and you can always call on the expertise of your local real estate agent when considering a potential sale price.

When selling your business, it’s difficult to gauge exactly what you are selling.  You may ask yourself: is my company valuable?  Is my business sellable?  The Sellability Score can assist you in answering these questions.  

The Sellability Score is an online tool developed by best selling author John Warrillow, whose work includes "Built to Sell: How to Create A Business That Can Thrive Without You".

Your company's Sellability Score reveals how "sellable" your business is and predicts the likelihood that you will command a premium over industry average multiples when you’re ready to sell.

In just 13 minutes, this absolutely free and confidential self-assessment tool will score your business in a number of key areas and tell you just how sellable your business is.

How does it work?

You simply complete a brief online questionnaire to receive an immediate Sellability Score of between 1 and 100 for your business.  You will also receive a 26 page report full of charts and graphs that will give you insights into how buyers evaluate your business.

The report contains more detailed information on the eight key attributes of a sellable business and why these factors are so important.  It will help you pin point the areas in your business that need improvement in order to maximize the value of your company.

The Sellabilty Score report will provide you with valuable information, including:

• whether your business is ‘easy’ or ‘hard’ to sell;
• how to improve the sellability of your business; and
• the questions you need to be asking before you sell your business.
 

You may not be considering selling your business at this point; however completing the Sellability Score can help you to plan your exit strategy effectively.  It can also help you grow your business in such a way that, when the time comes to sell, the business’ value is maximized to its full potential.

The Sellability Score questionnaire can be taken at the following link:

http://www.sellabilityscore.com/vsp/jason-kwiatkowski

Verbal Valuations For Planning Purposes

"Knowing the value of your business is just good business. It is important to get a professional business valuation, since owners may grossly overestimate or underestimate the value of their business."  [1]

  

There is often an immediate need to retain an independent expert Chartered Business Valuator (CBV) to prepare a business valuation report.  Previously, I have discussed the different situations CBVs are retained to prepare an independent business valuation report.

Valuation reports prepared by a CBV must adhere to the professional standards of the Canadian Institute of Chartered Business Valuators (CICBV).  For example, CICBV Practice Standard 110 – Report Disclosure Standards and Recommendations sets out the report disclosure requirements for the three different types of valuation reports (i.e. Calculation, Estimate and Comprehensive).  For further reference please visit

http://cicbv.ca/practice-standards/.

Standard 110 defines a valuation report as "any written communication containing a conclusion as to the value of shares, assets or an interest in a business, prepared by a valuator acting independently."  A written communication includes a report, schedules, letter or email.

According to Standard 110 "the valuation report shall provide sufficient information to allow the reader to understand how the valuator arrived at the conclusion expressed."  As a result, the valuation report (depending on the type of report) may contain the following sections: i) Introduction; ii) Definitions; iii) Scope of Review; iv) Company Background; v) Industry and Economic Discussion; vi) Valuation Approaches; vii) Description of the Valuation Calculations; viii) Key Assumptions; ix) Restrictions; and x) Conclusions. To prepare a written valuation report, additional time is spent by the valuator ensuring these report disclosure standards are met.

In certain situations a business owner may not require a written report.  A verbal communication of value may be sufficient where an indication of value is required for planning purposes.  Examples include: i) benchmarking for wealth management or value enhancement; ii) planning the eventual sale of the business (internal or external); (iii) preliminary assessment of a potential target business to acquire; and iv) insurance coverage purposes (e.g. key person, buy-sell, etc.).

The scope of work, analysis and conclusions will be the same under both the verbal communication and the written report.  Under a verbal communication, however, no valuation report is prepared. The benefits to a business owner of receiving a verbal communication include:

1. Still getting the expertise of a professional valuator;


2. Not as expensive as no valuation report is prepared; and


3. Can choose to have a valuation report at a later date.

The downside to receiving a verbal communication is that there will be no take-away for the business owner as the valuator is precluded from distributing any materials whatsoever, including the valuation schedules.

Verbal valuations, however, can be very useful in planning situations where the business owner wants the expertise of a professional valuator but does not require a written report and does not want to incur the cost of having the valuator prepare a written report.

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1.  Source: RBC Business Succession Planning: Your Essential Road Map.

Growth - What To Do When It Flat Lines

Growth is a key value driver for most businesses.  A good growth story with plans for future growth is very appealing to potential purchasers.  Many successful businesses, however, reach a point where their growth starts to slow as the company matures.

Demonstrating how a business is likely to grow in the future is one of the keys to driving a premium price for the company when it comes time to sell.  Showing a potential purchaser that the business has achieved past growth plans will increase the credibility of a current growth plan.

The Ansoff Matrix is one tool business owners can use to develop a growth plan.  The following four growth strategies are considered:

1. Sell existing products to existing customers (market penetration) 
2. Sell new products to existing customers (product development) 
3. Sell existing products to new markets (market development) 
4. Sell new products to new markets (diversification) 

Figuring out how to sell existing and new products/services to existing customers (i.e. the first two options) often provides the lowest risk options for growth.  The best customers are the ones who know and like the business the most and are often pleased to find out that the business is offering something they need.

Existing Products to Existing Customers (Market Penetration)

Consider a hardware store with a key cutter hidden off in the corner.  Despite the huge mark-up on cutting keys, sales are very low because nobody can see the key cutter.  By moving the key cutter up front behind the cash register customers begin to see the cutter and realize that the hardware store cuts keys.  Not surprisingly, many more keys are sold to existing customers, which increases the overall revenue per customer.

To figure out how to sell existing products to existing customers, a list with the existing customers’ names down one side of the paper and the products and/or services across the top should be prepared.  Cross-referencing the customer list with the product/service list will help identify opportunities to sell existing customers more of the existing products.

New Products to Existing Customers (Product Development)

Consider a BMW dealership whose typical client is an affluent family man in his forties.  After saturating the market for wealthy forty-something men, the dealership decided to think of the customer as the financially successful family rather than only the patriarch.

Instead of trying to sell more BMWs into a market of diminishing returns, the owner bought a Chrysler dealership so he could sell minivans to the spouses of his BMW buyers – a new product to the existing customer.

Existing and loyal customers trust and respect the business and its representatives. Identifying and meeting a separate or supplemental need for those customers will result in sales growth and value enhancement, provided the products/services can be delivered profitably.  If they cannot be provided profitably it may be more beneficial to consider investing in market development (existing products to new markets) rather than product development.

If you are building a business to sell one day and are curious to see how your growth stacks up, take the 13 minute Sellability Score questionnaire:

http://www.sellabilityscore.com/vsp/jason-kwiatkowski

Exit Planning Step 6 - Action Plan

"A goal without an action plan is a daydream."

               Nathaniel Branden, practicing psychotherapist, corporate consultant, and author

The final step in the exit planning process involves creating the action plan for the business owner and the business.  The action plan moves the business owner from the planning phase to the implementation phase and deals with the following basic questions:

1. What tasks need to be done and when?
2. Who will do it?
3. Who will ensure it is done?

Developing the action plan is a process that will take time but it is a critical step because this will determine what initiatives (short-term and long-term) will be implemented to ensure that the exit planning goals are met.  This process begins with assembling the key individuals (e.g. business owner, family, management team, professional advisors) for a strategic planning session.

Strategic planning sessions should be limited to 2 or 3 hours to avoid information overload, frustration and inefficiency.  The meeting chair will also distribute an agenda to participants beforehand.  Agenda items for the initial strategic planning session will include:

• Goals - restating the goals and objectives (from Step 1)
• Challenges - brainstorm obstacles that will prevent the business owner from achieving these goals
• Strategies - brainstorm strategies that will help overcome the challenges and help meet the goals
 

As many challenges and potential strategies as possible should be identified in this brainstorming session - aim for at least 20 challenges and 10 strategies at this stage.  Each strategy will be linked to one or more challenges.

Each strategy can then be rated in terms of timing (immediate, short-term, long-term) and priority (low, medium, high).  The top 3 to 6 strategies should be selected to form the basis for the action plan.  Ideally a consensus will be reached after much discussion regarding the pros, cons and other issues surrounding each strategy.  2 or 3 strategic planning sessions may be required to accomplish this.

Exit planning strategies could include: prepare a business plan, prepare a contingency plan (update the will and obtain adequate insurance coverage), prepare tax and estate plans, implement value enhancement initiatives, identify a successor, etc.

Specific tasks will then be identified for each of the selected strategies and an individual will be assigned responsibility for ensuring that action items are implemented.  This process can be overwhelming and should be simplified ("KISS") by breaking each strategy down into manageable pieces that will be easier to accomplish.  This will build momentum for the implementation of the entire action plan.

Some of the strategies can be implemented by the business owner and/or management directly.  Others may require the involvement of professional advisors with specialized expertise. 

  

Regular meetings (e.g. quarterly) should be scheduled with the entire team to hold individuals accountable for their responsibilities by reporting back on progress made and next steps.  Having an outside consultant chair the meetings will keep the team focused and accountable for getting tasks done efficiently and on time, ultimately ensuring results are consistent with goals and expectations.

Don’t let your goals remain a daydream - turn them into reality with an effective action plan!

In the coming weeks, we will discuss some of the specific exit planning strategies and value enhancement initiatives in more detail as well as how to ensure an effective strategic planning session.

Exit Planning Step 5 - Net Proceeds Analysis

The exit plan is progressing.  We have identified the goals under Step 1, determined the financial needs upon exit under Step 2, assessed the current value of the business under Step 3 and selected the relevant exit option(s) under Step 4.

The net proceeds analysis involves determining how much the business owner will "pocket" from the sale of the business after settling all liabilities, income taxes and other obligations such as sales commissions and professional fees.  Some business owners may not appreciate that the actual net cash received upon sale can be significantly lower than the agreed upon sale price.  This analysis should be conducted for the relevant exit option(s) and under various assumptions regarding the value of the business.

A good starting point is to estimate the net proceeds assuming a sale price equal to the current value of the business determined under Step 3.  Certain assumptions with respect to sales commissions and professional fees will be required.  

Does the resulting net proceeds meet the financial needs determined under Step 2?  If yes, then great, we are on track!  If no, then further analysis and action is needed.  Specifically, the sale price that provides net proceeds equal to the financial needs must be determined and the value enhancement initiatives that will increase the value of the business to that level must be identified and implemented.

It is vital to conduct this analysis 3 to 5 years before the intended exit in order to allow sufficient time to implement the value enhancement initiatives that will enable the business owner to meet the financial needs and achieve the goals.

Whereas the seller is interested in net proceeds, buyers are generally interested in a company’s enterprise value (i.e. value of the operations attributable to both debt and equity holders).  In order to reconcile the two, enterprise value is increased by the company’s redundant (i.e. non-operating) assets and decreased by the interest-bearing debt outstanding, closing costs and taxes to be paid on the transaction.  Redundant assets are not required to generate operating cash flows and generally not sold as part of the business operations.  Examples include excess cash, marketable securities, real estate and related party loans. 

With respect to transaction structure, the business owner may prefer a share sale to realize the benefit of the capital gains exemption.  A purchaser, however, may prefer to purchase assets to avoid undisclosed liabilities or to take advantage of the tax benefits from "stepping-up" the cost base of certain depreciable assets.  Transaction structure is often a key agenda item in negotiations between the buyer and seller.  As such, the seller should understand the implications of both an asset sale and a share sale.

A Chartered Accountant, Certified Financial Planner or tax lawyer can assist with calculating the net proceeds under various scenarios, including: different exit options, different sale prices, and different transaction structures.

Next week we discuss the final step in the exit planning process: developing and implementing the action plan.

Exit Planning Step 4 - The Exit Options

There are various exit options available to business owners.  The key to Step 4 of the exit planning process is to identify which exit option will best accomplish the goals defined under Step 1.  The exit options generally fall under two categories: internal transfers and external transfers.

The internal exit options include a transfer to the next generation, the existing shareholders, management or the employees.  Some of the advantages and disadvantages of each option to consider include:

	Internal Transfer	Advantages	Disadvantages
1.	Family member	-  Business stays in the family -  Can be a timely and seamless process -  Avoid information leak and confidentiality issues	-  Likely will not maximize price -  May cause family discord  -  May not receive cash at closing
2.	Shareholders	-  Existing shareholders know the business -  Can be facilitated through SH agreement -  Funded with proceeds from life insurance	-  May not maximize price           -  Potential dispute if poorly prepared SH agreement -  May not receive cash at closing
3.	Management	-  Management team knows the business -  Avoid information leak and confidentiality issues	-  May not maximize price -  May not receive cash at closing -  May require additional debt or equity financing
4.	Employees (ESOP)	-  Allows gradual exit over time -  Increase employee productivity and company profitability	-  May be a lengthy process -  Business buys back shares if employees leave

The external exit options include a third party sale (business owner stays under contract for a period of time to ensure a smooth transition or leaves the business immediately), a public offering, a recapitalization or liquidation.  Some of the advantages and disadvantages of the external exit options include:

	External Transfer	Advantages	Disadvantages
1.	Third party sale – stay or leave	-  Potential to maximize price -  Strategic buyers may pay a premium -  More likley to receive cash at closing	-  Information leak and confidentiality issues -  Could be a longer process -  Buyer may require VTB or earn-out -  Issues with transferability of customers and relationships if owner leaves
2.	Public offering (IPO)	-  Provides additional capital to fund growth -  Gives company a higher profile -  Valuation multiples are higher	-  Need high revenues, earnings and growth -  Business owner could lose control -  Time consuming and very costly -  Securities regulations
3.	Refinance / recapitalize	-  Owner can take some money off the table and diversify risk -  Owner can remain actively involved	-  If debt used, increases leverage and risk and may require personal guarantees -  If equity used, owner now accountable to equity partners
4.	Liquidate	-  Generally simpler and faster	-  Lower net proceeds due to liquidation costs -  Loss of jobs and severance costs

Serious consideration should be given to each of these exit options.  The options that will best achieve the business owner’s goals warrant further analysis and investigation.  Next week, we discuss the further analysis under Step 5 – The Net Proceeds Analysis.

The Value Enhancement Process - Step 2 of 2

In order to increase the value of a business the key value drivers must be identified.  Determining the key value drivers requires an assessment of each value driver’s relevance and impact in affecting value.

Relevance - refers to how important the value driver is to increasing the quantum and/or quality of the cash flows in light of the owner’s goals and time frame.  Each value driver can be classified as: (a) Not Relevant; (b) Somewhat Relevant; or (c) Very Relevant.

For example, having a sound business and growth plan will help a business sell more quickly and attract better buyers.  Therefore, possessing such plans would rank as very relevant.

Contrast this with implementing a more efficient manufacturing process to reduce costs.  This would be expensive, disruptive to existing operations and take significant time to implement.  If the owner’s goals include spending less time at the company and exiting the business at the end of one year, then this initiative would score lower on the relevance scale.

Impact - refers to the potential increase in value that addressing a value driver may have given the investment required and the company’s existing strengths and weaknesses.  Each value driver can be classified as having a: (a) Low Impact; (b) Medium Impact; or (c) High Impact. 

 

For example, the business may have customer relationships but no contracts.  In addition the relationships may be entirely with the business owner.  The lack of contracts and significant reliance on the owner’s relationships with the customers for repeat business are two value drivers that will score high on the impact scale.

Contrast this with a business that has name recognition in the marketplace, customer contracts in place and does not rely solely on the owner for continued business.  For this business, focusing effort and attention on these areas would not have a significant impact on value and, therefore, would score low on the impact scale.

After identifying each value driver’s relevance and impact, the key value drivers can be determined.  To assist in this process, each value driver should be classified as "neutral", "positive" or an "opportunity for growth".  A positive value driver implies that it is either not relevant or it will have a low impact on value.  An opportunity for growth represents the value drivers classified as very relevant with a high impact.  These are the key value drivers that, with effort and attention and through a solid action plan, will serve to enhance the value of the business.

Although there are many different value drivers, certain key value drivers are common to many businesses.  The top three categories of value drivers that tend to provide the best opportunity for value enhancement are as follows:

	Value Driver Category	Specific Characteristic That Will Increase Value
1.	Customer Base	Not dependent on any one customer or customer group Strong relationships leading to repeat business Existence of customer contracts
2.	Growth	Scalable operations going forward Viable growth plan Growing industry
3.	Management Team	Transferable management team  Significant experience and knowledge base Formalized roles and responsibilities

Next week we return to the 6 step exit planning process with Step 4 – Exit Options Analysis.