The seven layers of valuation
Darren Shirlaw outlines the measures that will enable you to maximise the value of your business
There will come a time when you start to think about your own future in the business. In fact, if you haven’t thought about it yet, you should, because it affects your long-term thinking. I use the phrase ‘long-term’ deliberately, as any exit strategy for a founder, owner or senior partner is going to take time and planning to accomplish. Five years is a realistic goal.
Your first consideration is to understand your own priorities. Do you want to leave the business, but have it provide you with an income? Is it your intention to sell it on and walk away? Or perhaps you want to sell your equity, but retain control? There are a number of options and each has implications in how you structure and develop the company.
The main questions everyone asks are: “How much is my business worth?” and “How can I improve its market value?” Your accountant will advise that each industry sector has a traditional benchmark based on your profit times a multiple (usually between two and four), depending on industry standards and issues such as prevailing market conditions. But times are changing and if you can show you have in place the processes and strategies we have been discussing over the past months, then you can increase the value placed on your business considerably.
We have developed a framework called the Seven Layers of Valuation, and from experience we know that each layer you add increases the worth of your business by a particular multiple.
The first three layers relate to operational aspects of the business and correspond to traditional benchmarking practices. If someone is only buying access to your existing clients then they are just purchasing your current revenue – consquently, the business attracts the lowest value. If you have invested in developing your staff and they are functionally efficient, then they have a value to the business and the potential benchmark doubles. Add a number of effective processes that are better than your competitors – for example in IT, marketing, sales and training – and you are looking to increase the benchmark by a multiple of three.
If, however, you have developed the business strategically as well, then the benchmark multiple increases significantly.
The next consideration is product range. For instance, how many products do you have? Are you a one-trick pony or have you expanded your offering? And have you built sufficient customer loyalty so new products are readily accepted? If so, the multiple doubles to six.
After considering the product range, you should create a strategy that will open up new markets through establishing networks with creditable third parties or perhaps new retailers or wholesalers. This will provide you with the channels to develop and expand further, again increasing your value.
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Next on the list are your company’s market positioning and brand. A strong brand builds client loyalty, makes new products attractive and desirable, and draws the best talent; it makes other companies want to be associated with it. In short, a strong brand increases the desirability of your business.
Finally, if you can also replicate your business in several markets, you can achieve the highest multiple of all.
My advice to clients is to establish a formal record of strategic development and implementation progress via a company logbook, detailing the layers of valuation. This will be very useful in negotiating with potential investors.