How Much is Your Business Worth?

July 23, 2013 — Leave a comment

by Bill Fotsch

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CEOs of publicly traded companies know exactly how much their businesses are worth every day—the stock market tells them. Owners of closely held companies usually have no idea.

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Why does this matter? Because every company that doesn’t close its doors will ultimately be sold. Most entrepreneurs I work with are trying to build value in the company against the day they decide to cash out.

You can, of course, hire a valuation consultant, and a good one can give you an approximation of your company’s value. But there’s one big variable that many consultants don’t take into account: you.

Think about it. Most of the entrepreneurial businesses I know are reflections of their founders. The founders have poured their hearts and souls into the companies. They are the visionaries, the leaders, often the chief cooks and bottle washers. They are usually the #1 sales reps and the #1 problem solvers. Some companies would literally fall apart without their founders.

So what are those companies worth if their owners plan to sell and walk away? In rough terms: zero. Or perhaps the fire-sale value of the assets.

But some entrepreneurial businesses do not depend on the founders. The management team and employees are fully engaged in the company. They can run it on their own because they understand how the business works. They know what they have to do to succeed.

For example, I worked with one company whose two principal owners are now in their 60s. When we started, sales were headed south. Profits were poor. The company’s valuation at that point would have been pitiful, particularly because it might not have survived the founders’ departure.

But then the owners introduced open-book management. They helped their managers and employees focus on one key number—they called it job margin dollars—that drove financial success. They offered a generous bonus that rose with every extra dollar of margin. Employees began taking action, like figuring out how to reduce rework.

Long story short: last year the company blew away what was already a very aggressive growth budget. All employees got bonuses equal to 20% of their yearly pay. Managers and front line troops were on their way to building a very successful company—even though the two owners had now begun to step back from day-to-day involvement.

By any calculation, higher profit leads to a higher valuation. And because the company was growing again, its price-to earnings ratio was likely to be higher as well. Best of all, it no longer depended on the daily involvement of the founders. It was a business that could stand on its own.

If you want to build value in your business, today or in the future, you might want to try open-book management. It gets everyone engaged, and it strengthens the organization. It helps people learn how to operate the company without you. And that is the key to a successful and profitable sale—whenever the right time may come.

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