Much is written about “value drivers”; strong financials, recurring revenue, desirable industry, scalability, impressive customer list, intellectual property, etc. However, I think of value drivers as almost prerequisites to attracting buyers for lower-mid market companies. But eliminating “value detractors” is frequently even more important to buyers because it helps minimize risk. In my opinion, the top two value detractors are: 1) owner dependence and 2) customer concentration.
Customer concentration is just what it sounds like – a high percentage of business derived from a small number of customers – maybe as small as one. My technology service company had this issue and frankly it was unavoidable. We had developed a web conferencing software and services platform specifically for hosting webcasts, webinars and online meetings for the pharma industry. One or two pharma companies can throw a lot of business your way especially if they are using your platform to market products. We achieved some diversification by changing our sales commission structure to focus on new customer acquisition. But at the time we were acquired, our lead customer still represented 20% of our revenues. We were fortunate that it was a risk our buyer was willing to take.
While a high customer concentration is a detractor and can negatively impact a valuation, owner dependence can be a real deal killer. And as the business owner, this is one you have the most direct control over. Speaking from personal experience I think the vast number of entrepreneurs are control freaks. It’s either part of our core personality or the fact that in the beginning with limited staff and capital, you had to do everything yourself. I remember one of my first meetings with our buyer, the questions kept coming - who managed the relationship with Merck, who managed the relationship with GSK, who managed the operations team, etc. etc.? If my answer was me, me, me they probably would have walked out the door. Put yourself in the place of the buyer and consider how much of the business is left when you’re gone.
Whether you have 5, 10 or 50+ employees, putting staff in key positions of authority is not only good for morale it’s good for your exit valuation. Delegation by you and other top level managers leads to professional development opportunities for the rest of your team. A workplace with opportunity retains and attracts talent and leads to innovation. We at the top don’t have all the good ideas. In fact as we gracefully age toward our 50’s or more, we need the energy and ideas provided by the younger generations.
Many business owners don’t think about valuation drivers and detractors until they decide to sell which of course is too late. A good interim target is to spread out the responsibilities so that you feel you can take a 3 week vacation without the place falling apart. You might be pleasantly surprised how well it runs without you!