By Clearvue Business Brokers
March 5, 2021
Your Company’s Value
You run your business extremely well and think about the company’s real value every day. Be careful not to fall into the trap of thinking that your company’s value is solely dependent on sales increases, cost-cutting measures, and short-term tactics, that may only temporarily spike profitability. This narrow and short-term approach often is not sustainable. A series of short cuts to improving value can actually kill company morale, negatively impact quality, and result in poor margins.
In terms of your company’s overall economic value, company risk to the buyer is a key concept that is often overlooked.
Risk and the Value of the Firm
The value of the firm model establishes that the economic value of any firm is the net present value of discounted future cash flows. A discounted cash flow is one that takes all risk factors into account. How certain is the future stream of your company’s cash flow? The higher the risk or lower the certainty that the cash stream will be realized, raises the discount factor. Risk factors used in financial analysis are set at some percentage above the riskless rate. The US government bond rate is a common example of a risk-free rate to begin the analysis. Your business is somewhere above the riskless rate, depending on a number of risk considerations. The amount today that an investor or buyer should pay for the potential cash stream that your business generates depends on the estimated risk factor.
Risk factor reduction is possible with consistent and reliable sales growth, proven ability to manage costs, sustainable quality and a well-trained and motivated work force. Your company can increase its value by reducing apparent and real risk, by making your company more reflective of policies and procedures found in larger or publicly traded companies.
Ways to reduce the risk factors that impact the overall value of your business:
- Increase regular new products through new product development programs. Key here is a track record of consistency in bringing new products and/or services to market.
- Increase financial transparency through well-established software programs and clean books. Financial statements document the consistency in cost control and the validity of your company’s revenue recognition methods. The expense of a well-established accounting package will be money well invested, in terms of increased transparency and lower variation around future estimates. Lower variation around future cash flows means a lower risk factor can be applied.
- Establish sustainable organizational structures—independent key management which can drive sustainable growth while maintaining quality. A well organized and well- motivated leadership team is essential to ensure a top down and bottom up quality program. A well-defined quality program pays for itself over time by demonstrating consistency and reduction in related risk factors.
- Provide continuing education and personal development programs run by well-organized and well-motivated leadership teams. In addition, an effective quality program can reduce risk around product safety, customer experience and many other risk concerns.
- Motivate your workforce to maintain clean, safe facilities. Create a great work environment where quality is a result of an efficient workplace.
- Be ready to meet demand and growth opportunities. Put a well-planned maintenance plan for infrastructure and system upgrades in the annual budget and manage the plan.
Company improvements in this fashion are sustainable and effective. Helping your company reduce risk and increase value is a service that Clearvue Business Brokers provides as part of our Market Value Study and Exit Planning Services.