Exit Planning is the process of:
1) maximising the value of your business
2) ensuring you're financially (and personally) prepared post business sale
3) ensuring you're prepared for retirement*1

Put simply, the aim is to ensure you and your family have "personal financial freedom and peace of mind"*2.

In this article, I'll look at maximising the value or your business. First, we'll look at a mock valuation of your current business and then consider whether we can increase the valuation. We'll discuss whether this done in the short term or done over a few years.

Current Valuation

I've written extensively on appraising business valuation. In short, you use asset, market and income methods, I'll ignore the asset method but let's look at the other two.

The market method is where you research similar business sales and make an assessment of the value on that basis. The income method is where you look at all the risks of future maintainable EBITDA and discount future income on the basis of those risks.

Market Method to Assess Upside

The market method looks at the EV/EBITDA ratios. EV stands for "enterprise value" and is the total value of the company: net debt plus equity. You know what EBITDA is but you may want to review my valuation articles to see how we adjust EBITDA to normalise it.

EV/EBITDA is usually expressed as multiple e.g. $25M EV / $5M EBITDA = 5x EV/EBITDA multiple.

In exit planning, we are not just interested in the current business value but also what it could be in the future based on market transactions.

For example here are illustrative data of business sales in the particular industry. The client business is called "Subject".

Table: Business Sales Data of Industry X (example only).

Business Name Location Date of Sale EBITDA (M) Revenue (M) Gross Margin % EV Stock EV/Revenue Multiple EV/EBITDA Multiple EBITDA Rank EV/EBITDA Rank
A NZ 2010 $3 $15 33% $6 $0 0.4x 2.0x 6 11
B AUS 2017 $15 $75 45% $75 $6 1.0x 5.0x 2 3
C AUS 2019 $5 $25 55% $20 $2 0.8x 4.0x 5 5
D NZ 2018 $2 $10 39% $6 $0 0.6x 3.0x 11 7
E NZ 2006 $3 $15 65% $12 $1 0.8x 4.0x 6 5
F AUS 2006 $3 $15 32% $9 $1 0.6x 3.0x 6 7
G AUS 2007 $10 $50 53% $70 $6 1.4x 7.0x 3 1
H AUS 2017 $9 $45 49% $45 $4 1.0x 5.0x 4 3
I AUS 2007 $23 $115 56% $161 $13 1.4x 7.0x 1 1
J NZ 2015 $3 $12 57% $9 $1 0.8x 3.0x 6 7
Subject NZ 2019 $3 $9 58% $9 $1 1.0x 3.0x 6 7
Mean $7 4.2x

As your business value appraiser, I make an assessment that the business is similar to companies J, D, and A, leading to an assessment of a multiple of 3x.

However, the average is 4x and the top quartile averages 7x.

If we multiply your business EBITDA $3M (million) by 3x we get $9M (ignoring working capital, assume no GST), the business value. Knowledgeable buyers in a normal process, transaction structure and market would pay about $9M for your business (in theory).

But what were the other businesses with higher multiples doing that led to a higher multiple? More on this below.

Income Method to Close the Gap

The income method goes through all the risks of the business: customers, suppliers, management and staff, IP, owner reliance, marketing, business systems, profitability, revenue, recurring revenue, customer contracts, competition, barriers to entry, competitive advantage, economy, possible buyer list, reason for selling...and much more.

There are different ways to assess this. I use either a business appraisal Risk Factor Questionnaire or Business Attractiveness and Exit Readiness questionnaires. They identify all the ways that a business can improve or, put another way, reduce the risk of future maintainable earnings to an external buyer.

For every factor, you rate how your business is doing now and whether it can be improved. These list of improvements become your action plan over the coming months and possibly years to increase the value of your business.

As you improve the business you increase EBITDA and the valuation multiple. Put another way you increase the future maintainable earnings and decrease the risks of the business—thereby increasing the attractiveness to buyers.

Back to the example. Your business is valued at $3M EBITDA 3x multiple for $9M EV. You can see how you can improve the business and we assess those improvements to increase the multiple from 3x to 4x while keeping EBITDA the same. This increases EV from $9M to $12M. You increased the business price by $3M and maximised the value of your business.

The financial benefit is obvious. But we haven't gone over whether that figure will help you meet your family financial goals (step 2 of the Exit Planning Process) nor what you're going to do on retirement (step 3). I also haven't delved into the details of factors to improve the business. More of this in later articles.

Footnotes:
*1 "Walking to Destiny: 11 Actions An Owner Must Take to Rapidly Grow Value & Unlock Wealth" C. Snider. 2016.
*2 "Dance in the End Zone: The Business Owner's Exit Planning Playbook" P. Ungashick. 2013.