When it comes to selling your company, valuation is a function of risk. The price a prospective acquirer is willing to pay and, the structure under which they are willing to pay it is a direct reflection of the amount of risk each prospective acquirer perceives within your company.
Every potential acquirer wants the companies they acquirer to have clean books, strong customer relationships, and a diversified customer base, skilled management teams, reliable supply chains, clear competitive differentiation, defensible positions within their markets, etc., etc.
Numerous books and articles have been written on preparing a company for sale, many of them brimming full of good advice. We won’t try to cover all that ground in this short article.
But I will call your attention to one exercise that can have an extremely meaningful impact on a prospective acquirer’s perception of risk, and therefore a profound impact on the value of your company.
We will call it the “what if” exercise.
The “what if” exercise is the process whereby you as the owner and potential seller of the company invest the time and effort to identify and answer the what-if questions you know you are likely to be asked by any serious acquirer. The vast amounts of information and data you will be asked to provide when an acquirer considers a potential purchase of your company only tell part of your story.
The data enables an acquirer to partially assess the level(s) of risk inherent in your company; and then they will start to poke at every part of your business, looking for risks that aren’t readily visible. Rightfully so, since the acquirer will be the one to write the rather large check you will be seeking in exchange for your company.
You add value to your business by thinking through the likely questions in advance and being able to confidently and honestly articulate the answers. Start by considering the major aspects of your business and the primary forces that act on your business and run through possible scenarios within each one.
- What if your largest customer leaves you for a competitor or goes out of business?
- What if a key customer demands an X% price decrease for you to retain the account?
- What if a customer sues you for non-delivery or non-performance?
- What if a large customer fails to pay you or asks for extended payment terms?
- What if your senior manager leaves?
- What if your CFO, Controller, or Bookkeeper leaves (we have seen large companies virtually hostage to a bookkeeper because the owner did not know how to generate meaningful financial and operating reports from his own system?
- What if your workforce unionizes?
- What if volume increases rapidly and you need more skilled workers quickly?
- What if we encounter an economic recession?
- What if tariffs are added or lifted?
- What if interest rates increase suddenly?
- What if raw materials prices spike suddenly?
- What if your primary production machine/equipment breaks down?
- What if there is a disruption in the supply chain (such as has occurred during the COVID-19 pandemic?
If by these very few examples, you have concluded that this list could go on and on indefinitely, you are correct. The list of questions a serious acquirer will ask is exhaustive, and it should be. You won’t be able to anticipate every question you will be asked.
But by anticipating as many and possible and having ready and reasonable answers to those questions, you eliminate many of the unknowns that an acquirer has to think through when proposing to purchase a company. And, you guessed it, unknowns equal risks in an acquirer’s mind, and risks depress value.
There is a potential intangible benefit to thoroughly engaging in the what-if exercise. When you can articulate credible answers even to most of an acquirer’s what-if questions, you convey to that acquirer that the company is thoughtfully and carefully managed. You show that you have considered key contingencies and that you know how you and your company would respond. And, a well-managed company is less risky for an acquirer.
So, in addition to the normal and customary actions a business owner can take to have the best chance at achieving the highest possible value, the “what if” exercise can go a long toward providing an acquirer with added clarity and confidence. Clarity and confidence often equal a reduction in perceived risk and, potentially lead to stronger valuation.