By: Patrick Ungashick
This article is the sixth installment of a seven-part series on what business owners need to do once they reach the Last Five Years before exit.
You, as a business owner, must answer five critical questions once you reach five years before your desired exit. These five questions define your exit goals and help shape the plan for how you will achieve those goals. As stated in previous articles in this series, there’s no way to sugar-coat this—answering these five questions must happen as you enter Your Last Five Years. Without clear answers, you will not know the steps needed for your exit planning, and you potentially run out of time to maximize your exit success.
The five critical questions are:
|1 - What is My Likely Exit Strategy?|
|2 - How Much Do I Need to Net From My Exit?|
|3 - What Do I Want My Legacy to Be?|
|4 - What Do I Want To Do in Life After Exit?|
|5 - How Exitable is My Company?|
NOTE: Click the article links above to review other installments of the 'Your Last Five Years' series
Question 5: How Exitable is My Company?
It’s not hard to know if a company is profitable—it’s right there, in black and white, in the financial statements. But what does it mean to say a company is exitable? And, just because a company is profitable, does that mean it is exitable?
Admittedly, I made up the word “exitable.” But if the word was real, what would it mean? Well, an exitable company would be one from which the business owner or owners can actually exit. That would mean the company has value—value that is convertible into personal wealth and financial independence for the owner. Exitable would also mean that the company can survive the exit process, without disrupting operations and critical relationships. The bottom line is an exitable company is one that can fulfill the owner’s business and personal goals at exit.
With that definition in hand, let’s now ask—if a company is profitable, does that mean it is exitable? This question is centric because most owners go to work every day challenging themselves and their teams to “grow” the business. “Growth” is primarily measured by revenue and profits. On the other hand, if growing profits does not necessarily make a company more exitable, that would be very important to know.
Unfortunately, it turns out profitability and exitability are not the same. And sometimes owners only learn very late—meaning shortly before they wish to exit, at which point their exit success is undermined, or perhaps even blocked outright.
There are a surprising number of ways that businesses can grow and operate profitably, without necessarily being exitable. Here are four common situations where this can occur.
1. Owner Dependency
The first common limitation on exitability is owner dependency. If your business is dependent on you, or any other owners, to operate and grow profitably, this typically limits exitability. The company’s value cannot walk out the door when you do. It’s ironic too because your company probably would not be what it is today if you had not worked as hard as you have up to now, perhaps over many years. It’s great to be good at what you do, but if your company is losing an essential employee when you exit, that undermines exitability. It’s not enough either just to say that the company could manage to survive without you. It has to be able to thrive without you. Buyers want to know that the business’ profits will not slow down nor go away when you do.
2. Customer Concentration
The second common limitation on exitability is customer concentration. This matter may surprise you because customer concentration is usually a byproduct of a job well done. Your company may have one or a few customers that are served well, and they've responded by sending more and more business your way. But then, one day, you look around, and 20%, 30%, 50%, or more of your revenue and profits comes from these few customers. These customers might be generating a lot of profits, but customer concentration usually limits exitability. If you intend to sell your company one day, your future buyers likely won’t have longstanding relationships with these customers, creating risk for them. Buyers often pay less for companies with customer concentration or pass on purchasing that company altogether. Customer concentration thus becomes a serious limitation on exitability, no matter how profitable those customers may be.
3. Co-Owner Goal Misalignment
The third way many companies experience limited exitability is if they have co-owners who are not in alignment with one another. We did a research study some years ago, and it revealed that 7 out of 10 small to medium sized privately-owned companies have ownership shared among two or more co-owners. We often see co-owners who are in strong alignment with one another for years and sometimes even decades while they are working together to grow the business because they share one clear priority, which is to increase revenues and profits. The problem arises when one or more of those co-owners get closer to exit because then the goals often change, and the co-owners find themselves no longer in alignment. For example, one co-owner may want to sell now, while another wants to wait. Or, one co-owner may decide to sell for lower price, while another wants to keep growing the company and hold out for a higher price. Whatever the situation, when the goals change, the co-owner alignment changes, and often the co-owners don't even realize it's happening until close to exit, at which point it can ultimately undermine a company’s exitability. No matter how profitable your company may be, if the co-owners are not in alignment, exitability will suffer.
4. Unclear Plan for the Future
The fourth way companies experience reduced exitability, regardless of profitability, occurs if the company lacks a clear, compelling plan for future growth. For a company to be highly exitable, it must offer a buyer or successor a credible and compelling vision for how that company will grow going forward, after your exit. How profitable the company has been up to this point is nice, but what the company is expected to do in the future drives value and exitability.
Many profitable companies don’t have the systems and habits that help create this compelling plan for future growth. For example, the company leadership team might not do sound strategic planning, or perhaps they do not diligently measure monthly or quarterly performance against financial budgets and operational benchmarks. Without experience doing effective strategic planning, and without a clear track record of being accountable for achieving business goals, it may be unclear to the future buyer or successor whether this company can sustain its future growth after your exit. This shortage undermines exitability, even if the profitability has historically been good.
To learn more about the factors and conditions within practically any business that will increase (or decrease) its value at sale, we invite you to view our complimentary webinar: How Do I Maximize the Value of My Company?
In the next article in this series, we will wrap up this series on Your Last Five Years.