Is your leadership devaluing your business?

Investing in a management team

We have seen it across all spheres – from Sir Alex Ferguson leaving Manchester United Football Club, to CEOs leaving a business they’ve made a success of – when the strength of an entity lies in the leadership of one individual, and this leader then leaves, the entity can fall apart. 

This is exactly the risk purchasers and investors are concerned by when assessing your business. If you are too embedded within business, continuing to make all of the decisions, it is more difficult to establish where your value as a leader and entrepreneur ends and that of the business, as an independent entity, begins.

This differentiation is essential in providing confidence that your business is lower risk: should you choose or need to step away from the business, it would continue to thrive without you. If a purchaser or investor is reliant on your continued support and involvement this presents a risk which can devalue your business. 

To best mitigate this risk, invest in a trusted management team and redistribute your responsibilities to these individuals. To fully benefit from this transition, a team would ideally be in place for at least 12 months prior to transacting enabling them to fully embed themselves and to sufficiently demonstrate their competence. However, even demonstrating a significant shift or commitment to a reduced leadership role can reap benefits. While you could choose to continue in a more strategic position, away from the day-to-day business decisions, it is essential that key external relationships are also transferred to the management team and, as far as possible, held by multiple individuals to avoid the concentration of value and further mitigate any risk. 

How does this translate to value?

At one level it is quite obvious that risk costs you money. In the simplest terms, if your property is based in an area susceptible to flooding, this would command a higher insurance premium – the higher the risk the greater the cost to you. If you have de-risked your business this translates to a cash benefit in terms of increased value and therefore the price you can command. Particularly in the case of a full exit scenario, stepping back from the business in advance can enable a shift in the balance of value, with a greater portion of the value being realised in a day one payment versus the portion that will remain at risk, tied up in an earn out. Earn outs tend to include financial and performance targets and timeframes which must be fulfilled in order for you to realise this remaining value. 

This gain in value also can manifest in the more technical aspects of a valuation. Very simply, valuation is often based on a multiple of a profit metric. If you have stepped back from the business, it could be argued that your salary cost may not be required in the business going forward and therefore should be added back to EBITDA  - Earnings Before Interest, Tax, Depreciation and Amortisation, a common profit metric used to value businesses – and this may well be a six figure sum. Applying an EBITDA multiple to this add back can result in a not insignificant value uplift.

If you’re considering transacting, get in touch so we can help you position yourself and present your business to maximise value.