Factor #10 of 10: Risk model

Risk profile

In the Self-Assessment, we asked you this question:

11. Our business is supported by:
1. clear and understandable operations and process manuals our management team established through detailed assessment and analysis. The appropriate response for the majority of situations is documented, allowing individuals not involved in the day-to-day operation to understand and complete appropriate operational decisions.
2. by a clear and understandable operations manual where existing management would be required to assist in determining the appropriate responses to situations.
3. an operations manual and a management team who generally make good operational decisions.
4. a management team which is under development and an operations manual that is a “work in progress”.
5. my knowledge as the business owner. The buyer from outside the business would require considerable training to understand this business.

The area of risk modeling is typically subject to the highest level of personal interpretation. What one individual would consider a very reliable business model would have another individual losing sleep every night. The fact is any business model has an element of risk. Every buyer has to develop a sense of the risk realities for the business. To overcome the challenge of educating a buyer, the business owner must accurately describe how the business model actually works. A clear description of the day to day process and business variables allows every buyer to develop their personal translation of the business risk.

An experienced business owner will disclose to the buyer the strengths and weaknesses of the business model early in the discussion. This saves time and avoids misunderstandings about the business reality. It is definitely in the business owner's interest to have a buyer that understands and is comfortable with the risk model. A well described business model which includes identifying the business strengths and weaknesses significantly increases the opportunity to complete the sale of business.

Conclusion:

As the business owner you must communicate the full and realistic picture of what your business actually provides to generate revenues. Regardless of which model you have, the buyer must develop a clear understanding of the business realities early in the process. Being prepared saves you and the potential buyer valuable time. Your goal is to have everyone at the negotiations table working with the same business model expectations. Clear sources of revenues position your business to a higher level of sale-ability. 

At MAXIMA we offer our clients use of our tool: the Business Success Tool Kit (BSTK). We complete an in depth comparison of their financials year over year and/or month over month, in order to pin point where the financial weaknesses are and what could be improved. This effectively grooms your company over time so when you are ready to think about exiting you have financial statements that are clean and ready to sell. Please call 403-234-8346 if you are interested in utilizing this tool.

The MAXIMA Group will “Sell Your Business”| If your business is not ready to sell, we will help you “Groom your Business” | The MAXIMA Group helps you to “Buy a Business” | The MAXIMA Group completes “Business Valuations” (CBV) 

Factor #9 of 10: Ownership

How well does the business function without the owner?

In the Self-Assessment, we asked you this question:

9. Our business process and infrastructure operates:
1. consistently, allowing me to take extended time away from the office as my staff know how to address almost all situations.
2. reasonably consistently, allowing me to take regular time off without much impact because I maintain regular communications with management.
3. reasonably consistently when I am directing and interacting with team members regularly/daily.
4. with my daily involvement.  I am beginning to reduce my hours to a reasonable level.
5. only with my daily involvement.  I work extended hours to ensure things are running smoothly.

Typically every business begins with the owner/operator or key stakeholder acting as the main driver to develop the particular product or service. This person literally completes every task required to complete any sale or service for the customer. If the product or service fulfills a need in the marketplace the business can grow. At some point the owner/operator is operating at full speed and must hire people to assist. Hires can include subcontractors, contractors, part-time staff, and full-time staff.

In order to continue to meet the expanding customer requirements the owner/operator trains the “hires” to complete the tasks in a satisfactory fashion. This normally requires the business to develop repeatable procedures and processes to sustain consistency. While many small business owners hesitate to engage enough staff to replace the owner’s daily role, the most successful business owners create a support staff that allows the business to operate day to day without the owner’s direct 10-12 hour a day involvement. A business that consistently operates independent of the business owner has a higher value and is typically easier to sell.

TO DO:

Take a step back from your business and look at your involvement with an arm's length point of view.

1. Honestly describe your team and infrastructure from the perspective of operating for 1 day, or 7 days, or 30 days without you present. How would business perform?

2. Identify 3 key areas that would contribute to the greatest improvement. I.e.: better system, change in staff, better defined responsibilities, etc.
3. Pick the top area. Generate 3 action steps to move forward to achieving your greatest improvement and set a time goal to accomplish…and do it!

Factor #8 of 10: Diversity

Reliance on particular customer, event, or product mix

In the Self-Assessment, we asked you this question:

9. Our business has:
1. developed a solid product offering to meet and exceed the needs of our broad client base consistently over the fiscal year without significant seasonal variations.
2. several product offerings to meet general market requirements consistently over the fiscal year with acceptable seasonal variations.
3. a product we sell to the general market with some variations in activities levels over the fiscal year with seasonal variations.
4. a product we sell to a sector of customers. We have significant seasonal variations in activity levels over the fiscal year.
5. a product we sell through a few special events with a modest amount of activity the rest of the year.

As an entrepreneurial small business owner, it typically is a major challenge to balance a particular set of products or services to a clearly defined target market. Most entrepreneurs are very reluctant to turn away any business, particularly in startup. The consequence to the business model is when a small business is trying to be everything to everyone; nothing seems to get done really well. Revenue streams can become diluted based on a broad range of products and services which are not directly related. The challenge to the Buyer is developing confidence in the vendor’s business model.

Some business models are built around a particular marketplace event (i.e.: Calgary Stampede) or a particular event within a client (i.e.: a designing/printing company printing clients annual report for shareholders). A business that relies on a broad range of related events and related customer interest is perceived as having greater value.

While you the business owner understand why you do what you do and focus on who you focus on, the challenge becomes how the buyer perceives the product mix versus the customer base. As the business owner the buyer will need to understand the validation for your product mix versus your client/customer base. When the buyer can clearly understand your rationale for generating revenues, your business is perceived as having a higher value in the marketplace.

TO DO:

1. Revisit your list of revenue streams to confirm this list properly represents the full scope of your diversity. Prepare a simple document describing each revenue stream and your rational for how each product or service is related. This process helps you clarify your explanation of why your business provides each product or service.

2. Review your list of events or sources of customers. Relate your source of customers/clients to your revenue sources. Look for the area where you have to do the most amount of work for the lowest amount of return. Decide if you can provide that product/services more effectively or make a plan to replace that product/service with something that provides a higher rate of return.

3. While almost every business starts out with one primary product or service, a valuable business is diversified in a way that makes the business stronger. Pick one thing to improve or replace in your business over the next 90 days and make the change. Your business will be stronger and create greater value for you.

Factor #7 of 10: Assets

Balance sheet and debt ratios

In the Self-Assessment, we asked you this question:

8. In regards to our financials, as the business owner:
1. I review with my accountant the status of all ratios on a monthly basis to make sure all data is accurate, reliable, and meets our creditor requirements/commitments.
2. I am very comfortable understanding the balance sheet and debt ratios.
3. I am still trying to learn what the balance sheet and debt ratios tell me.
4. I focus on other areas of the business and rely on my bookkeeper or accountant to advise me of any questions regarding the balance sheet or ratios.
5. I feel our business model does not require us to monitor ratios or our financial statements on a regular basis. We only track what we need to know.

While the income statements represent the revenue over expenses to indicate profit or loss, the balance sheet reflects the assets, working capital, and shareholder equity of the business. Your accountant will structure the balance sheet and income statements to reflect minimum tax liabilities.

Every share sale transaction will eventually work through the process of a detailed review of the balance sheet. Most balance sheets include various forms of Shareholder Loans or perhaps investments or assets that will not be included in the transaction. In anticipation of this discussion the business owner should work with their bookkeeper or accountant to ensure the balance sheet is clean and straightforward to understand.

The Buyer will be looking for a balance sheet to represent equipment, materials, inventories, accounts receivable, and cash on hand, etc. The equity portion of the balance sheet will also tell a Buyer how the equity value of the business is being represented.

The balance sheet reflects the numbers required to complete basic ratio calculations:

1. Quick ratio (cash + Accounts Receivable divided by current liabilities)

2. Current ratio (current assets divided by current liabilities)

3. Inventory turns (inventory value divided by cost of goods)

4. Collection period (Accounts Receivable divided by month sales * 30 days)
5. Payment period (accounts payable divided by month sales * 30 days)

While it is helpful (not critical) for you to understand the implications of these numbers, the Buyer and their advisors will have to understand what these ratios tell them about the business model. If you're not prepared to address questions related to the balance sheet, you should prepare your bookkeeper or accountant to address the questions when they arise. They will!

The important fact here is to be prepared to have questions related to the ratios answered within the negotiation process. They are a critical part of a Buyer assessing the financial model for your business. Business owners who are prepared to share detailed balance sheet calculations help to generate confidence for the Buyer they are purchasing a business with reliable financials.

As the business owner you may decide to rely on your bookkeeper or Accountant to manage the financial documentation for the financials. As the primary RISK TAKER as the business owner you need to invest energy and time to develop a basic confidence in what your financial statements tell you monthly.

TO DO:

1. Print out your last 6 months (month by month) set of statements. Place them side by side so you can read them all at the same time.

2. For each category or line item, read across the pages and highlight the changes in numbers. I.e.: month 1 income +/-, Month 2 income +/-, Month 3 income +/-, etc. Determine how much each item changes and why.
3. Have your bookkeeper make a report for you where you simplify the account names so they make sense to you.
4. When you're comfortable with those items and that regrouped format, walk through the basic ratios to develop an understanding of how they are collected and what they tell you!