Securing your future while transitioning out
by Jay Jung
— Jay Jung is the founder and managing partner at Embarc Advisors and has nearly 20 years of experience in strategic finance. He is a former Goldman Sachs Investment Banking Vice President and McKinsey & Company Engagement Manager who has completed over $50 billion in transactions including marquee transactions, such as the sales of Yahoo!, MuleSoft, and SanDisk. He currently works with startups as a fractional CFO or advises them as a consultant. Most recently, he has successfully advised on capital raises for several startups — including during the COVID-19 crisis. He also co-founded a technology startup that raised capital from Softbank and other VCs. Jay received an MBA from Wharton Business School of the University of Pennsylvania.You’ve built a business that provides value and security to your clients. However, your strategy will someday shift toward securing your own financial future by transitioning out of the business you painstakingly developed. Exiting your business gracefully and profitably doesn’t happen by chance. It involves careful planning and strategic decision-making.
Strategies For Maximizing Your Business Exit Value
Exiting your financial advisory business is not just about the numbers. It’s about a comprehensive preparation strategy.
One of the most common mistakes founders make is attempting to “DIY” their exit without adequate preparation. To avoid leaving money on the table, start early. Treat your exit planning as a long-term process rather than a hasty, last-minute decision.
There is a reason private equity firms approach their investments with a five-year plan. A long-term timeline allows you to refine financial records, reduce operational risks, and optimize growth strategies.
During your planning period, craft a compelling narrative. Your business story needs to be both concise and compelling. Think of the exit process like a sales funnel, where every interaction with your potential buyers should drive interest and engagement. Start with a punchy teaser, no longer than two pages, followed by a detailed yet succinct confidential information memorandum. Overwhelming buyers with excessive data early on can be counterproductive.
A more extended planning period will enable you to create strong financial models that clearly present metrics like customer retention, revenue concentration, and gross margin by service line. Establish a compelling narrative around your financial stability and growth potential. In this area, hiring a strategic CFO can dramatically increase your company’s value and smooth the sale process.
Find the right balance between growth metrics and profit margin. While growth is generally worth more than margin, as your exit approaches, shift your focus toward optimizing your margins and boosting your efficiency. This dual approach allows for aggressive revenue scaling followed by profitability enhancement ahead of the sale.
Finally, during the planning period, ensure that your business can demonstrate operational independence. Buyers tend to worry about acquiring businesses that are overly reliant on their founders. Implement systems like the Entrepreneurial Operating System (EOS) to build operational independence and show that your business can thrive without you at the helm. This will reduce perceived risk and increase your business value.
How Your Seller’s Quality Of Earnings Impacts The Sale Price
A quality of earnings (QofE) report provides an independent analysis of a company’s financials. It looks beyond the numbers on your financial statements to evaluate your company’s recurrent revenues, profit margins, and the quality of its customer base, among other metrics.
Buyers use your QofE report to assess the true earning potential and sustainability of your business. A thorough QofE report can validate your asking price and protect the transaction from renegotiations, which is why maintaining high-quality earnings is critical for securing a lucrative exit.
However, this examination is not just about presenting a rosy picture but about realistic assessments that can help secure a favorable valuation. The QofE report evaluates your company’s normalized adjusted EBITDA, a pivotal metric for buyers. Often, founders discover they’re closer to their EBITDA goals than they initially thought. Proactively conducting your QofE allows you to maximize your marketable EBITDA, thus avoiding any potential undervaluation from the buyer’s side.
Conducting a QofE can reveal opportunities to enhance your EBITDA, which can significantly influence your business valuation. With every dollar of EBITDA historically being worth eight to fifteen times, investing in a QofE can provide one of the highest returns on investment within the exit process.
Set Your Business Up For A Successful Exit With A Strong Financial Foundation
A solid financial foundation is indispensable for a successful business exit. Start the process with a thorough audit. Like annual medical check-ups, regular financial audits can help spot potential red flags early. Addressing these issues well before you’re ready to sell can boost your business’s health and buyer confidence.
When it comes to finances, clean and accurate records show that you are entirely transparent. More than that, they engender confidence in potential buyers. Invest in a meticulous tracking system for key financial metrics such as revenue streams, profit margins, and customer lifetime value as soon as possible. Use long-term findings to demonstrate your business’s financial health and growth. Consider getting audited financials to further bolster credibility.
Potential buyers naturally look for businesses with a record of growth, a strong client base, and sustainable revenue. This is why the simple act of structuring your services to ensure long-term contracts or subscription models can make your business more attractive to buyers. With this approach, you give them a reliable income forecast. Diversify revenue streams to ensure your business is not overly dependent on a few clients or a single revenue stream.
Manage your business’s debt wisely. High levels of debt can deter potential buyers. A solid financial foundation includes a manageable debt level. Reducing debt can increase your company’s appeal and the overall sale price, so plan to pay down as much debt as possible before initiating the sale process.
Finally, as mentioned earlier, laying the firm’s financial foundation requires employing experienced professionals, including a CFO. If you choose a well-qualified team, they can provide strategic oversight throughout the process. Their expertise can help you refine your financials and greatly enhance your valuation.
Achieving High Earn-Outs
Earn-outs are the contingent payments made after the closing of a deal based on your business achieving specific financial targets. These payments can offer a dual purpose. First, they can help bridge the valuation gap between you and your buyers. Second, they can assure your buyers of your company’s future performance.
As you set out to structure earn-outs, make sure to set realistic targets. They should be achievable and aligned with the business’s growth potential.
Clearly define the terms and conditions of the earn-out in your purchase agreement. Include performance metrics and timelines. Periodically review your company’s performance against your earn-out targets to ensure alignment.
Navigating M&A Transactions
Mergers and acquisitions (M&As) are not typically straightforward and simple. Conduct thorough due diligence to avoid surprises and better understand your buyer’s financial health and business strategy. Engage advisors who specialize in M&A to guide you through the process and ensure favorable terms.
During the sale, negotiate wisely. Use the insights you gained from due diligence and QoE reports to negotiate terms that reflect the true value of your business.
Assess the cultural fit between your business and the buyer’s organization. You want a match that will ensure a smooth transition and integration.
Engage legal experts to draft comprehensive agreements. Take advantage of their insight as you meticulously prepare the purchase agreement, earn-out terms, and employment contracts. They can also ensure the transaction complies with all legal and regulatory requirements.
Exiting your financial advisory business can be the most significant transaction of your career, so approach it with the same intentionality and meticulous care that you put into building it. If you start early, maintain high-quality earnings, and establish a strong financial foundation, you can navigate the M&A process to maximize your years of hard work and dedication. When the time comes, your diligent preparation can help you achieve a transition that is smooth and rewarding.
