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Understanding The Value Of Your Business

Understanding the value of your business should be important to every business owner and company director.  However, many do not understand or appreciate this number.

Unfortunately, many business owners and directors over-estimate the value of their business.  What few of them understand is how easily the value of their business can be increased and what they can do to multiply it over the long term.

There are five ways to calculate the value of your business:

  1. Earnings Multiples- this is the most common and most misunderstood way of valuing your business. Many owners and directors think that their business is worth a multiple of their annual turnover when it is actually based on a multiple of their post-tax profits.  We look at this in more detail below.
  2. Industry valuations- In some industries industry-wide rules of thumb are used to value a company rather than its profit. For example, the number of customers for a mobile phone company or the number and worth of repeat clients at an accountancy practice.
  3. Asset valuation- This valuation is made by calculating the net realisable value of all assets. This method is used for established companies with a high level of tangible assets, such as property companies. In this case, you simply add up the value of the assets and subtract the liabilities.
  4. Discounted cashflow or earnings capacity- this usually used by businesses with significant potential but few assets, e.g. an online business. It is a complex calculation which predicts the company’s cash flow over the next 5 or 10 years and applies a discount rate for interest and inflation.
  5. Entry cost- this is the predicted cost of setting up a similar business to the one sold. This includes the cost of buying similar assets, developing products and services, recruiting and training employees and building a similar customer base.

In understanding the value of your business, you must be aware that whatever method is used, there are several factors that will reduce your valuation figure.  One of the biggest, yet easiest to fix, is your legal documentation.  For example, having up-to-date and beneficial Terms and Conditions, a sound credit control policy and a debt collection process in place.

At Else Solicitors, we have a saying “Run your business like you are going to sell it tomorrow.”. We think this is sounds advice as nobody knows what is going to happen one day to the next.  So, it is always worth being prepared for;

  • The worst- if you stepped under the proverbial bus, you would want your family to get the best possible value from your business. If it happened to one of your partners, you would want to know that your business could keep running profitably or that you would get the most money if you had to sell up.
  • The best- someone could make you an irresistible offer tomorrow and you would want to be able to maximise your profits.

In this short article in our commercial series, we will cover:

  • Understanding the Value of Your Business
  • What Increases the Value of Your Business
  • What Destroys the Value of Your Business
  • How to Increase the Value of Your Business in the Long Term
  • Why Else

Understanding the Value of Your Business

Understanding the value of your business is important.  This is critical if you want to:

  • Sell your business or buy one
  • Buy or sell shares
  • Identify poor performing divisions in a business
  • Motivate your management through measuring their performance and offering shares

The most frequently used business valuation method is earnings multiples.  Many business owners and directors incorrectly think this is based on annual turnover.  It is based on a multiple of your post-tax profits.

Advisors will refer to a price/earnings ratio (P/E).  This is simply the amount they multiply your post tax profits by to calculate the value of your business.  For example, if your business is making a post-tax profit of £100,000 and a P/E ratio of 4 is applied then your business would be valued at £100,000 x 4= £400,000.

There is no standard P/E ratio figure that can be used to value every business.

It depends on several factors:

  • Companies within certain industries such high tech and IT will have a much higher P/E ratio than traditional businesses;
  • Businesses where profits are growing rapidly will command a higher multiple, than firms where profit growth is low;
  • A small or medium sized business will have a much lower P/E than a FTSE-100 company in the same industry. There is more stability in a large corporate than a smaller company.

As a very general guide, P/E values vary from 1 (for small companies with low profit growth and reliant on key employees) to 10 or more for a large, high growth business.

What can give a guide to your P/E is the cost of setting up a similar business using the entry cost valuation approach.  This involves examining the cost to the business of:

  • Raising the needed finance to buy fixed assets and have working capital to cover stock in trade and cash funds
  • Developing the products and services
  • Recruitment and training
  • Building up a customer base and reputation

You should also factor in cost savings like streamlining the firm, using more up to date technology so requiring less staff, having a cheaper location etc.

There are many things that affect your P/E value.  You will want to maximise this while the buyer will try to minimise it.

What Increases the Value of Your Business

In understanding the value of your business, you must also learn what can help to increase its value. Buyers generally want to either take over the business as a going concern and run it exactly as it is or move the work it does and its clients into their own business, for example an accountant buys out a sole practitioner and takes over their clients.  The buyer may keep the name (and goodwill) of your business if it is advantageous to do so.

Key factors that increase the value of your business include:

  • Clients locked into on-going legally binding contracts- The more on-going and regular customers you have, the more your business is worth. It is important that you have good terms and conditions in place so the buyer can simply carry on looking after your customer base.
  • Repeat business and client retention rates– this is not as secure as locked-in customers but these clients do have value. For example, businesses tend to stay with the same accountant, so these recurring fees add to the value of your practice.
  • Goodwill- Goodwill adds considerable value to your business and this can extend to your suppliers as well as customers.
  • All legal documentation up-to-date- this is very important. You need everything up to date and correct including your company memorandum and articles, shareholder agreement, director’s service agreements employee contracts, HR policy, Intellectual Property etc.  If you have all of this in place then your business will be worth considerably more.
  • Profitable distribution deals– Distribution deals can add considerably to the value of your business provided they are profitable and have been correctly drafted.

What Destroys the Value of Your Business

There are numerous things that destroy the value of your business:

  • Key employees- If your business is dependent on a handful of key employees, such as managers, sales people, fee earners (in any industry) etc. then it is important that they have golden handcuffs and long notice periods. Your contracts must cover what happens if they leave including keeping private any confidential information and adhering to restrictive covenants that stop them poaching your customers.
  • Excessive old and bad debt- Many businesses have some old and some bad debt. However, in cases where this is excessive, it will have a negative impact on the value of your business.  No-one wants late or non-paying clients.  This can be dealt with by improving your terms and conditions, credit control policy and debt collection process.
  • Need to constantly hunt for customers- This is the case where you make a sale and that customer is not locked in to an on-going contract and may or may not come back to buy again. A branding company is a good example of this. They do the branding for a business but then this might not be revised for many years and even then, there is no guarantee that the client will use them again.  This type of business constantly must constantly find new customers. This can be offset by a strong brand and position in the marketplace.
  • Poor legal protection- poor or no employee handbooks, no IP protection, poor key employee contracts, poor terms and conditions etc. can all have a negative impact on the value of your business.

How to Increase the Value of Your Business in the Long Term

There are numerous ways to increase the long-term value of your business.  This includes:

  • Building your brand– a strong brand can greatly add value to your business, especially if it is widely spread among your target market
  • Winning more long term clients and customers– Long term and repeat clients or customers add value to your business.
  • Improving the efficiency of your business– this could be through workflow changes and/ or using new technology. Efficiencies will increase your post-tax profit and hence the value of your business.
  • Negotiating distribution deals– these can greatly increase the value of your business.

Else Solicitors has considerable experience in helping companies negotiate and agree profitable distribution deals.

How we can help

Else is a modern, dynamic and forward thinking legal practice who offer the expertise you expect from a large, traditional law firm.

You will discover that we are different to other legal firms.  We will help you sort out your commercial legal documentation and then look at other ways that we can add value to your company.  This could include introducing you to new customers or suppliers in our extensive network or offering you some new insight into your market or your business.

If you would like expert legal support, whether this is increasing and understanding the value of your business or if you are looking to buy or sell one, then we urge you to contact Chris Else at Else Solicitors on 01283 526 200.

“It gives me great pleasure in sending you this email.

In 2013 I had my first experience of ELSE solicitors was when I was having awful issues with my own solicitor regarding my fathers estate.

My first meeting was with Peter Fox `{`Else Solicitors merged with PG Fox & Co in 2009, Peter Fox was in business for over 40 years`}`, who was very understanding and helpful which at the time I wasn’t used to this from a solicitor. Due to Peter dealing with commercial property I was passed to the Wills and Probate team.

I was introduced to Kathryn who specialises in Wills and Probate. I will always remember on one of my visits to ELSE the frustration and anger came out of me as to how my previous solicitor treated me, Kathryn didn’t say anything until I had said my piece. Once I had calmed down Kathryn then calmly said to me, “I know you feel very bitter inside but let me try and put back the trust so you will have confidence in solicitors again”, from that day onward Kathryn has managed to do that for me.

Just recently I have amended my Will and was advised by Kathryn to have a POA in place which I have now done.

Throughout all my meetings with Kathryn I have found the following:

• Professional exceptional high standards with a very caring touch.
• Makes legal matters simple to understand.
• Wastes no time in responding to my emails.
• Takes time in understanding my issues and concerns.
• Has outstanding people skills.
• Goes the extra mile so I had peace of mind, especially when sorting out my Will.
• Has that natural ability to make people feel at ease when under pressure.

I have the greatest respect for Kathryn on how she goes about her work. If Kathryn ever did move on, I can categorially say that it would be a near impossible task to find a replacement of the same calibre as Kathryn.

I am someone who will criticise when something is not right but gives credit when a job has been done well. I can comment firsthand on the outstanding work Kathryn has done for me.”

Happy Wills & Probate Client

“From the initial consultation, through to selling my property, the Property team at Else Solicitors have been professional, proactive and most importantly have kept me updated at all times. Their attention to detail ensured that every aspect of the sale was meticulously handled, alleviating any concerns along the way. Else’s ability to explain complex legal concepts in a clear and concise manner was greatly appreciated and helped me feel confident in any decision making. I cannot thank the team enough for their hard work, professionalism, and dedication throughout this process. I would recommend Else Solicitors to anyone.”

Callum Campbell, MD Brilliant Hygiene Services Ltd

“Kathryn, it has been a pleasure working with you and we will certainly recommend you to friends and family. Many thanks for your wonderful support to myself, my husband and mother-in-law for all the work conducted on our LPA's for property and financial affairs and health and welfare.”

Happy Wills & Probate Client

“My husband and I engaged Else and Co. in the sale of our home after a couple of earlier and very positive experiences with the company. The sale process was non standard owing to the nature of the deal, the long history of the property and the requirements of the buyers. The team handled everything in a confident, capable, timely and transparent manner right through to a successful closure. We appreciate expertise when we see it, particularly when it is local. We wouldn’t hesitate to reach out to Else and Co. again.”

Chris & Alison Stephenson

“I was advised at a preliminary court hearing that I should engage with a solicitor for legal assistance on my court case. I researched Else solicitors and had an initial call to discuss my case, which I was impressed with. I engaged with their services and worked with Chris throughout the matter. He was impeccable with his communication and quick to respond. As a result of his hard word, Chris successfully resolved the matter through negotiation saving future legal fees and avoiding the need to attend the final court hearing. I would highly recommend Else’s services for future business legal requirements.”

Dispute Resolution Client

``I wish to express my sincere appreciation for the excellent service provided to me by Kathryn Caple and an Else Solicitors team. I could not have completed my father’s estate and his Will processing without their
kind help while I am leaving in USA.

Kathryn is one of the shining examples of professionalism, caring and knowledgeable person. She listened, advised and kept me informed throughout the process dealing with my father’s estate. I am very pleased with the quality, responsiveness and extensive legal expertise of Kathryn.

A massive thanks to Kathryn and Else Solicitors Team! I would highly recommend their service.

On my personal note, I really enjoyed working with Kathryn. I could not be more satisfied.”

Rakesh Mishra U.S.A.

``Thank you Kathryn for all that you have done to render an unpleasant process more palatable. I do appreciate the compassion you have shown throughout.”

Wills & Probate Client

``Thank you so much for all your help. You’ve really gone above and beyond and made this whole process much easier.”

Wills & Probate Client

``I would like to thank Kathryn for her support and guidance throughout this protracted procedure of settling the affairs of my relative. My family and I appreciated your endless patience”

Mr Terry Wills & Probate Client

``I used Else Solicitors recently to do my probate work, having had excellent service previously on some house sale matters. Kathryn Caple, their head of probate was exceptionally efficient and knowledgeable. I had total confidence in the expertise I was being provided and the work was completed in a very timely manner. Feedback was continuous and I was totally satisfied by the outcome``

Russell Jeans Probate Client

``We are very pleased with the service Else Solicitors provided for us. We had retentions that were overdue (circa £40K), the Main Contractor had missed the payment date on their Payment Certificate, when chased we were told that they couldn’t pay for another couple of months due to cashflow, we had been in similar situations before, having been given payment plans that weren’t met, and then companies go into liquidation.

I looked on the Internet and filled in Else Solicitors web enquiry form, A member of the team called me back and talked through the various options, which I took away to discuss internally with my business partner. We agreed the plan of action which Else's team executed swiftly and efficiently, dealing with all correspondence received from the Main Contractors Solicitors, our monies were received in our bank within 2 weeks.

Can’t recommend Else enough!``

Construction Client Construction - Retention Monies

``I would never hesitate in using their services again and in recommending them to other professionals.``

Angelica Duncan Director - Chameleon School of Construction

``Else have a great ability to handle complicated cases in a pragmatic manner, focusing on the commercial and practical impact for the client.``

Liz Strama CEO - HR Protected

``Smith Cooper work with a handpicked selection of law firms across the UK where our accountancy matters require expert legal advice. We refer specific corporate, litigation and insolvency cases to Else Solicitors because of their technical experience, flexible and professional approach and their efficient way of working. We have established close working relationships with the team at Else over a number of years.``

Dean Nelson Partner - Business Recovery & Insolvency - Smith Cooper

``I appreciate the attention I received and your professional service and whilst I don’t wish for a similar situation I would have no hesitation in using your services again.``

Debt Recovery Client

``Thank you Else Solicitors and in particular Laura Charles for another successful outcome this week in the recovery of our bad debt. We don’t get them often but it’s a huge relief and comfort to know we have your friendly but extremely professional firm always there ready to help with very little notice. It’s an absolute pleasure working with you and here’s to many more successful years. Thank you!``

Debt Recovery Client

``A massive thank you to Laura and the rest of the team at Else solicitors.
We had some issues retrieving monies owed from a previous contractor for the past 2 years, and the team really did go above and beyond.
From our point of view, it was money very well spent as within 2 weeks full payment was made by the contractor who previously had a very stern view of not paying.
Laura and her team battled many emails with the contractors solicitors, all of which was included in the price.
A massive thank you once again! Would highly recommend!``

Debt Recovery Client

``I would like to extend my thanks to Chris and the team at Else Solicitors for their support and guidance over my recent purchase of Ethical Property Partners England and Wales.
Chris and his team,have been professional and supportive throughout and where needed have been prompt in their responses, often at late notice.
I was really pleased with their approach to helping myself and my Business Partner Paulene navigate the pages and pages of contracts and break them down into plain English where needed!
I'm looking forward to them being able to help with the next step of sorting our Shareholder agreements!``

Amanda Jarvis-Doyle Ethical Property Partners (Property Consultant)

``We provide international shipping services to customers and following the non-payment of an invoice, we instructed Else Solicitors to seek recovery of this.

Proceedings were issued and the case proceeded to a final hearing. We cannot thank the team enough for the work put into this case as the final judgment was in our favour and we recovered the debt in full, plus a portion of our legal costs.

The Team explained each step of the process to ensure our understanding of the case and provided updates at every opportunity. We were very pleased with the final result and the support received on the run up to the hearing.

We would not hesitate to use their services again.``

Ian Hardie Sales Director at Smart Directions Limited.

``Laura and the team have become an excellent asset to our finance department over the last year. They have helped us recover debts in full from 2 particularly difficult payers that we had no hope of recovering ourselves! They make the process simple and easy to follow, and always have a quick, helpful reply when we need something clarified. I would recommend Else Law to anyone who needs additional help with pursuing uncooperative customers because so far they have a 100% success rate with us!``

Debt Recovery Client

``A huge thank you to Laura and Elselaw for assisting in recovering monies owed on a 12-month-old invoice. Even though our business is based in Australia, we were impressed how quickly they assisted with our enquiry and put us at ease given the international element to the litigation.

We would highly recommend any business based outside of the UK, who has a troublesome UK client, to consider using Else Solicitors (Laura!) to resolve their issue quickly and efficiently.”

John Morgan, Director of Forensic Instinct

“The Else Debt Recovery team have done an excellent job in keeping us organised and on track over the past 18 months and the Commercial Dispute Resolution teams input has been a great help in recent months, dealing with the more problematic situations, including collection of the largest debt by speaking directly with the MD and owner of the debtor company, taking the heat out of that situation”

Debt Recovery Client

“We want to thank Kathryn and the team for their dedication and professionalism in dealing with our matter. We are all extremely grateful for your efforts”

Wills and Probate Client

``Forté Lubricants a division of Illinois Tool Works Ltd is a manufacturer and supplier of petrol and diesel-operated engine additives and has 40 years of experience helping and advising UK garages improve vehicle engine performance with our range of products.
Most of our debt recovery is done in house, however, we sometimes require Else to recover debts on outstanding invoices by one off buyers to the value of £500, resulting in Else recovering the money in full in less than 30 days.

Having a well-known reputable company in Else at the end of a phone is reassuring. We have found that since we have been using Else to recover debts, we have saved time, money and most importantly their expertise means that the debt is almost always recovered.

Else offer an outstanding service which we have used for over 5 years. We would thoroughly recommend their service without hesitation.``

Lisa Griffin Debt Recovery Client
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