Do this to build company value—and a better life
How healthy is your business? Are you poised for growth? If you took the company to market today, would buyers vie for the opportunity to acquire it?
At Class VI Pathfinder, we wanted to help entrepreneurs answer these questions. So we applied our decades of experience spanning hundreds of company sale transactions to build a unique tool we call the Business Health Assessment.
This now-patented inventory benchmarks company value and marketability. Even more importantly, it identifies specific issues that are degrading value and could threaten an acquisition or investment deal when the time comes. Our proprietary algorithm also prioritizes the results so that the owner knows what to work on first.
In less than three years, nearly 1,000 entrepreneurs have answered the 125-question questionnaire and viewed their custom reports. Across these assessments, one risk has popped up over and over again — we’ve found that 95% of companies are excessively dependent on the owner.
Many other owner-related risks are common as well:
- Lack of clear succession plan for the owner (67% of assessments)
- Too many customer relationships dependent on the owner (30%)
- Business owner departure risk (17%)
You might be asking yourself, why shouldn’t a company rely on the owner whose blood, sweat, and tears have gone into building and growing it? Obviously, owner vision and strategic direction are critical, but an owner who is primarily responsible for too many aspects of the business can be its downfall. Let me explain.
Owner Dependency Decreases Value
First, let’s talk about a company sale transaction. Potential buyers will immediately look to the quality of the senior leadership team. If it’s a one-person show, this will raise concerns.
Why? Sophisticated investors know that once an owner cashes a large check at closing, their incentive to “give their all” to the business will change. Owners tend to become less involved post-acquisition, and most will leave within a couple years.
Any leadership transition can be disruptive, so buyers want to protect against damage to business performance, employee morale and retention, and other negative impacts. Owners who want to secure the highest value for their company will, therefore, take steps to demonstrate that the business can thrive without them. This means hiring a capable team that can manage operations (and innovation!) without the owner’s day-to-day involvement.
This one step can have an incredible impact on purchase price. We’ve seen companies with proven leadership teams fetch one to three EBITDA multiples more than similar companies that are too owner-dependent. For mid-market businesses, the difference to the owner can easily reach millions or tens of millions of dollars at sale.
Growth is Compromised, Too
What if you’re not headed to market in the near-term? Can you hold off on building an executive team that will “wow” potential buyers?
Unfortunately, if your business is approaching $10 million or so in revenues, or about 50 employees, you probably can’t wait.
That’s because $10 million represents a critical inflection point for most companies. A talented, all-in-committed owner may be able to muscle their way through 7-digit revenue milestones by wearing many hats—head of business development, client relationship manager, operations guru, and so on. By the 8-digit range, however, something almost always gives.
The fact is, no matter how much sleep or how many personal priorities an owner sacrifices, there simply aren’t enough hours in the day to do everything at a company of this size. This can create a vicious cycle:
- As the demands on the owner mount, the potential for burnout and family issues skyrockets. Overall health, mental well-being, and life satisfaction often plummet.
- An exhausted owner fails to lead as effectively as they once did. Revenues may plateau or even decline.
- The emotional toll of heading a struggling business compels the owner to work even harder, increasing fatigue and exacerbating financial performance impacts.
At Class VI, we’ve seen this scenario play out many, many times. Nearly every business owner expects to be the exception to the rule, but few, if any, avoid these issues—except by building a team.
The Answer: Build in Advance of Revenue
The best way to escape this entrepreneurial trap is to transition from owner-dependence to team-based leadership earlier in the business lifecycle than you might prefer.
Admittedly, shifting gears takes time and attention, which are always in short supply. Most business owners are also reluctant to incur additional staffing expenses ahead of revenue growth. Executive talent is expensive, and most entrepreneurs are loath to see their operating margins decline.
Here’s the hard truth, though—spending on a leadership team is the ticket to revenue growth past about $10 million. There’s little choice but to bite the bullet. Because without this investment, the business will never scale beyond the owner’s skills, capabilities, and available time. Without more executive talent, the business will “top out,” if not immediately then soon.
In contrast, we’ve seen hundreds of $5 million companies proactively invest in a team. Each one suffered through lower operating margins for a year or two but then enjoyed accelerated growth and far greater profitability in the months and years that followed.
The reason is simple—a quality team is capable of much more than the owner alone. One individual can never be an expert in all business functions. Rarely do great sales capabilities come paired with sophisticated financial skill, keen process-engineering abilities, an accurate vision for technology, a deep understanding of (and patience for!) legal and regulatory considerations, and on and on. Humans just aren’t built this way, not even you.
Interestingly, we’ve found with the entrepreneurs we work with that the functions at which an owner is less adept are precisely the same activities they least enjoy. That means handing these responsibilities off to “the right person” will almost immediately boost business performance and improve job satisfaction, not to mention put hours back in an entrepreneur’s day. It’s a win-win for the business and the business owner.
A Quality-of-Life Bonus
When you build a senior team, you forward-position your company for long-term growth. Assuming a sale or investment transaction is a few years off, you also provide the run room for the team to come together and notch a track record that will impress potential buyers and enhance company value.
What most entrepreneurs underestimate is the personal benefit. When the responsibilities of running the business can be shared, the owner begins to work at least a little less, enjoys life more than ever, and can engage in a variety of activities that make them happier now and will continue to do so long after they transition from the company.
Yes, building a team is challenging. The investment will temporarily affect operating margins. Finding capable leaders who are also a good cultural fit can be tough. Helping employees trust the new faces, well, it won’t be a breeze. Honestly, the hardest part may be loosening your hold on the reins.
But the payoff is worth it.
Putting the time, effort, and money into building a high-quality team is hands-down the best decision you can make for your company’s success and your own happiness.
Not sure who you need to hire or for what roles? Next up, I’ll be posting an article with a brief exercise that can help! Stay tuned.
Rob Scott | President | Class VI Pathfinder
In 2019, Rob Scott started Spark Growth Strategies, a boutique consulting firm focused on helping companies to grow. In 2021, Spark was acquired by Class VI Partners and merged with their Board Advisory practice which helps companies to prep for sale or capital raise. Prior to that Rob successfully started and exited from 3 startups and led growth efforts with a mid-market, PE-backed services company.
In his more than 30 year career, Rob has helped to create over $2.5 Billion in shareholder value. In his current role as President of the Pathfinder business unit within Class VI, Rob leads the firm’s efforts to work with dozens of entrepreneurs that are in the process of prepping for an exit or capital raise.
Class VI has completed over 120 transactions in the last 17 years for more than $3B.