We think we are better looking than we are. We think we drive better than we do. And we think our business is worth more than it is. Psychologists describe this inflated view as “illusory superiority.”
In my January 2018 MMR column, I did my own reality check on the subject of valuation during an interview with Steve Zapf, the past-president of Music & Arts. (Jeff Gottlieb succeeded Steve Zapf as president this past April). With more than 500 retail and affiliate locations, the organization is a go-to-company to ask about valuation.
When I asked Zapf what the key drivers for valuation multiples are, here’s how he responded: “Larger businesses with consistent earnings that are less dependent on a single person to provide for a more stable and predictable operation after the acquisition. These are factors that give us the necessary confidence to increase the multiple we pay.”
In other words, Zapf’s multiple – at least in part – will be determined by the owner’s knowledge-sharing process. This knowledge is the intellectual capital also called “business intangibles.”
Intangibles consist of the owner’s personal wellness, the quality of customer relationships, the talent of the employees, and structure and process driven by technology. For example, let’s say your accountant says your net income is $500,000 after certain adjustments have been made. A 2x multiple would value your business at $1,000,000. A 5x multiple would value your business at $2,500,000.
So, the next obvious question is, what is the range of multiples a music retail business could sell for? This would depend on who the buyer is. If it’s a family member it could be 2x multiple to save your children tax. If it’s a strategic buyer it could between 4-6x multiple. If it is a trusted key manager who knows the real value of the business, it could be higher.
One point is clear. For a music retail business owner, a worthwhile action plan begins with de-risking the organization in the eyes of the buyer. It’s kind of like a reverse due-diligence. Begin with your intangibles.
MAUS, an Australian succession planning technology company my firm has partnered with, provides us with tools to better understand how risk could impact valuation across four categories: Business Attractiveness; Exit Readiness; Personal Readiness; and Financial Readiness. Let’s break this down.
It begins with giving the owner an assessment where he or she is asked to answer a series of questions. Below you’ll find a mini-assessment, (note, there are many more questions in the assessment we offer) scoring yourself on a scale of 1-6, where 1 is a poor number, reflecting the most risk and 6 is a strong number reflecting the least risk. After you input your score, write a sentence on your rationale for each number. This can come in handy when you are defending your answers to a perspective buyer.
Business Attractiveness – How attractive does your company look to a potential buyer?
- Would your management team impress a potential buyer?
- Are your customers loyal to your business?
- The business needs to continue without your presence. Therefore, key staff contracts are generally essential from a potential purchaser’s perspective.
- How strong and well known is your brand?
Exit Readiness – How ready are you to exit your business?
- Do you have a timeframe in which you are looking at to sell your business?
- Do you know what you will do after you sell the business?
- Have you agreed on who will buy your business?
- Are there any changes you could make to improve your business’ worth?
Personal Readiness – What are the emotional and financial factors towards exiting?
- Are you ready to exit the business now or do you have a strong emotional attachment? Have you considered whether leaving a legacy behind is important?
- Have you considered your relationships with staff and the feeling of loss or abandonment, if any when leaving?
- Have you considered the fact that the brand you created might be mistreated by someone else?
Financial Readiness – Are you financially prepared to exit?
- Have you considered whether you will retire, be self-employed or employed on exit?
- Have you considered the minimum level of annual income needed to cover your expenses and have a comfortable lifestyle?
- Do you know how much your business is worth today?
- How in control are you of your cash flow?
If you have Excel, you can easily input the numbers and use the average command to get your final number. If your score is above 4, you’re on your way of achieving a higher range of the multiple. If your score is below 4, your valuation may be on the lower range of the multiple.
In the end, the value of your business is primarily dependent on the level of risk perceived by the buyer, which in turn drives the multiple. It turns out that intangibles (80 percent people and 20 percent technology) are what the experienced buyer will focus on.
Jaimie Blackman – a former music educator & retailer – is a financial advisor, succession planner, and certified business advisor. Blackman helps music retailers accelerate business value through team building, coaching & mentoring. Blackman is a frequent speaker at NAMM’s Idea Center. Visit jaimieblackman.com to subscribe to Unlocking the Wealth newsletter and webinars. Follow Jaimie on twitter @jaimieblackman.
