Category Archives: Business

The Hierarchy of Recurring Revenue

How to make your company irresistible to potential buyers

One of the biggest factors in determining the value of your company is the extent to which an acquirer can see where your sales will come from in the future. If you’re in a business that starts from scratch each month, the value of your company will be lower than if you can demonstrate the source or sources of your future revenue.  A recurring revenue stream acts like a powerful pair of binoculars for you – and your potential acquirer – to see months or years into the future; creating an annuity stream is the best way to increase the desirability and value of your company.

The surer your future revenue is, the higher the value the market will place on your business. Here is the hierarchy of recurring revenue presented from least to most valuable in the eyes of an acquirer.

No. 6: Consumables (e.g. shampoo, toothpaste)

These are disposable items that customers purchase regularly, but they have no particular motivation to repurchase from one seller or to be brand loyal.

No. 5: Sunk-money consumables (e.g. razor blades)

This is where the customer first makes an investment in a platform. For example, once you buy a razor you have a vested interest in buying compatible blades.

No. 4: Renewable subscriptions (e.g. magazines)

Typically, subscriptions are paid for in advance, creating a positive cash-flow cycle.

No. 3: Sunk-money renewable subscriptions (e.g. the Bloomberg Terminal)

Traders and money managers swear by their Bloomberg Terminal; and they have to first buy or lease the terminal in order to subscribe to Bloomberg’s financial information. 

No. 2: Automatic-renewal subscriptions (e.g. document storage)

When you store documents with Iron Mountain, you are automatically charged a fee each month as long as you continue to use the service. 

No. 1: Contracts (e.g. wireless phones)

As much as we may despise being tied to them, wireless companies have mastered the art of recurring revenue. Many give customers free phones if they lock into a two or three-year contract.

When you put your business up for sale, you’re selling the future, not just the present. So if you don’t have a recurring revenue stream, consider how best to create one, given your type of business. It will increase the predictability of your revenue, the value of your business, and the interest of potential acquirers as they look to the future.

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Does Your Business Have The X Factor?

Let’s say you’re in the market for buying a house and you go to view one that looks appealing in the advert. How does it look on the inside? The outside? What about the location? What is your general impression?

Like your house, your business projects an image to potential buyers. When they come to see your business for the first time, your “X Factor” can attract a buyer to your business—or cause them to walk away from it.
Do you need to improve your curb appeal? Here’s a three-step plan:

1. Fix Your Leaky Faucets
Perhaps, like many other business owners, you started your business from scratch with one or two employees and now you have 20 people working for you. But do you have the appropriate HR infrastructure in place for that size of a company?  Perhaps you even take pride in your informal management style, but it can prove to be a liability when time comes to sell.

Make sure your human resources policies are at least as stringent as those of the company you hope will buy your business. Some basics to have in place:

•    A written policy making it clear you forbid any form of harassment or discrimination;
•    A written letter of employment for each staff member;
•    A written description of your bonus system;
•    Written policies for employee expenses, travel and benefits.

 

2. Assemble Your Binder
When you go to buy a house, it will give you confidence if the owner has the instruction manuals for the appliances, information on where they were purchased, and who to call if one of them breaks down.

Similarly, when a potential buyer looks at your company, he wants to see that you have your business information in order.  Documenting your office procedures, core processes, and other intellectual capital can help you attract more bidders and a higher price for your company, while also lowering the chance of the deal falling apart during diligence.

If you want to attract a buyer one day, your business needs a binder with instructions for basic functions, such as:

  • Opening up in the morning and closing down at night;
  • Forms and step-by-step instructions for routine tasks;
  • Templates for key documents;
  • Emergency numbers for service providers;
  • Billing procedures for customers.
  • How your company is positioned in the market and your marketing tools.

3. Document Your Intangibles
Intangibles for house buying might include: Is the house near a good school or daycare? What kind of neighborhood is it?  What kind of commute are you looking at to get to work?

Your business also has intangible, often intellectual, assets that a potential buyer needs to be made aware of, such as:

  • Proprietary research you’ve conducted;
  • A formula for acquiring new customers;
  • Criteria you use to evaluate a potential new location;
  • Your unique approach to satisfying a customer.

As with selling a house, your company’s “X Factor” can go a long way towards closing a deal.

Gerard Keogh QFA

Director

Pension Freedom

P.S. Curious to see if you have a business you could sell one day? Get your Sellability Score.

(link to the Sellability Score on website).