Quick anecdote to kick off today’s post.
In a small town in the midwest there are two plumbers: Jim and Jason. Both are 50 years old, and both are married with two kids who will someday go to college.
Jim and Jason are both great at their trade. They are available when needed, charge a fair price for stellar work, and are well liked in the community. They have the exact same number of customers in any given year, and both produce the exact same amount of revenue.
Their interest in building their respective businesses is where they differ. Not from a revenue or growth standpoint, but from an operational standpoint. Hiring & training support staff and new plumbers. Systematizing and building process efficiencies. Jim is hell bent on streamlining his business in an attempt to organize & simplify his work. Jason is uninterested – he cares more about the customers and the work, and doesn’t mind when his professional world is hectic.
Now let’s fast forward 15 years. Jim and Jason have brought in the exact same amount of revenue over the last 15 years. But Jim has been far more efficient with how that revenue has been distributed. He has systems, procedures, and operations built out to where his only duty is jumping in the car and driving out to see his customers. Because of that he’s been free to spend more time with his family, and has packaged his business in a way that’s attractive to buyers. He could sell to his employees or another party, and reap the value of the enterprise value he’s built. The funds will contribute to his lifestyle in retirement.
Jason is ready to retire, but hasn’t been able to squirrel enough funds away to stop working. He’s not been able to delegate much of his work to employees, and has virtually no systems or processes in place. He realizes that in order for someone else to take over his business they would need to spend time – at least a year – working side by side to understand how he has everything set up. Jason’s had to work twice as hard to produce the same revenue as Jim. He’s enjoyed far less time with his family and his health has suffered.
It’s not surprising that a tightly run business creates more value. What is surprising to many small business owners is the fact that failing to tighten up operations could be the difference between capitalizing on years of hard work by selling versus walking away with nothing.
Which gets us to the point of today’s post: your business is an investment.
The Driver of Business Value
The difference between Jim and Jason’s approaches doesn’t seem like much at first, but the divide grows wider every year. And eventually, when they both start thinking about hanging up their cleats, it’s a chasm. Jim has something with real value than can be packaged and sold. Jason does not.
Plus, not only will Jim have some more cash in the retirement kitty, he’ll also look back on a much less stressful career. He had systems in place, and people in place to assist. These systems and operations were streamlined, and in the end took over a lot of the work for him. (And later on, for the buyer of his business too).
Remember, Jim and Jason’s businesses are remarkably similar. They have the exact same amount of revenue, number of customers served each year, and expenses. They operate in the same region, and take home the exact same amount in income & profits each year. Same goes for their equipment, inventory, hard assets, and debts.
Yet one has enterprise value & can be sold, while the other cannot. Put simply, Jim’s built more valuable intangible assets in his business.
The Key is Fostering the Intangibles
Jim’s intangible assets in the example above center on his streamlined operations. The technology, people, and systems he has in place to do the work serving customers will make it easier for someone else to step in and take over for him. And because of that, someone else is far more likely to bid for that customer base and profit stream.
Systems and processes are one of many different types of intangible assets, though. Your people, culture, goodwill with customers and within your community, intellectual property, and other competitive advantages can also drive business value.
These are the factors that get businesses sold. It may be easier to measure your annual revenue, or inventory, or hard asset value. But the health and quality of your intangible assets is the key to succession. It is imperative to foster them dutifully over time.
Your Business is an Investment
This is a bit of a rambling post, but one that I felt was important to write. When most people hear the word “investing” they think about shares of mega-corporations. Amazon, Facebook, Ford….the blue chips. Over the years a diversified mix of these stocks has produced a very nice return – somewhere in the range of 7-9% annually on average. Which is easily enough to make you a millionaire by socking away as much as you can in a 401(k) ever year.
But I’d argue that small business owners have a much better lever to pull to build wealth: focusing on building their business’s enterprise value. Many small business owners I speak with see their business solely as a job. It’s a way to make a living and create an income, with a little more career flexibility than a traditional 9-5 gig.
I’m generalizing here, but like our example above a concerted effort toward fostering intangible assets can be a massive difference maker. In fact, it can be the difference between selling for a large amount of money come retirement, and liquidating inventory, clearing debts and walking away with whatever’s left.
This isn’t an argument for abandoning your 401k plan. It’s very important to diversify outside your business. But concerted effort and planning toward building a saleable enterprise is worth the effort, and can bring much greater returns. (Growing enterprise value at 20% per year is usually reasonable).
I’m planning a series of posts that will focus on the steps involved in business sales. With any luck they’ll shed some light on how you can build enterprise value and strengthen the health of your intangible assets. Until then, I’d strongly recommend “The E-Myth” by Michael Gerber as a starting point. This book is a foundation piece to me, and one I consider mandatory reading for every small business owner. He covers the systems you need in place to grow and build enterprise value, and does a far better job explaining their importance and how to do it.
For now just remember that your business can be a wonderful investment. If you treat it right.