Comparability in businesses is virtually an oxymoron. Every business is different, including franchised businesses. Having owned a franchise personally, I can tell you that although our services were the same as other franchisees, our employees, our clients and our profitability were certainly unique.

As you evaluate various businesses for the purpose of acquisition, although there is recognized differentiation, still there should be consistency in how profitability of businesses is calculated. Using a homogeneous method of profitability comparison, will allow you to fairly judge the value of businesses, despite their differentiation.

The comparability standard we use in general terms is: Total Owner’s Discretionary Cashflow. Specifically, we use EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization), adjusted by owners discretionary expenses. If you are not familiar with the term EBITDA, don’t worry, any financial adviser you employ in the due diligence process will be. Effectively you are evaluating the business profit on a pre-tax, pre-interest, pre-depreciation and amortization basis. Add to that the owner’s salary and other non-business essential perks and you have a picture of the business’s “Total Owner’s Discretionary Cashflow”.

Having arrived at the discretionary cashflow figure, you can then calculate your own personal financing costs to acquire the business, plus any capital requirements you forecast the business to need (i.e. additional equipment and inventory, or capital for growth purposes). Going through the above exercise on all businesses you evaluate will allow you fair comparability across various industries.

Profit alone however, is not the sole indicator of total value. Although profit is typically the focal point of what buyers are looking for, the income statement analysis should be accompanied by an analysis of the balance sheet. Given comparable discretionary cashflow, a balance sheet with substantially more assets will attract higher value. Why? The buyer will have more tangible assets to continue running and growing the business, and any lenders used in the acquisition process will be happier to lend with a stronger asset base.

What are owner’s discretionary expenses? Basically any expense that is not required to operate the business is a discretionary expense and should be added back to the cashflow of the business. Examples of discretionary expenses would include personal vehicles, personal travel and other entertainment that are non-business related. We’ve seen everything from the building of a vacation home in Belize to girlfriends in Las Vegas that ended up as ‘business” expenses. It’s important to weed out the discretionary, from the truly legitimate business expenses, in order to fairly understand the full profitability of a business.

-Bradley G. Marlor MBA, CBI is a Managing Partner at Utah Business Consultants and a Certified Business Intermediary with the International Business Brokers Association. Utah Business Consultants is a full-service Business Brokerage and Valuation firm.

If you’re like many business owners, chances are you’d only consider selling your business if you were coming to a specific financial or life point where you were ready to move on. But in today’s modern business world, most brokers and advisors recommend significant business exit planning from the very beginning, even if you don’t have any immediate plans to sell.

At Utah Business Consultants, we can help you put this sort of advanced plan into place. Here are some of the benefits you may find from establishing an exit planning strategy as early as possible.

Sets a Roadmap

For starters, planning an exit strategy can actually be a great way to determine the general direction of your business as a whole. An exit strategy brings a defined timetable for certain progress elements, from profits all the way down. It also helps you find specific benchmarks for success through the process, whether or not you’re actively looking to sell.

Enhances Value

When we say “value” here, we don’t necessarily mean raw monetary value in a vacuum – an early exit strategy is no guarantee that your business will sell for a larger figure when you do move on. What we mean, though, is that having an exit strategy enhances the value to you as an owner: You’ll be guiding it toward a conclusion you’re prepared for, which allows you to take the proper steps to maximize your return.

Informs Decision Making

If you don’t have a planned exit, it’s easy to get caught up in the day-to-day factors of the job rather than the long-term strategy behind the business. An exit strategy keeps these kinds of long-term factors firmly in view.

Allows for Flexibility

Chances are, your initial exit plan will need to be revised over time as circumstances change. But if you have a plan in place from the start, it’s easy to adjust your benchmarks within that framework without having to start all over again. And if an unexpected event takes place that accelerates the need to move on, you already have a process in place for doing so.

For more on why every business should have an exit strategy from the start, or to learn about our business exit planning services, speak to the pros at Utah Business Consultants today.

If you’re new to the world of entrepreneurship, you may not be well-versed in the term customer concentration. But it’s important to learn it before you embark on a journey that may be not only unprofitable but costly.

Customer concentration refers to the ratio of customers to revenue share. High customer concentration means only a few customers make up the bulk of your income. As you can imagine, this is a risky situation, because if you lose one customer, it could result in devastating consequences for your business.

The goal of a business with high customer concentration is to work on landing new clients to even out the percentages and thus mitigate risk. But is it safe to acquire a business that has not yet achieved this? Is it a task you can accomplish after the fact?

Over the years we have been engaged with a healthy number of businesses vexed by customer concentration. We have seen many more we elected not to represent. Those we elected to pass on had concentration issues with little to no defensible position relating to concentration. One letter from a concentrated customer ending its relationship and the company would be toast. The final answer of whether or not to acquire a business with customer concentration should be prefaced with answers to the following questions:

1) How deep is the customer concentration? In selected industries, concentration of 10% or more might be considered high. However, generally 20% or more concentration should be cause for concern. If a customer generating revenues of 20% or more is suddenly lost, unless immediately replaced, it would have a serious to devastating impact to the bottom line. Concentration over 50% should be dismissed as an unacceptable target unless very unusual circumstances exist.

2) How easily can the customer leave? If the business servicing the customer has proprietary assets - - tangible or intangible, it can make a big difference. Simply having a “good relationship” with a customer is not enough. Differences in pricing can quickly change the mind of a customer; there is little security in a longstanding relationship where pricing is concerned.

3) What are the gross and net margins of the company? This question should be obvious. The higher the margins, the higher the degree of comfort should exist in the target company given higher levels of customer concentration. Higher margins may be indicative of proprietary products or services that allow the target company to operate very profitably. It may also indicate the targets ability to quickly replace lost clients.

4) One final question is whether the business can expand out of the concentration issue? In other words, can the business continue to grow, thus diluting the concentrated customer? Most business owners don’t want to lose their golden customer, but instead of growing the rest of their customer base (including new customers) they allow the concentrated customer to absorb more and more of their products or services.

Customer concentration can transform an otherwise profitable, successful company to an unattractive target. Buyers should be careful of courting a concentrated target company; sellers should start today on diluting in order to strengthen marketability.

--Bradley G. Marlor MBA, CBI is a Managing Partner at Utah Business Consultants and a Certified Business Intermediary with the International Business Brokers Association. Utah Business Consultants is a full-service Business Brokerage and Valuation firm.