April 2018 | Przegląd Piekarski i Cukierniczy (Baking and Confectionery Review)
SELLING THE COMPANY
In the previous article we discussed four important areas of shaping a company’s value. We spoke of the habits of owners, of their approach to company money and to the way of managing the company. We indicated economic indicators, which are in essence a way of looking at the bakery through the eyes of investors. We also touched on the problem of the concentration of revenues, which is a source of risk for potential investors.
A company is worth exactly as much as someone is willing to pay for it. Value therefore comes down to the assessment of the investor, who calculates in their mind’s eye how much it will cost them in the future to put the company in order and reorganise it. The buyer also sees risks and will try to avoid them. The investor’s imagination is an important asset of theirs. Building up a company’s value is in essence looking at one’s own bakery or confectioner’s shop through the eyes of the buyer. The aim of this article is to indicate what the investor will certainly pay attention to in the process of assessing the company.
Today we will discuss the further areas of the company’s value.
W-MOSZCZYNSKI ppic 4-18Area five: net profit before tax
It has been known for a long time that companies avoid paying taxes by putting everything they can into tax-deductible costs. In contrast to tax optimisation, when building up a company’s value one has to show net profits, refraining from unnecessary costs. Showing low income in the profit and loss account of a bakery or confectioner’s shop may be interpreted as weakness. For the analysis of value, cash flows are used, because in the general opinion they reflect the true financial condition of the company. The forecast of the cash flow result is the decisive indicator of the company’s value. In the period before the sale of the company it is worth taking care that high cash flows should appear in the bakery, since this significantly strengthens the owner’s negotiating position.
Alongside cash flows, one should show the taxes one pays. When thinking about selling the bakery, one should think twice about buying assets subject to depreciation with the aim of minimising taxes. Depreciation does not reduce the stream of cash flows. Fleeing from taxes in the periods preceding the sale of the company leads to a lowering of its value. The same applies to other forms of fleeing from tax: transfers between one’s own companies, or purchases of raw materials at the end of the accounting period. Showing the tax one pays is a bow in the buyer’s direction. The point is to show them that there is a financial margin which they can easily make use of.
Area six: the method of remuneration
The level of the owner’s salary has a significant influence on the assessment of the company’s value. If the owner earns a symbolic remuneration in their bakery, they should not expect that investors will appreciate this and will therefore raise the company’s value. Someone once jokingly stated that a company’s value is decided not by the rate of return on labour, ROL (Return on Labor), but by the rate of return on investment, ROI.
Area seven: the development plan
A bakery or confectioner’s shop with its own sales network should have clearly defined goals, because otherwise, according to investors, it will develop of its own accord in an undefined direction. As we have already mentioned, in order to sell the company advantageously the owner has to begin to think and look through the eyes of the buyer. Investors think in the categories of goal, plan and indicators. The absence of a plan is a risk, and investors always first avoid risk and only then think about how much it will cost. If investors see a sensible development plan, it will undoubtedly be added value for them.
Area eight: human resources
Investors are guided by the principle that every employee can be replaced by another. They are sensitive to a company’s dependence on key employees, because they know that after taking over the company these people may for some reasons leave, leaving them in trouble. Basing one’s business activity on two or three key employees is a risk factor which reduces the company’s value. A key person in a confectioner’s shop may be an experienced confectioner who is the only one able to make beautiful cakes, or a technologist able to program recipes in the dosing system. The owner should bring it about that all the confectioners are able to make beautiful cakes and all the bakers are able to program the dosing machines.
In the case of larger companies, one should consider whether the present management board is not a barrier to the growth of the company’s value. Often the boards of family companies consist of people who have been in the company from the beginning, who have not worked earlier in other companies, and whose main asset is the enormous trust and loyalty of the company’s owner. In order for the company to increase its value in a short time, major changes have to be carried out in the company, best made by someone who has already carried out such changes before.
The third and final question in the area of the value of human resources is the way of remunerating and motivating key employees. It so happens that in the food industry the work of people, experience and expertise is still one of the most important factors in a company’s value. As we have already mentioned earlier, competences should be dispersed, so that the key ones do not belong to a narrow group of specialists. Because of trust and experience, it is impossible to eliminate the significance of key employees entirely. For investors these people are a very sensitive point, and that is why special conditions of employment and remuneration should be created for them, which will significantly depart from market conditions. This should have a positive influence on the company’s value.
Area nine: goodwill value
Goodwill value is above all the value of the brand; it is the value of relations with customers, access to the market, relations with employees, with suppliers and wholesale buyers and other stakeholders. It is also its unique recipes, patents, environmental decisions and permits. This cannot be underestimated, because usually more than half of an enterprise’s value is precisely goodwill. There are many ways of increasing goodwill. For example, one can find and isolate a competitive advantage, then, if possible, legitimise that advantage by means of a patent, a licence or the registration of a recipe, and on the basis of that advantage increase one’s market share. Work on increasing goodwill value should be conducted according to plan, and this activity should be meticulously documented.
Let us remember that investors do not like risk; in goodwill they will look above all for elements limiting the risk of business activity. A good brand is a guarantee of good quality for customers and cooperating partners. Customers will not leave after a change of owner, because they are attached to the brand.
Next month we will discuss the last four areas of a company’s value. Let us note that we build value not only for investors. Value also plays an important role in relations with banks. Regardless of how good the company’s financial condition is, one should also enter into relations with a bank. But about that in a month’s time.
Wojciech Moszczyński
owner of the consulting company K12 Equity Council
Wojciech Moszczyński — graduate of the Department of Econometrics and Statistics of Nicolaus Copernicus University in Toruń; specialist in econometrics, finance, data science, and management accounting. He specializes in the optimization of production and logistics processes. He conducts research in the area of the development and application of artificial intelligence. For years he has been engaged in the popularization of machine learning and data science in business environments.
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