In this podcast, Lorraine McGregor from Spirit West Management and Rob Wallis discuss the low number of businesses that are actually selling in North America, despite 70% of baby boomers business owners saying they want to sell within the next five years. They explore the reasons why many businesses do not sell, including the lack of understanding of how to play the M&A game and not being "sale ready." They also delve into the importance of increasing a business's valuation in order to attract buyers and the options available for business owners who are not happy with their valuation.
In this episode, we’ll discuss:
About the Guests – Lorraine McGregor
Lorraine founded Spirit West Management in 1990 and has worked with CEOs to help grow their businesses through effective partnerships, marketing, and sales strategies. In 1999, she returned to Canada and has worked with both US and Canadian clients. Together with leadership expert Rob McGregor, they provide growth strategies and leadership expertise, as well as guide business owners and their families through a process to decide the best course of action for their business. They also work on improving systems, profitability, market focus, and organizational effectiveness, and address conflict, family dynamics, and partnership problems. To read more, please visit the Spirit West Management website.
About the Host – Rob Wallis
Rob has provided senior financial planning and advice to VELA clients for over 15 years. He excels at working with entrepreneurial professionals and business owners to define their individual ecosystems and establish meaningful life and financial goals. He has specialized expertise in guiding healthcare professionals who are building multi-location, and specialist clinics. To read more, please visit the VELA team page.
Transcript
Rob Wallis:
Hello everyone. Welcome to The Polestar Podcast by VELA Wealth. I am delighted to have Lorrain McGregor from Spirit West Management joining us today. We're going to be talking about what to do with business valuations, especially if you're not happy with them. Lorraine and I have been working together for several years, and we've shared lots of different clients and different experiences. What really is very interesting for me is learning about the options for people who are thinking about selling a business and how they get the best value for their company and whether is it even possible to sell a business at all. So, before we jump into the content, welcome Lorraine. Please say a few words about yourself.
Lorraine McGregor:
Thank you, Rob, for having me on your podcast. I'm so glad that you're tackling the topic of valuation. We, at Spirit West Management, have been helping owners grow their businesses to the next level and learn how to become sale ready and increase their valuation for about the last 20 years. It's very difficult to learn how to play the valuation M&A (Merges and Acquisitions) game from the outside. So, we have taken a lot of time to understand what goes on inside dealmaking and translate it into language and actions that business owners can take advantage of. So, we love the opportunity to be able to talk about it.
Rob Wallis:
Well, before we jump in, I'm always fascinated to hear the stats about businesses that are for sale in Canada and indeed the world. And especially in the context of the greatest wealth transfer in history is taking place right now, and a lot of baby boomers have businesses. So, if you could let us all know what those stats are that would be awesome.
Lorraine McGregor:
Well, thanks for giving me the opportunity to describe this because these numbers aren't apparent. These numbers have been tracked since 2008. So, across North America, Canada, and the US there are three and a half million businesses owned by boomers. People over 55, 60 I guess now, and you would think since there's going to be this great wealth transfer that those companies would be on their way to sell. Since 2008 these companies have been surveyed by many different organizations and at least 70% reliably every single year say they will sell within the next 5 years. So, we would expect this to happen and in fact, many books and predictors have said this is what's going to happen, but the stats of the number of companies that actually sell tell a very different story. So, Capital IQ and several other organizations track how many businesses actually sell each year. If you know if it was 70% that took the time to become ready to sell, we'd be seeing hundreds of thousands of companies sell each year, but in fact, the numbers stay steady. From 2008 to even 2022 there are roughly three to four thousand companies each year that actually sell. Way back when we started to see this trend we thought about why so few companies are actually selling and we got to the bottom of understanding that problem and we designed everything that we do to help our clients know how to play the M&A game because there are some secrets in how they do things that totally stop most business owners from finding buyers.
Rob Wallis:
Okay, so three and a half million companies (owned by boomers), and 70% of those wanting to sell within the next five years but there are only three and a half thousand transactions a year in North America.
Lorraine McGregor:
Right, so 70% is 2.8 million and in Canada will just take 10% of that, so 280,000 predicted they'd sell. In every year since 2008 we should see upwards of 100,000 sales and what we see in Canada has more like 1,500 to 2,000 and in the US more like 4,000.
Rob Wallis:
Staggering!
Lorraine McGregor:
Staggering, yes. So, if you're one of the 90% of owners that never find a buyer for your business, that means you can't actualize a return on investment. You can't sell the business and liquidate all that you've built up, and if you've been counting on that wealth to power your retirement or your next act in life this can be a hugely rude awakening right at the point in your life when you kind of run out of energy to re-engage and reinvent.
Rob Wallis:
So, what kind of capital is out there actually chasing these businesses?
Lorraine McGregor:
Well, this is a confusing thing. I mean all the headlines are about how much wealth is searching for businesses to acquire. In fact, every year it gets a bit bigger, but the current number on the table is between eight and ten trillion dollars looking to acquire businesses. So, you look at it and you think, well, there's ten trillion looking for businesses, but 90% are never going to sell. Well, how do you make sense of that? And that conundrum is exactly the problem that we solve for owners. There's high demand for certain types of businesses that have been made sale ready. So, those businesses will get multiple offers or just find the ideal buyer, but you only need one. And then the rest of them will never find those buyers and there's a low demand for companies that have not been made sale ready and that is an excruciatingly difficult situation for owners to come to terms with.
Rob Wallis:
So, what are some of the key reasons why businesses are not sale-ready?
Lorraine McGregor:
Well, they've not been told, not been educated, not been prepared over the course of their lifetime and their business to become sale ready unless they were in a tech business. Because in tech business they get investors early on and every single one of them is lecturing you constantly about how they're going to get a return on investment when the exit is going to happen, how will the investor pull their money into the business, and etc. So, owners are always thinking about that. But if you don't have a tech business, you're not surrounded by an ecosystem of advisors saying here are the things that you need to do to ensure that an ideal buyer or an investor is going to be interested in liquidating your position. Instead, you are your sole investor, or maybe you with your partners, and if you're not getting that kind of advice early on, you come to a certain point in your life and you want to move on and now discover that you can't, and you're not prepared in an easily curable way to get that return on investment.
Rob Wallis:
Got it. So, how does the opportunity to sell a business change depending on the sector? You mentioned tech, but there obviously would be a small percentage of what's transacted each year. What about other industries?
Lorraine McGregor:
There's interest in every single industry out there by acquirers. The real reason they want to make an acquisition is that they need to solve their own business strategy problems. So, if there’s another company, that needs to solve a particular growth problem, they will need to get into a new market, they need new technology to complete the picture for their customers, they need to acquire expertise, they want to get into a new geographic area and to build it themselves would take too long. So, making an acquisition solves a certain strategic problem.
Now, other companies such as competitive companies buy 90% of all the acquisitions. The other type of buyer buys probably 10 to 12% and those are private equity buyers and they're buying growth in the future cash flow growth, so they're not acquiring what you've done, they're acquiring what you're going to do, and you're already on the way to proving that your business is growing through at least 30% year over year and is producing growth and cash flow probably both in gross margin at the same time. Those types of companies are super interested in it.
Rob Wallis:
Okay, so we have an unprepared seller of a business and they've got a valuation of their company, and let's say it's come as a shock to them because they thought the company was worth more than it was. What are their options now?
Lorraine McGregor:
Well, the first step we always say is to handle reality. Yes, it's very painful, demoralizing, and embarrassing to get a valuation that is less than what you thought it should be worth. Because you're looking at all that you've built, and you're valuing all of that, whereas the evaluator and the people, the buyers that they represent, are valuing the future, and so that's where we have a disconnect. By handling reality, you have to stand in the shoes of your ideal buyer and ask yourself, “What do I see that proves to me that if I acquire this company I'm going to get more growth in the future?” - so that's the first step. Being able to look at your business dispassionately from the buyer’s perspective helps you see what the opportunities are to cure some of the things that get in the way of growth.
The second thing that you need to do after you've handled reality is to be prepared to make some changes in how you run your business so that growth is possible and so that you, as the owner, are not materially needed inside the business in some functional role. Solving those three things that perspective, the growth problem, and making sure that you're not in a key position, meaning you'll have to work for the new owner if you do sell the business, are the first places we look for helping a business owner improve valuation and then from there we look at profitability and growth prospects. And it sounds like an enormous to-do list, but sometimes you just want another two million and you need to become sale ready. So, the project to make these adjustments could be small, or it could be much bigger depending on your level of ambition and your level of risk talent.
Rob Wallis:
Interesting. So, how long does it take typically to turn a business around to achieve what the owner wants?
Lorraine McGregor:
Well, first of all, let's tackle where the owner is now. Of course, the owner probably has a successful business, and for all intents and purposes it makes money, it's a great place to work, great employees, great customers. It's just the owner has come to a point in time when for whatever reason they want a return on investment, and I think it's important to acknowledge all that's been built. But to be able to sell it to somebody who can easily step into the owner's shoes and transition the business so that it continues on its growth trajectory that takes a bit longer for two reasons. One is the evidence - the proof that the business is growing has to be in the financial statement. So it's going to take 6 to 12 months, maybe even 18 months for changes to be seen on the bottom line, at the net profit margin level, at the gross margin level, and at the revenue level - thinking about the income statement. The second thing is the amount of change needed. Might just be a few adjustments or it might require installing someone to replace you as the functional role, it might be cleaning up how you collect your financial data, and it might be entering a new market, or exploring introducing a new product. So, that can take 12 months to two years.
The way that we do things, we aim at the ideal buyer early on in the process, so today you might be part way through implementing the plan to make the company sale ready but because we've signaled your ideal buyer that you're probably coming onto the market, you could probably get a deal much earlier in one to two years and still be on your growth trajectory. As we said, there's ten trillion in wealth looking for businesses, and they're all looking at the same few companies that are willing to take the journey to make the company sell-ready. So, once you pop up on the radar you get a lot more interest. You could have a deal, but not be finished your growth process.
Rob Wallis:
So, in terms of popping up on the radar, let's assume someone got an evaluation that they are happy with, and they want to go to market. How can that seller access these trillions of dollars of capital that's out there looking for companies like theirs?
Lorraine McGregor:
OK, well first let's make a distinction. Just because someone has said your company is worth ten million, or five million, or fifty million doesn't mean a buyer wants to pay that. Having a valuation is no guarantee that you're going to find a buyer. Secondly, another issue that's super important is understanding how the game is played. There are two types of groups that sell or represent the selling of a business. The first is Merges and Acquisitions (M&A) Advisor and the second is a business broker. The M&A Advisor gets paid after the transaction takes place, meaning they get a success fee, some percentage of the sale price and they only want to work with those businesses they know they have buyers for. So, you have to be sale ready, and you have to have solved what their buyers are looking for strategically or financially. And if they can see that in you, how you talk about the business, the questions you answer about how the business makes money and loses money, then they might be interested. But for every hundred businesses they look at, they may only take on five or six maybe seven clients in a given. So, you might be given an evaluation but not be chosen to be represented by this company. And this is happening all the time, so you think “oh, but they told me it was worth X but they didn't take me on as a client. So now what do I do? And they go shopping for another M&A Advisor or maybe they talk to a business broker and the business broker works quite differently.
Rob Wallis:
Sorry to cut in there. Just before we go into the business broker. What are the reasons an M&A Advisor wouldn't take somebody even though they've given an evaluation?
Lorraine McGregor:
Well, I like to think of it as a consignment shop. A consignment shop takes used goods and puts them on the rack and in the window in hopes that somebody will see them and walk in and buy them. They don't want to have goods on the shelf that isn't saleable. Because M&A Advisors get paid after the company is sold and they put in a lot of effort to help the company present itself and do a search to find that ideal buyer, they've invested a huge amount and they want to be paid, so they're playing the probability game. What's the likelihood we're going to find a buyer for this company, and if the lower it is then the more reluctant they are to take them on?
Rob Wallis:
As a claim, got it. Then, what about the business broker?
Lorraine McGregor:
A business broker maintains a website and displays one of the businesses that they represent for sale, but they most often take a retainer for doing that. So, every month you're going to pay them a certain amount of privilege of being on their website, and sometimes they actively market your business, but they're going to help you understand why your valuation is X and present your business in the best possible light. They're going to take a percentage much smaller than the M&A Advisor at the end of the deal, but you're going to pay that upfront cost so that they're compensated for all the work in helping you get ready to go to market. So, you might get a valuation from them of five million, but you have to make a bunch of changes. Maybe you'll get to six million. The M&A Advisor will tell you you're worth five or ten million and sorry we're not going to work with you. Neither group is going to tell you why or what to do to make the changes that would elevate your valuation, which is only one part of the formula. The other part of the formula is going to make you attractive to your ideal buyer, and you've got to solve for both. That's why it's so important to recognize that if your accounting firm says, “we'll do an evaluation for you and you're worth seven, we'll stamp it, put it on our letterhead.” - that doesn't mean that you're going to find a buyer that's going to give you seven million dollars. There are lots of companies that get valuations and will never find a buyer because they're not sale ready, and the M&A Advisor needs sale-ready companies. The business broker tries to help you become more sale ready, but they can only sell what is of value to the buyer and this is a key point. Value is in the eyes of the buyer. So as an owner, you have to recognize that and stand in their shoes in order to detach from your disappointment that you didn't get the valuation you wanted. And yes, it is your baby, you want people to appreciate and acknowledge all that you've done to build this up. And when people don't give you the number that you've become attached to it's crushing.
Rob Wallis:
So, is it ever too late to do anything about this?
Lorraine McGregor:
It is always possible to turn a business into a sale-ready company, but you need to consider a few prerequisites. One - you still need to have the ambition to increase the valuation of your business. Two - you have to be willing to make the changes and adjustments in how you run things so that it becomes sale ready. Three - I think you have to examine your tolerance for risk. Making a few adjustments, spending another year in the business, and writing about the next economic cycle. Do you have the fortitude to go through that? Some people don't. So, I think it's a personal decision about how much energy you're willing to put into something or can put into something so that it can become sale ready. And of course, just being sale ready doesn't guarantee you're going to get a buyer, because as we saw at the start of this podcast, only a few thousand companies sell each year. So, your ambition has to drive you through the ups and downs of playing the M&A game, and it's quite the rollercoaster sometimes.
Rob Wallis:
So, turning back to the baby boomers and the anticipated transactions over the next 10 to 20 years, there are instances where people cannot find buyers and end up going to shut their companies down completely.
Lorraine McGregor:
I think that's happening all across North America. As owners age and they want a smoother life for themselves, their revenues are flat, maybe key employees are starting to leave because they don't see the company growing and there are other opportunities out there. I think that companies are closing all the time and buyers are wanting companies that are more modernized, more agile, that have automated, that have a higher quality of revenue, that have transitioned from just providing services to adding more value, creating recurring revenue, creating other sources and ways of being of service to their target markets. So, if a company hasn't evolved it kind of runs out of steam at some point.
Rob Wallis:
So, it just closes down and that’s that?
Lorraine McGregor:
Yes, that's happening everywhere.
Rob Wallis:
Any stats on that?
Lorraine McGregor:
I do not have those stats. It's mixed up with bankruptcies, so their stats on bankruptcies, but not companies that have closed in any easy-to-grab in a way.
Rob Wallis:
Got it. So, coming back to the not happy with my business valuation. What do I do? What would be the key advice that you would give that person?
Lorraine McGregor:
Well, the key advice is to talk to someone like us who can explain what's going on behind that number. Why is that number as it is deconstructing what red flags created the lower valuation and also with green lights? What good things? What X factors have built the valuation up? In light of who the potentially ideal buyer is. So, that starts the process of helping the owner understand the dynamics of the marketplace so that they begin to see their business in a way that a buyer would and start to go thinking “Okay, if I improve profitability, or if I went into this market, or if I had someone who was running the area that I run and we offered some new data or a new service to our customers to help them solve a problem, we'd suddenly be of interest to a buyer”, and when we start to have that conversation what I notice is owners start to get excited because they may be run out of ideas on how to grow to the next level. So, we inject some enthusiasm, some potential, some hope tempered with how much risk and ambition the owner has, and they can see an endpoint, they can see how the games played, how they get from a valuation of ten million today to the fifteen million they actually want. And now they see all the steps in between. So, this is what we do we work with an owner and if they are unhappy with the current circumstance, we create a plan of action. It’s great to know how come it is the way it is, but now how do I fix that? And since we've been doing this kind of work for the last 20 years, we've mapped out a whole lot of processes and the inside information on this is every business, no matter whether it's a tax or traditional has the same issues that make them unsaleable. So, we have processes that are designed to solve problems and it doesn't matter what kind of business you have. They're the same log-jams, the same frustrations, and the same way of organizing things that make it difficult for someone else to step in and take over.
Rob Wallis:
So, with everything in our world and the conversations we have with clients this occurs to me as being quite similar to tax planning, for example, or financial planning in general. It takes many years to put the right programs in place to get the desired outcome and everything has to work together to produce a really good outcome for somebody in the future, and it's ultimately patience and taking their advice.
Lorraine McGregor:
Well, very well said - patience and taking advice, and taking action. We're the kind of company that doesn't let you just run away with the salability blueprint. We didn't want to sit down and break it down into projects because as we all know we all have full-time jobs and changing your organization on top of the work of running your functional area in the business, it's like having two full-time jobs. So, the project management of organizational change projects is where we sell. So, that is where you start to see results and that's crucial. No action, no result.
Rob Wallis:
Got it.
Lorraine McGregor:
I think the other thing that you said that I really liked is that we tend to hope that there will be a plan, that our lifestyle business will turn into a saleable asset at some time when we're ready to sell. But the truth is that buyers are looking when it suits them, not when owners turn a certain age, not if they've planned or not planned for that kind of outcome. So, to count your company as an asset before you've made it sale-ready is a recipe for disaster. And as you know, for example, VELA is a wealth management company, and helping them understand that this company is not going to give a better return unless they make it sale ready, is kind of crucial to that planning process.
Rob Wallis:
So, sounds like lots of preemptive work needs to be done. Thank you for sharing that, Lorraine.
Just before we wrap up, could you share a little bit more about a cool project you've got coming up that helps business owners find answers to the question that we posed today, which is what to do with an evaluation that they're not happy with?
Lorraine McGregor:
Well, we are about to launch something that we call the Scalable Saleable Business Formula, that's scalablesaleablebusiness.com. This is a program where we will help you in a five-day period understand why you have the valuation you do, and what things you can change about it so that you can actually get the valuation you really want. It's a report that gives you a deep dive into what to do to make the change happen. We also have a longer program where we can train one of your people to make those changes in the business. So, we won't just hand you the salability blueprint will show one of your top team members or you how to go and implement those changes.
Rob Wallis:
Cool, it sounds very exciting!
Lorraine McGregor:
It is! It's the first time that we've offered this on a much larger scale. We generally work with five or six companies at a time, and with this program, we'll now be able to work with a lot more. And get the word out that if you really want in return on investment from all that you've built in your business, now it's the time to do it, and here's the plan to go out and play the M&A game to win.
Rob Wallis:
Great! Thanks, Lorraine. Great to have you on today and all the best for the new project.
Lorraine McGregor:
Thank you, Rob. I really appreciate the time and attention. Great questions. Thank you.