How Brainstorming a Shortlist of Potential Acquirers Can Pay Off

When David Perry started his video game company, Gaikai, he thought about all the companies that may want to buy it one day. In essence he was creating a shortlist of potential acquirers. And also creating a quick way to find a good fit.

Now typically when you think of startups, one word comes to mind: growth. So why would a business without any revenue or employees be thinking about potential acquirers so early? 

For Perry this is just “down-the track” thinking at work. Rather than waiting for the right opportunity, he wanted to drive the process.

The Strategy

Later when Perry was interviewed about Sony’s $380 million acquisition of Gaikai, he described his philosophy by using a moving train as an analogy. 

Think about a train full of people representing an industry, he explained. Most people are comfortably inside the train watching the countryside go by. There are some people scrambling behind the train, hoping to jump on.

Then there are a select few people who are obsessing over where the train is going and are constantly thinking about the upcoming stops along their journey. Perry described himself as one of the people thinking about where the train is going next, so it only made sense to him to have a list of potential acquirers from day one. 

Sony was in the bullseye of Perry’s dartboard of companies to sell to. So when his partner suggested they name their company Gaikai, a Japanese word that roughly translates to “open sea,” Perry agreed. 

He knew it would be the perfect fit for what he had in mind. He also knew he had an opportunity not just to create something unique but to build a connection to his target acquirer.

And while the word gaikai is hard for the average English speaker to pronounce, Perry knew the name would be irresistible to Sony. 

More Than Just A Name

Perry and his partners went further and named other parts of their product line with Japanese words. They also designed the company for the global gaming market, not just for American customers. It was a unique tactic that differed from the habits of video game makers at the time. 

Years later, when Perry was ready to sell Gaikai, he approached all the big video game makers about buying his company. Unsurprisingly, Sony was the most enthusiastic. They were thrilled to see the extent to which Perry and his partners had gone to make Gaikai fit Sony’s culture. 

The Takeaway

Visualizing the shortlist of potential acquirers when you’re making key decisions in forming your company is an excellent way to vet your next move.

Imagining how your potential acquirers would react to hear how you are thinking of evolving your company can inspire a more strategic lens through which to make big bets. 

Whether you are looking to sell soon or are years away from selling, the process of developing a shortlist of tomorrow’s potential acquirers will help you make better decisions today.

Want to learn more? Speak with us about how we can help you think through the strategy of selling your company some day.

Simplest Form Of Recurring Revenue Every Business Can Adopt

Recurring revenue makes your company more predictable, extends the lifetime value of a customer and ultimately makes your business more valuable. If you’re unsure how to create these automatic sales, a simple service contract can be the place to start. 

A service contract is an agreement to provide an ongoing level of service in return for a regular payment. It can be a way to transform an ordinary service company into a predictable subscription business. 

For example, Walter Bergeron started a small company servicing circuit boards for large food processing plants. It was a classic service business where Bergeron offered his time to fix customer’s circuit boards when they broke. 

The business model worked fine, but cashflow was lumpy. Bergeron had reached a point where he could no longer sell any more of his time, and his growth stalled. Knowing something had to change, Bergeron made a 90-degree turn.

The Switch to Recurring Revenue

When he began offering a membership model where instead of contracting him when the circuit boards broke, customers were able to subscribe for fixed monthly fees in return at any time with access and assistance from his technicians whenever they needed it. This change transformed his business quickly. In fact, he grew revenue up to $7 million annually before selling it off for more than $10 million. A significant premium over traditional service companies!

As the example of Walter Bergeron illustrates, most small businesses begin life using the “break/fix” business model where a customer has a problem, and you swoop in to provide a solution. This business model may make you feel valued as a problem solver, but it comes at the expense of the value of your company. In the break/fix model, you must create demand, sell your product or service, deliver it, and start all over again, which is why acquirers place a lower value on these transactional businesses when compared to subscription-based companies. 

By contrast, with a service contract, you create an ongoing stream of income that has the potential to grow the lifetime value of a customer dramatically. When you can accurately predict how much money you will get from a subscriber, you can invest more in wooing them. 

The most compelling reason to adopt a recurring revenue model is the impact it can have on your company’s valuation. Dollar for dollar, recurring revenue can be worth more than twice that of transactional revenue, depending on your industry.

Service contracts are a simple and effective way to transform a transactional business into a recurring revenue goldmine. 

Want to learn more? Speak with us about how we can help you create a recurring revenue program to help create a more valuable entity.

Avoid These 5 Mistakes In Setting Up Your Business

Did you know there are things you can do in the structuring and setting it your business that can pay huge dividends in terms of making it more efficient, less frustrating and putting more money in your pocket in a tax efficient manner?

And, one of those things is how you set up your new venture. Starting a business is exciting, but don’t overlook the details. It’s important to think through which type of business entity makes the most sense for your company today and down the road.

As you make your decision, you’ll also want to steer clear of five common mistakes that entrepreneurs make when selecting a business entity.

Not forming an entity

There’s an old saying that not making a decision is a decision in itself. Similarly, not choosing an entity structure leads to the default of operating as a sole proprietorship.

This is the single biggest mistake I see. I consult with business owners who may have a few businesses and are looking for some help. And, my most important piece of advice is you should always have an entity in place. And, by that I mean a legal entity.

Here’s why. Having a legal entity provides you with asset protection to ensure any future claims from creditors can only be satisfied with the assets in the legal entity. And, in the most industries this is super important. Plus, there are personal benefits to having your business under a legal entity, And oh by the way, in a lot of states your professional license (think attorneys, CPAs and physicians) needs to be held by a legal entity.

Now, I’m not a lawyer, but I am a CPA and have seen this in a ton of cases, where someone just starts into business without a legal entity. And, this is a huge mistake! 

The business structure you choose can significantly impact some important issues in your business life. These issues include exposure to liability and at what rate and manner you and your business are taxed. It can also impact your financing and your ability to grow the business, the number of shareholders the business has, and the general way the business is operated.

Let’s pause for a minute and talk about the major types of legal structures. You’ll hear a lot about an LLC, and often what’s called an S corporation (an “S Corp”) or a C corporation.

Each of them have benefits but also requirements. For example, an LLC is generally easier to set up and to run, but has some restrictions.

accountant counting money

Now, while LLCs and S Corps are two terms often discussed side-by-side, they actually refer to different aspects of a business. An LLC is a type of business entity, while an S corporation is a tax classification. An S corp election lets the IRS know that your business should be taxed as a partnership.

To become an S corporation, your business first must register as a C corporation or an LLC and meet specific guidelines by the IRS in order to qualify.

Which, brings us to the second huge mistake you want to avoid.

Failing to research your options

Not researching all your options at the start could put you and your business on a path that doesn’t match your goals.

For example, if you do think you’ll decide to have shareholders down the road, do not make your company an LLC. 

LLCs are owned by members (think, partners) who share the profits. Partners are more involved in the business plan and operations, whereas shareholders are simply investors. Often shareholders have a voice, but they usually only make up 49% of the shares.

► Pro Tip: If you’re looking to add investors down the road, it’s much easier to do with a C corporation.

Focusing on short-term over long-term plans

The mistake here is structuring your business for the short-term and not considering the future, such as the potential for investors or new owners.

And, this is super important if you’ve decided that you would need to raise funds for growth in the early years of the business. If so, you need an investor-friendly structure. And as we talked about, that might be a C corporation.

Forming a C corporation also allows you to issue multiple classes of shares, which is often a requirement for investors who usually request a separate share class be issued for each investment.

Only considering taxes

It’s a huge mistake to select your filing type solely because it offers certain tax advantages. For instance, you’ll see some niche organizations in their early days avoiding C corporation status at all costs. And, that’s even when it’s clearly the most functional entity for their business model, growth goals, and future capital requirements.

These tax considerations must be balanced with liability concerns, government requirements, and, ultimately, your vision for the business’ future.

And, oh by the way. Depending on the type of structure you settle on, you’re going to have members or partners or shareholders. How one of these is taxed is the same for all of them, so if you’ve got a passive investor who just wants to invest in your business, you’ve got to consider their requirements.

Casual relationships your partners 

Now, we’re not talking about personal relationships here. We are talking about the consideration that when forming a partnership or an LLC with people you know well, you may be inclined to skip the official paperwork. 

After all, you’re friends, right? Everything is unicorns and lollipops. But, what happens when the shine wears off? What happens if you and the other owners have a falling out? And believe me, It happens all the time.

So in long-term ownership situations, or in case of a separation, all of this needs to be considered. And, the more specific the agreements and terms, the better.

I tell folks, hope for the best when setting up your company, but plan for the worst. And that includes protecting you and your business in the event of a messy divorce.

So, there’s five common mistakes you can avoid in setting up your business. And, while it may be a lot to think about, the good news is that it’s fairly easy to avoid these common mistakes. Simply explore all your options, think about where you see your business going—and growing—in the years to come, and be sure to formalize any business relationships.

Want to learn more? Speak with us about how we can help you select the right entity type for a new venture or possible change your entity type if it doesn’t serve you anymore.

Here’s The Most Critical Factor to Achieve Your Goals

As we finish our Q3 and roll into the fourth quarter of the year, you may be starting to wonder how you’re going to achieve your goals for next year.

Given how 2021 has gone, maybe your primary ambition is to grow and thrive in 2022. Perhaps you’re going to create a recurring revenue stream or finally hire that general manager. Or maybe you’ve decided to start preparing for an exit. 

Whatever your goals are, the most important thing you can do now is write down your plan to achieve them.   

A Revealing Study

This point was driven home recently by a study published in the British Journal of Health Psychology. The project was designed to see what impact stimuli would have on participants’ level of exercise. Researchers divided a random sample of participants into three groups. 

For the first group, the researchers asked the participants to track how frequently they exercised. They were told to read a passage of an unrelated book before beginning.

For the second group, researchers wanted to measure the impact that motivation would have on their exercise levels. The second group was also asked to track their activity levels and were then told to read a book’s motivational passage that outlined the benefits of exercise for maintaining a healthy weight. 

The third group was asked to read the same motivational excerpt as the second group but had the additional task of writing down their exercise goals for the coming week. 

The Results

When the researchers sat down to analyze the results, they were surprised to find that among the motivated group (group 2), just 35% exercised once per week. That was slightly less exercise than group 1 (36%) even though they were motivated to work out.

When the researchers analyzed the third group’s exercise log, they were stunned to find that 91% of them had worked out. The only difference between groups 2 and 3 was that the third group was asked to write down their goals. That simple task seems to have almost tripled their likelihood to succeed. 

The researchers concluded that motivation alone has virtually no impact on our actions. Instead, it is motivation coupled with a written action plan of how you’re going to achieve your goals that has the most significant impact on your results. 

Food for thought as you start thinking about making 2022 your best year yet!

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Track These Seven Key Performance Indicators

Acquirers love key performance indicators. Here’ why you should track them, even if you’re not planning to sell your company.

Baseball’s leadoff batters measure their “on-base percentage” – the number of times they get on base as a percentage of the number of times they get the chance to try. 

Similarly, doctors in the developing world measure their progress not by the aggregate number of children who die in childbirth but by the infant mortality rate, a ratio of the number of births to deaths. 

Acquirers also like tracking ratios (they call them “key performance indicators” or “KPI”) and the more ratios you can provide a potential buyer, the more comfortable they will get with the idea of buying your business. 

Better than the blunt measuring stick of an aggregate number, a ratio expresses the relationship between two values, which is what gives them their power. 

Whether you’re planning to sell your company in the near future or down the road, here’s a list of seven KPIs to start tracking in your business now: 

Revenue per employee 

What: Net revenues divided by the number of “full-time” equivalent employees (“FTEs”). The resulting ratio will be listed as a dollar value.

Why important: Payroll is the number-one expense of most businesses, which explains why maximizing your revenue per employee can translate quickly to the bottom line.

Business Insider estimated that Craigslist enjoys one of the highest revenue-per-employee ratios, at $3,300,000 per employee, followed by Google at $1,190,000 per bum in a seat. Amazon was at $1,010,000, Facebook at $920,000, and eBay rounded out the top five at $530,000. More traditional people-dependent companies may struggle to surpass $100,000 per employee.

Employees per square foot 

What: Calculate the number of square feet of office space you rent and divide it by the number of “full-time” equivalent employees (“FTEs”)

Why important: You can judge how efficiently you have designed your space. Commercial real estate agents use a general rule of 175–250 square feet of usable office space per employee. And, post-pandemic, this ratio will likely become even more important.

Sales per square foot 

What: Gross sales divided by the square footage of all your operating locations.

Why important: By measuring your annual sales per square foot, you can get a sense of how efficiently you are translating your real estate into sales. Most industry associations have a benchmark. For example, annual sales per square foot for a respectable retailer might be $300.

With real estate usually ranking just behind payroll as a business’s largest expenses, the more sales you can generate per square foot of real estate, the more profitable you are likely to be. 

Net Promoter Score – Ratio of promoters and detractors 

Fred Reichheld and his colleagues at Bain & Company and Satmetrix, developed the Net Promoter Score® methodology, which is based around asking customers a single question that is predictive of both repurchase and referral.

Here’s how it works: survey your customers and ask them the question “On a scale of 0 to 10, how likely are you to recommend <insert your company name> to a friend or colleague?”

What: The percentage of the people surveyed who give you a 9 or 10 are your ratio of “promoters.” Similarly the ratio of detractors is the percentage of people surveyed who gave you a 0–6 score. Calculate your Net Promoter Score by subtracting your percentage of detractors from your percentage of promoters. 

Why important: The average company in the United States has a Net Promoter Score of between 10 and 15 percent. U.S. companies with the highest Net Promoter Score include USAA Banking (87%),  Trader Joe’s (82%), Costco (77%),  USAA Auto Insurance (73%), and Apple (72%). Understanding where your company rates will give potential acquirers insight into the value of the customer base they may assume.

Customers per account manager 

What: How many customers do you ask your account managers to manage?

Why important: Finding a balance can be tricky. Some bankers are forced to juggle more than 400 accounts and therefore do not know each of their customers, whereas some high-end wealth managers may have just 50 clients to stay in contact with. It’s hard to say what the right ratio is because it is so highly dependent on your industry.

Slowly increase your ratio of customers per account manager until you see the first signs of deterioration (slowing sales, drop in customer satisfaction). That’s when you know you have probably pushed it a little too far. 

Prospects per visitor 

What: The proportion of your website’s visitors who “opt in” by giving you permission to e-mail them in the future.

Why important: Dr. Karl Blanks and Ben Jesson are the cofounders of Conversion Rate Experts, which advises companies like Google, Apple and Sony how to convert more of their website traffic into customers.

Dr. Blanks and Mr. Jesson state that there is no such thing as a typical opt-in rate, because so much depends on the source of traffic. They recommend that rather than benchmarking yourself against a competitor, you benchmark against yourself by carrying out tests to beat your site’s current opt-in rate.

The easiest way of increasing opt-in rate is to reward visitors for submitting their e-mail addresses by offering them a gift they’d find valuable. Information products (such as online white papers, e-books, videos or calculators) make ideal gifts, because their cost per unit can be almost zero.

Prospects to customers 

What: Similar to prospects per visitor, another metric to keep an eye on is the efficiency with which you convert prospects – people who have opted in or expressed an interest in what you sell – into customers. 

Why important: Conversion Rate Experts’ Dr. Blanks and Mr. Jesson recommend you monitor the rate at which you are converting qualified prospects into customers, and then carry out tests to identify factors that improve that ratio.

Conversion Rate Experts more than doubled the revenues of, the leading community for search marketers, by converting many of SEOBook’s free subscribers into customers. Techniques that were found to be effective included (perhaps counter intuitively) restricting the number of places available; allowing easier comparison between SEOBook and the alternatives; communicating the company’s value proposition more effectively; and simplifying its sign-up process. The trick is to establish your benchmark and tinker until you can improve it. 

To sum it all up, acquirers have a healthy appetite for data. The more data you can give them – in the KPI ratio format they’re used to examining – the more attractive your business will be in their eyes. 

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