When we look at potential investments, particularly in service, business service and niche manufacturing companies, the most important valuation attribute is the likelihood of sustainable revenue and profit growth that can be enhanced. As such, consistent, strong, multiyear historical growth at the rate of 15 to 25 percent annually generally will create more value than a very significant single year jump — even if that jump is as much as 50 or 100 percent. Technically, that valuation difference is because a buyer will want to average the earnings over a several year period, because the “big jump” year is so unusual.
Philosophically, that valuation difference is because buyers generally believe that consistent historical growth is a far better predictor for consistent future growth. So, unless there are circumstances that support the continuation of a hyper-growth year, a company for sale that has consistent historical growth will be credited with more future earnings and a higher valuation multiple. The tortoises usually win that race.
In our experience, if a company wants to generate solid, sustainable growth, there are a few areas where executives should pay particularly close attention. One is the urgency with which they run their organizations, the second is investment in their sales and marketing, and the third is taking the time to think strategically.
Have the right amount of urgency
A great rule of thumb is to run your company as if you are going to sell it in five years, even if you have no intention of selling. By simply putting this five-year mentality in place, the right amount of urgency and focus is created throughout the organization, from CEO to the shop floor. This urgency will help with tough personnel decisions. It also often will motivate innovation in product offerings, cost savings and other areas of the business. However, this rule of thumb may not apply to significant long-term capital investments that won’t increase short or medium term earnings, but are nonetheless necessary.
Evolve your sales effort
Growth requires investment. The most successful, consistently growing companies typically have a focus on sales talent, process and discipline, while creatively looking for new products and markets.
It takes a focused effort to find quality sales talent. One of the operating partners that we work with is truly an expert at this. He has a couple of practices that we believe are part of his consistent success. When he recruits new talent, he typically does not limit his search to individuals that have expertise in the company’s industry. For example, even for a software company we invested in, he recruited a highly successful salesman that had no technical expertise and had never sold software. However, he had a track record of success selling to the same type of customer. The other thing he does is review sales performance on a regular basis and replaces nonperforming members of the sales team.
While sales talent is paramount, it also is important to have process and infrastructure to organize, monitor and support the team. Tighter accountability standards and consistent discipline on meeting realistic goals often are areas of opportunity for improvement and more consistent growth.
In our experience, the most successful and valuable companies take the time to look beyond the day-to-day and current-year budget to develop a strategic vision for the company’s future — say three to five years — and how it’s going to get there. This is not a budget. It is a detailed picture and a path. The process of developing the strategic plan will bring the company together, and give leaders at all levels of the organization a better basis for making decisions. If consistent growth is part of the strategic vision, it is much more likely to occur than if there is no plan.
Successful focus on these three areas will facilitate consistent growth, improvement and valuation creation.
Dan Lubeck is founder and managing director of Solis Capital Partners (www.soliscapital.com), a private equity firm headquartered in Newport Beach, Calif. Solis focuses on disciplined investment in lower-middle market companies. Lubeck was a transactional attorney and has lectured at prominent universities and business schools around the world.