9 minute read
The skills and knowledge required to manage companies and create shareholder value have historically sat firmly in the realm of public companies. This is because listed public shares are ‘traded’ daily, thereby providing a daily ‘valuation’ of the business and company executives’ performance based on the value and earnings they achieve per share. In private companies, the shares rarely ‘trade’ and therefore the skill is more conceptual and subjective. Consequently, many owners and founders in a private company manage their business for earnings, often on a day-to-day basis, and for many, the value may be seen simply as a bi-product of earnings – but this is not a correct assumption.
Private companies’ leaders may understand the requirement for sale preparation if seeking an exit, but such preparation may well be ‘house doctoring’. That is, tidying up the business pre-sale and decluttering to enhance value – perhaps by initiatives such as better reporting, PR, cost control, or updating contracts.
A tidy company can make it easier for buyers to acquire, by reducing risk and incrementally increasing value. Fundamental value shifts and shareholder value can, however, be designed and secured when we ‘property develop’. That is, strategically designing the business model in advance of an exit strategy to maximise shareholder value by working on areas of the business such as brand, resource maximisation, core competencies, positioning, team, and customer value proposition to secure competitive advantage.
Companies that are ahead in their markets, with real growth prospects and high customer loyalty stand-out as first-in-class and will, as a result, be valued more highly. They are deemed to have less risk and greater potential for leverage and expansion by a buyer or investor.
Rarely do people get rich on income, but the tax breaks on a business sale in many countries mean that creating and realising shareholder value in a private company can be a systematic way to secure wealth and achievement. Managers and leaders of a private company need greater awareness of what makes more valuable companies beyond earnings per share. The question ‘how can we make more money tomorrow?’ becomes strategic and moves to ‘how can we design companies with shareholder value and competitive advantage?’ Many board meetings are management focused in that they are operational and look for efficiencies as well as dealing with compliance issues – but how much time do leaders, managers, and boards invest in a strategy to create a more valuable private company?
What characteristics and concepts beyond the corporate financial science of return on capital can we aim at to create more valuable private companies?
For leaders to go beyond ‘talking’ about the desirability of shareholder value to deeply embedding value into every aspect of the organisation they need to design companies with the following in mind:
- Clear value propositions to customers
- Strong positive perception with investors and acquirers
- A lean model with a good return on capital employed
- Competitive advantage ahead of the market
- ‘Pull’ (influence) on customers, rather than having to ‘push’ (persuade)
- Good customer loyalty and recurring revenue
- High sustainability and agility
- No over-reliance on any one customer
- A growing market demographic and strong growth prospects
- An orderly house with good compliance, reporting, and financials
- A team with a driven ethos and strong retainable management track record
- A clear and concise business plan
Companies that are valued more by their customers can charge higher prices and secure better margins. Businesses that are ahead of markets and anticipate the market better have more sustainability and a stronger future. Team-driven companies do not rely on individuals and companies with ‘pull’ both create and secure market demand efficiently as customers place them on their shopping list. The harmonisation of these value factors and the skill of executives and leaders in their deployment will embed value into organisations.
Perceived shareholder Value
To value something is to perceive its significance, merit, worth, or usefulness. Sometimes value is incorrectly interpreted as ‘low cost’. Investors or shareholders do not buy simply on return on capital. If this were the case, share prices would always be in line with earnings and yet prices are more volatile. This is because investors or shareholders do not buy solely when the price is low, they buy instead in the hope and belief that future earnings and share value will increase quickly and sustainably.
The stronger this belief, the more people ‘perceive’ value. Technology companies often trade at 30-50 times multiples in public companies where oil companies are between 12-15. This is because we believe the future is in technology and whilst oil companies create great yields now, we are all betting on oil not being the industry of the future. The market demographic, risks and likelihood, and costs involved in securing growth will impact our perception of value.
As our perception is such a key driver to value, the influence can also be self-fulfilling. The more we perceive the value, the more we want the shares – the more we want the shares, the more supply and demand pressures influence value. A warning, however, sometimes value can become disconnected from return on capital altogether through competition and greed.
In 1841 Charles Mackay wrote the ‘Extraordinary Popular Delusions and the Madness of Crowds’, which in part examines the February 1637 bubble known as Tulip Mania in the Netherlands. At the peak of Tulip Mania, some single tulip bulbs sold for more than 10 times the annual income of a skilled worker. A bubble occurs when our perception of enhanced value creates speculation, and we then speculate further upon the speculation.
How can leaders go beyond ‘talking’ about the desirability of shareholder value to deeply embedding value into every aspect of the organisation? Well, it will be different for every business model, but our four best tips are:
- Focusing the strategy on recurring revenue in growth sectors.
- Being clear on the plan and therefore what to say ‘no’ to, including customers.
- If a company builds its customer value proposition, ultimately the enhanced share valuation will follow. Put the RIGHT customers first.
- Anticipating ahead of the market and potential market changes and reacting to adjust the model bravely.
The most valuable private companies will be low risk, highly forecastable, growing, and have a retainable team with clear roles, and responsibilities. They will have a strong customer value proposition, not over-reliant on any one customer, and with significant growth prospects at a low cost of capital. Avondale carries out business reviews to help you and your team understand your key value drivers – why don’t you give us a call for an exploratory discussion without obligation on +44 (0)20 7788 8250, view our Contact Us page or email us at email@example.com for further information to discuss how you can increase your company’s value and sustainability.
Alternatively, you are invited to join our next discussion by registering for our webinar “How to Build A More Valuable and Sustainable Business” on 9th December 2021 here.