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Patrick Advises Building Value By Becoming 'Irrelevant' To Operations

Posted On: 3/11/2006

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ATLANTA -- Too many small business owners worry about selling their businesses "when the time comes," but then find that time sneaking up on them -- and their lack of planning compels them to accept a selling price much lower than they had anticipated.

At a seminar entitled "Join the River of Wealth," Josh Patrick of The Patrick Group  recommended strategies to help operators build the value of their companies with an eye on getting top dollar when they are ready to sell.

Patrick spent the first 20 years of his business career as president of Patrick's Food Service in upstate New York, and built the business from a local firm with one employee into a regional four-branch operation with a staff of 90.

In 1995 he sold his vending operation and began a new career in the financial services industry, first, for a large mutual insurance company and, since 1997, as president of his own planning firm. Patrick specializes in helping owners of closely held businesses develop plans that improve their personal satisfaction and bolster the bottom line.

"As we run our businesses, we need lots of help," said Patrick. "We are not masters of the universe. How do we find the right help and where do we begin? We have to look carefully at the process of how we do things, and whether that method is in our best interest in the long run."

Often, operators who have built a business from the ground up are so immersed in the details of the operation that they fail to differentiate between the tasks they can assign to others and the ones that really  need their valuable attention.

Patrick explained that "Stage 1" of a business, by its nature, requires the owner to be operationally focused and tactical in his or her approach. "In Stage 1, you, as the owner, do everything; your main goal is to create cash. This is the right way to begin, but if you remain completely tactical, you're likely to burn out and not get the most value out of your business when you're ready to sell," Patrick cautioned.

The role of the owner as the business progresses to "Stage 2" should become more strategic, as he or she passes some of the tactical tasks along to employees. The operator can devote more attention to the future of the business as cash flow becomes more predictable. Devising strategies for that future often requires investment that does not produce immediate revenue.

The speaker described the business owner's role in "Stage 3" as transitional. "Rule number one for a business owner is to make yourself irrelevant to your business. If you don't do that, no buyer will want to buy the company, because they need to be able to run the business without you. There are usually more buyers than sellers, and they will pay you more if you are operationally irrelevant," Patrick remarked.

He added that vending and foodservice operators can benefit from the nature of the business, which requires the owner to be less relevant -- to delegate more -- since the operation is not conducted in one place, and the owner simply cannot be everywhere at all times.

To illustrate the importance of planning ahead for the sale of a business, Patrick described a scenario in which a company is bringing in $500,000 a year and the owner is living comfortably on $200,000. "He's doing the same thing he did at 20, and he's now burnt out, but he is financially very comfortable," he noted. "I call these people 'perma-fives.' They always think they will retire five years from now. Then, in five years, when you ask them again, they still have a five-year plan to retire." These owners would do well to invest excess capital generated by the business in hiring an employee to take over the tactical operations, and then focus on the company's strategic vision and build its value.

Patrick cautioned participants that when they sell their businesses, their only asset usually will be 20% to 25% of the cash flow the business creates -- and that this often cannot maintain the lifestyle to which they've become accustomed. This is why maximizing the business's value all along is so critical.

The speaker categorizes the four roles performed in a business as those of players, coaches, general managers and owners. In vending, "players" include the people who run the routes and fix machines, and the others who work on the front lines in the commissary or in the office, providing customer support. "Coaches" include managers such as route supervisors and operations managers. According to Patrick, most business owners find themselves spending the majority of their time on player and coach activities.

"General managers" in a business set the tone of the company, develop its strategy and make sure rules are followed, while "owners'" primary responsibility is accomplishing the broad mission of making sure the service the company provides is what the customer wants to purchase, and to keep the business's profitability on track.

"As owners, you should be working on the future business, not the present," stressed Patrick. "You don't make money being tactical. You don't build assets with a high value when you're doing everything." He added that the difference between a company that is valuable and one that is not is ultimately determined by how the business handles marketing -- and he emphasized that marketing is not simply an activity, but rather a strategy to acquire customers.

As operators lay out their value-building strategy, it's important that they analyze the residual value represented by their current customers. Patrick noted that the net present value of an average customer can be measured by its contribution to the operator's cash flow at a given point in time, but the operator also must keep in mind that it is possible to spend more to acquire an account than it will generate over the next five years.

According to Patrick, an operator who sells one product/service to a customer may have a 50% retention rate, while operators who provide two or three products may improve to 75% and 95% retention rates, respectively.

"The more products they buy, the happier they are with your service," he stated. "As long as we make enough money, we do what's convenient for us. So do our customers; and those who value you will stick with you and buy more from you."

Thus, operators should take the time to manage the accounts on which their salespeople call. It's sensible to concentrate on the "A" clients, which Patrick defines as those that generate above-average profits with below-average effort. "Look at the business psychographic of your customer base to determine if they are easy to deal with or a pain in the neck, because that relates to your profitability," he suggested.

Next on the list are "B" clients, which Patrick described as those that provide above-average profit, but require a lot of work, or generate below-average profit with little work required of the service provider. Progressing downward on the desirability scale are "C" locations, which provide only average profit and require below-average work, or below-average profit, with little work.

Below the profitability horizon are "D" customers, the speaker continued. He defined this category as a "black hole," requiring too much effort to bring in below-average profit.

Patrick suggested operators steer clear of "C" and "D" customers, and leverage the credibility they have built with satisfied customers in their marketing efforts.

The speaker urged operators to build the value of their businesses by focusing on selling more products and services to existing customers, since it is far more expensive to sign up a new client than to sell more to an existing one.

Operators must also take care to convey their value to customers, who tend to perceive what operators sell as being a commodity. Patrick suggested that operators' knowledge of what their customers want to buy and the systems they use to provide it should be viewed as intellectual property with potential for creating additional revenue.

"Liability insurance agents analyze our needs to help us save money because they want to sell us insurance, and it's valuable because it shows where we are vulnerable. They should sell that service, that knowledge. Contractors give free design ideas with quotes to build a house; they should charge a fee for that expertise. Vending operators give away foodservice designs when they install a breakroom or cafeteria. Why not establish a part of your company that acts as a paid consultant, producing a return from your expertise? Take your intellectual property and make it into a product. If you make a process for your service, your customers may pay a fee for it, and you increase the value of your company."

In summary, Patrick emphasized the point that business owners should never lose sight of their overall goal: to raise the value of their companies. And those who remain in Stage 1, in which their role is primarily tactical, are living in a "low-value world." Few buyers will offer a purchase price sufficient to provide such operators a desirable return on their investment. "You'd get the most money if you sold it to your worst competitor, because the synergies with that organization would absorb some of the cost for them,," Patrick commented. However, operators should strive to enhance the value of their operations by focusing on the strategic mission of the business and selling their intellectual property as well.

The speaker reiterated some key value-builders for a business, including taking only "A" accounts, managing intellectual property, and taking the necessary measures to render the owner irrelevant. He stressed the importance of using strategic marketing, compensating for performance, and always being in "sale-ready" position, even if selling the business is not in the business owner's immediate plans.

"As owners, you should examine the role you play in your businesses and make the necessary adjustments to position yourself as irrelevant when it comes time to sell," he concluded. "You should also assess the 'value world' in which you live, and consider how you can change it to your advantage to enhance your value in the eye of the buyer.

"Act strategically in your business to join the river of wealth," Patrick concluded. "Move from thinking to action."