I recently met with a group of investment bankers. I asked them how they perform a valuation for a business that they intend to buy or sell. Unsurprisingly, one banker started to talk about assessing the value of the assets in the business. I figured he was going to speak of capital equipment, real estate, cash on hand, and other investments (which he did) but he surprised me by offering a broader definition.
“When we place a value on a business”, he said, “we look at four quadrants of assets: financial assets, of course, but also human capital, intellectual property, and customers. It’s the combination of these assets that provides the best view of both the current and future potential for the business. The company must have quality assets in each quadrant.”
Traditional financial assets (including intellectual property) reflect current value. People and customers (along with products) represent future income potential. So, yes, ultimately it is a financial calculation but the model is also useful for managers.
Think of a radar chart like this:
The blue line might be a product business, with strong technical or entrepreneurial staff, that hasn’t quite tapped into the right markets for financial success. The orange line might be a mature business that’s been milking its products and strong embedded market position. Both businesses have the potential to grow with the appropriate investment in sales/marketing (blue) or product/IP (orange).
When assessing a product business, the strength of the company’s IP is particularly important. In a professional services business, it’s the quality and loyalty of the people that must be carefully considered.
It’s not a bad way to approach strategic planning to ensure you are progressing in each core area that adds value to (and drives the valuation of) a business. Business owners and managers (“operators” in banker-speak) seeking to increase shareholder value should have initiatives to strengthen each “asset class” in their businesses. That’s how you unlock the potential in your business.
And that’s some business advice you can really bank on!