If you're thinking about selling your company in the next few years, have you considered the impact that changing economic conditions could have on business value? Better yet, have you considered what you will do to protect the value of your business if key economic indicators go south?
According to a recent BizBuySell poll, the Trump administration has brought a renewed sense of optimism to the small business community. Yet, the economic outlook is far from certain. Failed policy objectives, market volatility and other factors could create financial chaos and quickly change business owners' perspectives about their companies' futures.
Responding to Changing Economic Conditions
Economic volatility can be caused by cyclical fluctuations in the industry or global economy as well as specific events (e.g., a federal interest rate hike or pending tax reform legislation). Since these factors are beyond your control, you can never fully insulate your business from adverse economic conditions.
However, it's important to understand the impact changing economic conditions have on business value and how to respond when they occur.
- Consumer Confidence
The U.S. Consumer Confidence Index measures consumers' sentiments about the economy. Tracked by The Conference Board (an independent research organization), the index provides insights into consumer spending behaviors - when the index drops it could be a sign that consumers are less willing to part with disposable income.
As a business owner, it's important to view Consumer Confidence Index reports in context. For example, in April, the index dropped to 120.3, down from 125.6 in March. But the decline isn't as alarming as it seems. The March index was the highest since December 2000, and consumers are still generally optimistic about the nation's economic outlook.
Prospective business buyers are concerned about declining consumer confidence because it can dampen a company's short-term earnings potential. To protect business value, document revenue and demand over the long term. If possible, demonstrate how cyclical variations in consumer confidence have not impeded the company's long-term growth trend.
- Gross Domestic Product (GDP)
Gross Domestic Product (GDP) is a key indicator of the health of a nation's economy. In the U.S., GDP is measured by the Bureau of Economic Analysis. It includes the value of all goods and services produced in the U.S. during a given year or quarter.
GDP reports can be a blip on the radar or big news, depending on the change from the previous period. If GDP is up, it's a sign that the economy is growing, companies are hiring and consumers are spending. If it's down, it could signal that the economy is entering a period of contraction.
Changes in GDP don't always reflect economic conditions in the small business economy. But as a business owner and potential seller, you should monitor GDP and align your business strategy accordingly. If you're making significant capital investments during a period of economic contraction, your actions could negatively affect your financials and make your business less valuable to buyers.
While consumer confidence and GDP reflect demand for goods and services, inflation relates to prices - specifically, the rate at which prices for goods and services are rising.
Rising prices mean a decline in the purchasing power of a dollar, so a high inflation rate usually isn't a positive development for small businesses. In fact, small businesses may be more vulnerable to high inflation, because large companies are better positioned to absorb the impact of rising costs and lower profit margins on goods sold.
The Consumer Price Index (CPI) is one of the primary indicators of the inflation rate and it's worth watching. As inflation increases, consider making small, frequent price hikes rather than waiting too long and raising prices in one fell swoop. Why? Because incremental price increases protect the value of your business by minimizing the impact of inflation on your customer base.
- Interest Rate Hikes
Interest rates are a double-edged sword for small businesses. When the Federal Reserve announces a rate hike, it can improve access to capital because banks have a greater incentive to lend to small businesses. On the other hand, higher interest rates increase the cost of borrowing and can disqualify buyers on the margins.
The effect of higher interest rates on business value is usually negative. Higher rates reduce the number of qualified buyers in the marketplace, which drives down demand for available business opportunities.
You can't control interest rates, but you can time your sale to occur during a period when conditions are favorable for borrowers. If that isn't possible, consider offering seller financing to a portion of the sale to achieve a higher sale price.
- Unemployment Rate
Economists often point to high unemployment as a sign that the economy is struggling. But as a business owner trying to protect business value, the bigger concern may be the opposite scenario: a low unemployment rate.
When the unemployment rate is low, it could mean that many unemployed individuals feel hopeless and have stopped looking for work or decided to start their own businesses, however, the more likely scenario is that there are plenty of job opportunities and it's easier for workers to find positions - making it more difficult for you to staff the business with high-quality talent.
Regardless of economic conditions, buyers pay more for businesses with talented and stable workforces. Start developing your workforce now and provide incentives for talented employees to remain with the business over the long term.
Economic volatility is a fact of life. But by understanding what economic changes mean and adjusting to new market conditions, you can protect the value of your business and keep your exit strategy on track - even in an uncertain economy.