Strategy or Execution, What’s More Important?

A lot of emphasis is put on having the right strategy in business. Strategy is important, but I wonder if we spend too much time talking about vision and fresh ideas and not near enough time on good ole fashion execution. Sun Tzu, author of The Art of War wrote, “Weak leadership will destroy the finest strategy – while forceful execution of even a poor strategy can often bring victory.” In other words, bad decision managing destroys even the best decision making.  When you don’t achieve the results you desire, don’t be too quick to blame the strategy, but instead first put a microscopic eye on the execution.

I recently heard a great presentation from Dan Barnett, CEO of The Primavera Company. The presentation was called Make or Break Execution: The Core of Success. A “make or break” is the one thing your company must do extraordinarily well to achieve your vision. Dan started his presentation by saying every company has a make or break and the best business leaders drive toward their “make or break” with great focus and detail. Dan isn’t talking about reviewing results a month after the fact to see how your company performed. By then it is too late to change the past and likely too late to shape the near future. What if you could see how you’re tracking toward your “make or break” results on a regular and real time basis and with enough lead time to see the problems standing in the way of desired results?

Getting the results you desire doesn’t just happen. If you need to lose 100 lbs in 5 months, it is going to take more than a good exercise and diet plan. Reaching your goal will take executing the plan with disciplined activities. If you have the proper plan and you’re executing the plan, you don’t even have to get on the scale. You’ll know you’re going to achieve your results by measuring your activities.

Let’s say you’ve asked a weight loss expert to review and hold you accountable to your weight loss plan. They review it and approve the plan, but the way they decide to hold you accountable is to meet you at the end of every month to record your weight. If at the end of the month you’ve lost no weight, there is nothing your accountability partner can do to help you make up for that lost month. You now have only 4 months to lose 100 lbs, a much lower probability. What if instead of checking the scale every month, you’re required send your weight loss expert a daily report of your exercise activities and everything you ate? Assuming you’re honest about your exercise and eating, they can now give you near real time feedback and have better insight into whether or not you’re going to achieve your goal. This is a key way to ensure you are enhancing the value of your business on a daily basis.

The same concepts can be applied to business. For every inch of strategy and vision/goals, you need miles and miles of solid execution. Good results come from doing the right activities. Yet we’ve all been guilty of painting a vision without devising a plan, devising a plan and not executing or holding other accountable to do the same. When we don’t get the results we want we wonder what happened. Fulfilling a vision requires you to determine what activities it’s going to take to meet your goal and measuring those activities on a daily/weekly basis. This simple, but important discipline will provide clarity for you and your team and keep everyone focused on the things that matter most.

Am I Enhancing or Hindering the Value of My Business?

Unlike listed public companies, private businesses don’t get a daily ticker tape telling them what they’re worth. But imagine you did.  Would that daily feedback from buyers and sellers make you think differently about how you operate your business?  While I know public company CEO’s don’t always agree with the market’s perception, the good ones are focused on increasing value for their shareholders and know ultimately the ticker tape is the scorecard.  Private owners would be wise to do the same.

Private company owners should focus on increasing enterprise value, not just the day-to-day bottom line.  An enterprise value focus may sometimes negatively impact short-term profitability for the purpose of minimizing risk and increasing long-term profitability.  For that reason enterprise value should be the focus, whether you plan on selling today, tomorrow, or never.

Valuing your company

I know, you still are curious about what your company is worth.  Be leery of general rules of thumb or an internet tool that spits out your value after only a few questions. Determining valuation is very technical, but is also part art. A lot goes into valuing a company, and there are a lot of nuances. Most, but not all, companies trade on a multiple of EBITDA (Earnings before Interest, Depreciation and Amortization). Determining the EBITDA and the appropriate multiple is the trick. Companies can also trade on a multiple of revenue, asset value, or a combination of valuation techniques. A reputable and experienced M&A advisor, especially one with relevant industry expertise can usually give you a good idea of the valuation of your company.  However, while an experienced professional can provide a good valuation opinion, the only way to know the true value of your company is to sell it and see what buyers are willing pay.  And the only way to know to assure that you get the highest valuation for your company is to run a competitive market process. While it is helpful to understand the value of your company, it is more important, especially for those not intending to sell short-term, to understand how a buyer would go   valuing your company. With this buyer perspective, you can better know how to increase the value of your company when and if you do decide to sell.

What Buyers Want

You may think what a buyer wants is obvious – growing company with good profitability. While that is part of the equation, it is not nearly that simple.  A growing company with good profitability relative to what?  An intelligent buyer is not going to be looking at your company in a vacuum.  They will view your company alongside other opportunities, comparing the risk and expected returns of each one.  The expected return is a function of the predicted future performance of the business and price paid to obtain the business. Said another way, the higher the risk to future performance the less a buyer will be willing to pay, if they want to buy the company at all.  Also, not all buyers are the same.  Expected returns can vary depending on the buyer’s perspective. In the case of a strategic buyer (versus financial buyer), expected returns can be higher if they expect to gain synergies in the acquisition, like lowering cost or leveraging their distribution.

Companies that provide a buyer with a lot of confidence in their future performance get a higher valuation relative to their peers, assuming all things equal (i.e. similar size and market external market conditions), and that they run a competitive market process. As you might expect, the past performance of the company and current financial metrics will be examined carefully when a buyer is considering purchasing a company, but there are many qualitative factors also being examined both consciously and even subconsciously.  These qualitative factors include the quality of the management team, financial controls, market sharecompetitive advantagescustomer diversification, the company’s market, the defensibility of the pro forma, quality of employees, documented processes and procedures, a solid strategic plan, just to name a few.

If you want to know how to increase the value of your company, you should seek to gain understanding on how buyers would view your company.  Determine the current value enhancers and detractors, and understand what you can improve and/or change that would increase your value.  Again, a reputable and experienced M&A advisor can give you great perspective on what buyers are looking for when purchasing companies like yours.  They can do this because they talk to buyers on a daily basis, and whereas you may only do one or two major transactions in your lifetime, they do transactions for a living.

Growth or Profitability – Which Should I Choose?

One of the most frequent questions we are asked by founders and entrepreneurs is whether their focus should be on growing revenues or achieving profitability, especially when it comes to the impact on Enterprise Value. It is a complicated question that presents meaningful tradeoffs unique to each company and one that companies should always feel a healthy amount of tension over. There is a difference between choosing profitability over growth and not having the ability to grow efficiently. To build Enterprise Value over time, a company has to be able to execute on an efficient growth model. Efficient growth is what drives Enterprise Value.

At Founders Advisors’ annual Silicon Y’all SaaS and Internet Summit, this question is asked to the Private Equity panel each year, and each year 100% of these extremely sophisticated investors indicate that they are more excited to invest in a company growing 50% and breaking even than one growing 10% with 20% EBITDA margins. However, they universally acknowledge that for operators and owners in the trenches, it isn’t that simple of a decision.

The Case for Profitability

The simplistic purpose of every company is to produce returns for its owners. Beyond that ultimate goal, turning a profit is required to sustain a company and its employees. While serial entrepreneurs may have a war-chest from an earlier exit to fund early losses, bootstrapped companies do not have this luxury and often have to focus on getting to a breakeven level quickly before cash available for operations dries up. Recognizing this, there is no harm in managing to breakeven, especially if maximizing profitability would require taking in capital at an unappealing valuation or bringing on debt with restrictive terms (personal guarantees, risky covenants, high rates, etc.).

The Case for Growth

A true single-instance, multi-tenant SaaS platform has the capacity for unlimited scalability. Once the product and tech are well-developed and hardened, the success of a SaaS company shifts from overcoming product and execution risks (does it work and is the team strong?) to demand and capital risk (is it needed/used and how can we grow even faster?). Because of this, if SaaS companies can show strong bootstrapped growth with manageable churn, investors love to pour capital into a platform that has grown but is constrained by its own capital availability. Private equity investors are great to help think through strategic decisions and guide based on their experience, but they are looking for investments where much of the heavy lifting has already been done.  With low churn and high ARR, PEGs can eventually dial back the sales and marketing spend for customer acquisition and significant profitability often results for the company for years to come.

What is the Right Balance between Profitability and Growth?

While they all acknowledge that it is somewhat rudimentary, PEGs examine SaaS companies based on the “Rule of 40” – that is, Growth Rate + EBITDA Margin should be greater than 40. The strongest companies are often scoring greater than 80. Each industry has its own rule threshold. Therefore, as owners weigh their current options to fund growth or focus on achieving a profitability hurdle, they can determine how to effectively budget growth-driving expenses like sales and marketing, development, conference sponsorship/participation, etc. against the anticipated impact to their bottom line.

Ultimately, having a proven growth model is the key for investors and drives valuation upward. Sophisticated investors recognize that some companies may have had to choose profitability over spending for continued growth, but their capital can assist by efficiently increasing sales and marketing expenses in channels that historically have yielded fruit.  If it is not clear to an investor that a company has a model for growth, the investment will be less attractive and valuations suppressed.  In understanding the growth model, they’ll key in on unit economics – if you can point to past trends around successful sales and marketing campaigns, they’ll be excited to pour fuel on that fire.

– Guest Article by Chris Weingartner

High Growth Rate but Low Valuation?

Many business owners would consider a company with a revenue growth rate of 40% exceptionally attractive. “Surely this is a well-founded business primed for a promising future. With a growth rate of 40%, this company will soon be a dominate player in their market.” But they’ve forgotten a key part of that equation, What’s the market’s growth rate? If the market is growing at 60%, this company is sprinting towards obsolescence as it hemorrhages market share.

However, on the flip side in the 2008-2010 recession when the markets were plummeting, we saw companies with negative growth rates receive all-time high valuations. They were gaining market share since the market was contracting faster than the company was. A company’s future cannot be summed up in a number as simple as growth rate but should be compared to its competitors’ growth rate.

Rather than only focusing on growth, business owners could benefit from benchmarking their growth rate relative to their market. Here are some ways to determine your market’s growth rate:

– Ask an industry association in your sector
– Read annual reports from public companies in your market
– Hire a local MBA student
– Have a internal analyst calculate it – here is a helpful article for calculating market grow rate

If you would like to discuss how this applies to your business, we would be happy to talk with you.

Schedule a meeting here: