Corporate Culture: The Sleeper in a Company’s Valuation Equation

MATH ON TV
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I recently heard a story of a woman who bought a CPA firm.  In essence, she believed she was paying for the client list of the seller.  She had the seller sign a non-compete agreement to protect the customers.  She also agreed to keep the two tenured employees onboard as part of the seller’s request.  For the buyer, life was good for about six months.

Soon thereafter the first employee decides to leave the business and informs the clients she will be starting her own bookkeeping practice.  The clients move with the employee.  The other employee sees this and soon follows the same plan leaving the buyer short $100K a year in fees.

Litigation later, the buyer loses the cases and is required to pay the defendants’ fees.  Oh by the way, did I tell you one of the employees was wife to the seller?

There are so many life lessons here, so let’s focus on the overarching one.

When you are thinking of buying an existing business, be very clear in your own mind that you are not buying the revenue, assets and profits.  You are buying the culture and the relationships.

The culture tells you if there are good financial controls in place, leadership is honorable and respected, employees are valued and motivated to stay, customers feel a sense of loyalty to a company that has given them more than they paid for.  Culture tells you if you are buying a transactional versus transformational business.

When buying a business, you are also buying the relationships.  There is no certainty the customers will return post close.  Frankly, there is no certainty the customer list even represents repeat customers to the seller.  While it is not possible to know the relationship with every customer, it is necessary when establishing a good price to know the relationship with the top customers and a sampling of the mid-size and smaller customers.

Want to know the price you should pay for a business, find out the company culture.  It is the sleeper element in the valuation equation.

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