An experienced CFO can help you maximise your company valuations by achieving profitability, reducing risk and inspiring trust from investors.
The Venture Capital industry as we know it rose to prominence in the US during the ’90s. It has always been based on the concept that a company could increase its value exponentially if provided with the appropriate funding for growth.
If a VC invests £1m in a company they think is worth £10m, and that same company raises more money in a subsequent round at a valuation of £20m, the VC doubles their investment.
This basic example is enough to show how important it is for investors – and for Founders who need investment – to show a steady growth in company valuation from one round to another.
In recent years, some Founders became so focused on boosting their company valuation that they seemingly forgot that a hefty price tag is no guarantee of the value or financial health of a business.
Last year, we saw companies raise staggering private funding rounds at stellar valuations, only to tumble once they hit the public markets. In more than one case, this happened because these companies were trying to use the “hype” generated by their brand and meteoric rise to fame to inflate their valuation, with catastrophic effects.
But if pursuing “growth at all costs” is not an effective solution in boosting valuation, what is?
The answer is simple and complex at the same time: you need to build a profitable company with the potential to last, and one of the most effective ways to do that – when the time is right – is bringing an experienced CFO on board.
There are three main ways a CFO can create value, therefore bolstering a company’s valuation:
- Improving Profitability;
- Reducing Risk;
- Ensuring Investor Confidence.
How CFOs Boost Valuation Through Profitability
At the beginning of 2020, many prominent investors said they’d like to see companies focus more on profitability than growth.
Last year’s high-profile flops forced investors to reevaluate what to look for in a company. If a business can earn over $11bn in revenue and still make $1.85bn in loss, the idea that turnover is correlated with value starts to lose meaning.
Being able to grow a company very quickly is simply not enough: Uber and WeWork, two of the most heavily founded scale-ups, had to undergo painful restructuring operations and layoffs in order to prove that their model was sustainable.
Because of this, rather than revenue growth, companies hoping to raise are now asked to provide evidence of their profitability earlier on in their lifecycle. But how can a disruptor focus on being profitable when gaining market share over incumbents is a requirement for survival?
The answer is hiring someone whose job is exactly this: a CFO.
When a CFO is hired, typically after a company raises its first institutional funding rounds, their main task is optimising the business’s operations in order to maximise profit.
According to Jeff Jordan, managing partner at Andreessen Horowitz, “a good finance executive almost always pays for themselves immediately, whether it’s through a better fundraise, optimised spending and cash flow, or more revenue due to key insights.”
There is, therefore, an immediate benefit in hiring a financial leader: cost savings and optimised productivity which result in a higher EBITDA and, in turn, a higher valuation.
EBITDA (Earnings Before Interest, Tax, Depreciation and Amortisation) is in fact considered a much better valuation metric than revenue – even more so in a post-WeWork world, and even more so in a post-COVID world.
Depending on industry-specific EBITDA multiples, this means that a business could gain millions in valuation without altering its revenue.
How A CFO Improves Valuation By Reducing Risk
As is widely known, the most common cause of start-up failure is running out of cash.
Without a financial leader, this could happen for a variety of reasons: late-paying clients, a poorly-timed marketing investment and overheads are just some of the most common causes start-ups become unable to cover costs.
At the very core of the CFO’s job is to oversee cash-flow and ensure that there is always enough cash in the business to cover costs.
The benefits of this are apparent in day-to-day business operations, which can flow more smoothly as all running expenses of the business are comfortably covered and budgeted for.
But perhaps most importantly, a healthy cash flow makes a huge difference in crisis situations. External factors can result in sudden falls in demand or produce unforeseen costs. Both are enough for a business to fail, if there’s not enough cash in the bank and not enough time to obtain it elsewhere.
An experienced CFO is aiming to run the business as close to maximum efficiency as possible, constantly keeping track on which operations it’s worth spending on and which ones are delivering sub-par returns.
When someone invests in a business, they always factor in the risk of the company failing. The lower this risk is, the more they will be willing to offer for a share in your company, enhancing its overall valuation.
It’s worth noting that in uncertain times like these, companies with the financial expertise to potentially sustain external negative factors have even more of an edge on those who lack it.
How A CFO Inspires Trust From Investors
Contrary to popular beliefs, a CFO doesn’t just deal with tax and compliance matters. While this could be the case decades ago, the role of the CFO has been shifting towards that of a strategic leader since the ’90s.
In this interview with Harvard Business Review for their Jan-Feb 1990 issue, then Disney CFO Gary Wilson says: “There aren’t many finance people who are responsible for the strategy of the business. I did that in my position at Marriott by accident. So now I do it at Disney by design because it was so successful at Marriott.”
In the Venture Capital world, CFOs that join a company at its early stages clearly understand the stakeholders’ vision for the future of that company. Most often, this includes a path of successive funding rounds that lead to an exit, may that be an IPO, an acquisition or else.
From an investor’s point of view, knowing that there is someone in the executive team who is determined to secure the financial success of the company can be a huge reassurance.
Most VCs come from a finance background, CFOs understand their needs as shareholders and as their role is to guarantee the financial health of the company, they will work towards their interests.
The strategic direction that a CFO provides from the early stages of a company, is often enough to earn a higher valuation from an investor, or – at least – a less demanding term sheet in terms of reporting and governance.