From: alexhormozi
To create a “masterpiece business,” it’s crucial to address imperfections and put all the pieces in the right place [00:00:12]. This includes elements like automated metric tracking, high cash flow, profitability, growth, and multiple reliable acquisition channels [00:00:19]. The ultimate goal is to build an incredibly valuable asset that can change one’s financial life [00:01:20].
Enterprise Value and Business Valuation
The value of a company, also known as Enterprise Value, is primarily affected by three variables:
- Increasing the number of customers [00:02:02]
- Increasing Lifetime Gross Profit from those customers [00:02:09]
- Decreasing risk – How likely is it that the business will continue to grow in the future [00:02:30]
The less risk an investor perceives, the higher the business’s value [00:18:47].
The Role of Investment Banking
An investment banker can assess a business’s potential sale value and identify areas for improvement to attract institutional investors [00:01:08]. This often involves transforming a company that merely “makes money” into a valuable asset [00:01:18]. This process of increasing a business’s value is sometimes referred to as the Value Acceleration Method [00:01:30].
Key Elements of Building a Valuable Business
1. Leadership Team in Place Running the Day-to-Day
A truly valuable business can maintain and grow even if the owner leaves [00:03:10]. Many small businesses are essentially jobs that pay well, not assets, because their existence is tied to the owner [00:03:35]. To become wealthy, one must own assets, not just earn a paycheck [00:03:56].
Impact of Operator Experience
- Inexperienced Operator: A portfolio company that hired an inexperienced operator saw its business plateau, costs rise, and profitability disappear for nine months [00:05:18].
- Experienced Operator: Another company that brought in a seasoned operator (who had scaled a brick-and-mortar chain from 100 to 2000 locations) continued to grow, and its profitability expanded dramatically [00:05:39]. This operator even paused expansion to focus on making existing locations more profitable, increasing overall business profitability [00:05:51].
Qualities of a Good Operator
A good operator leads the business and is someone the owner and team aspire to be like [00:06:36]. They should increase the owner’s time and bandwidth by decreasing overall work globally, rather than just adding more local tasks [00:06:56]. Bad operators tend to add tasks without removing others, leading to increased workload [00:07:54].
Hiring for Purpose
Hiring should be driven by a clear goal or problem to solve [00:09:21]. Entrepreneurs should prioritize a candidate’s track record and relevant experience over personal likability [00:09:50]. When assessing leadership for an exit, consider if the business could continue to acquire new customers and retain existing ones without the founder [00:10:20].
The Value of A-Players
A-players cost about 25% more than B-players but produce five times more value [00:11:13]. They know their value and may negotiate their compensation, which is a positive sign [00:11:25].
Equity and Incentives
Founders of public companies typically hold around 12% equity on average at the time of IPO [00:11:57]. Wealthy founders understand that the goal is to make the “pie” as big as possible, rather than hoarding the largest “slice” [00:12:12]. Incentivizing more people to grow the pie results in a larger pie overall [00:12:17]. Offering even small slices of equity (e.g., 0.1% to 0.5%) can make team members feel like owners, unlocking significant discretion and effort [00:12:48].
2. Marketing Without the Founder’s Face
If a founder’s face is on every ad or central to marketing, the business is a job, not an asset, as customer acquisition relies solely on them [00:13:03]. The solution involves transitioning the brand association from the founder to other key personnel [00:14:00]. This process of gradually introducing another person alongside the founder in marketing efforts, then having them take over, can take about 12 months [00:14:18]. This separates the personal brand from the business, making the business a salable asset [00:15:02].
3. Delivery Without the Face of the Founder
If the founder is key to service delivery or owns customer relationships, it poses a risk to potential buyers [00:16:08]. It’s impossible to find one person to replace a founder entirely; instead, it’s more effective to find multiple individuals (e.g., two, three, or five) who can collectively deliver the value [00:16:56]. This can be achieved by:
- Edifying Subject Matter Experts: Elevating team members as experts in specific areas (e.g., sales, retention, marketing) [00:17:22].
- Granting Equity: Giving equity to key individuals not only incentivizes them but also makes non-compete clauses more enforceable [00:17:52].
- Transitioning Out: The founder must gradually step back, forcing the team to solve problems independently rather than relying on the founder for answers [00:10:54].
This significantly reduces the business’s reliance on the founder, increasing its attractiveness and value to an investor [00:18:25].
4. Automated Metric Tracking
Every business needs metrics to make informed decisions [00:41:17]. Without data, entrepreneurs are often just guessing [00:42:57]. Automated metric tracking positively impacts customer acquisition, lifetime gross profit per customer, and overall business risk [00:43:27].
Implementation Steps
- Choose a Platform: Select a CRM system (e.g., Salesforce, HubSpot) to integrate data [00:43:08].
- Define Key Performance Indicators (KPIs): Decide what data to track [00:47:14].
- Assign Ownership: One person should be responsible for implementing and maintaining the platform [00:47:20].
- Develop a Game Plan: Use the theory of constraints to identify and improve the weakest links in the business process, focusing on metrics that yield the most throughput [00:47:29].
The skill of a leader or manager can often be gauged by the number and quality of metrics they track [00:44:01].
5. High Cash Flow, Profitable, Growing with a Good Story
Investors prefer businesses that are already in motion and growing, as they are more likely to continue growing [00:48:44].
- High Cash Flow: The business generates cash in excess of what it needs to reinvest and remain competitive [00:48:57].
- Profitable: It makes money [00:49:04].
- Growing: The business increases in size month-over-month or year-over-year [00:49:22].
- Good Story: A compelling narrative, often tied to market trends (e.g., AI integration or resilience to trends), makes the business more attractive to investors [00:53:20].
As a leadership team, taking a fixed amount of cash out of the business monthly can de-risk the founder, even if it sacrifices some growth [00:51:08].
6. Audit-Ready Financials
Audit-ready financials mean that a third party can verify the business’s reported profit [00:55:56]. This validation (e.g., through a “quality of earnings” report) increases investor confidence [00:56:23].
Financial Maturity Levels
- Basic Financials: Often outsourced to a bookkeeper or accountant [00:56:33].
- Upgrade to GAAP: Transition from cash-based accounting to Generally Accepted Accounting Principles (GAAP) for smoother, more analyzable financial reporting [00:56:55].
- Audit-Ready Financials: Having books prepared for third-party audit, which can be done in-house or outsourced [00:57:34].
A lack of proper finance function and leadership can lead to uncertainty about cash flow and growth potential [00:58:43]. Without audit-ready financials, it’s difficult to sell a business for a material amount [00:59:24].
7. 5 Million+ in EBITDA
This threshold is important because most institutional investors typically only buy companies of this size or larger [00:59:38]. Businesses reaching this profit level typically possess a professional management team that can operate without the owner [00:59:51]. It generally takes as much effort to grow a 20 million business, but larger businesses have more infrastructure, making them more attractive [01:00:10].
For portfolio companies, the average revenue increases by 1.8x in the first 12 months, and profit increases by 3.01x on average [01:01:13]. Over 24 months, average revenue increases to 2.8x, and average profit increases to 4.7x [01:02:11]. For example, a 9.4 million EBITDA business in two years, drastically increasing its valuation [01:02:24].
The entire process of building a valuable business revolves around selling more customers, making them worth more, and ensuring these activities continue reliably without the founder’s direct involvement [01:03:10]. This systematic approach, akin to “painting by colors to fill in the gaps,” transforms a business into a masterpiece capable of generating generational wealth [01:04:04].