Beyond Profitability: 4 Key Intangibles That Affect A/E-Firm Valuation

How to Relate Firm Performance to Firm Value

In saying you have to make connections for employees between performance and value, we’re not talking about formulaic connections. The focus needs to be on linking your operations to your stock price.

Profitability is a main driver of valuation, but it’s affected by a number of other variables: how much the firm charges for its services, how much employees are paid, how much overhead you have, how much owners take home, etc. Consequently, from a team member’s perspective, there isn’t a clear relationship between profit and stock price.

What team members can relate to, however, are things like:

1. Growth. If they see the firm landing more projects and bigger projects, doing more hiring, and creating larger project teams, that’s an indicator to them that the firm’s value is increasing. Growth doesn’t always mean higher valuation, but it’s true that bigger firms tend to be more insulated from economic events, and therefore they are perceived as less of a risk to invest in. We’re proponents of efficiency over growth, but certainly growth is an important part of the valuation puzzle.
   
   
2. Diversification. Bringing new expertise into a firm by hiring an industry expert or two so you can break into new markets tends to be a sign of strength. It’s a factor in sustainability and mitigation of risk, and that’s tangible to employees.
   
   
3. Increasing selectivity. Most firms have types of projects and/or certain clients that are more challenging than others. The work is difficult, the point person is always asking the firm to justify its invoices, etc. Choosing not to pursue new work in those areas and to cut ties with those clients is a sign to employees that owners are running the firm rather than letting it run them, so to speak. Potential stock purchasers see that principals are concerned not just about the quantity of revenue, but the quality of revenue and making life better for employees.
   
   
4. Marketplace and client strength. Positive changes in your firm’s position relative to competitors and in the needs and financial resources of your target market—the availability of stimulus money or a city’s infrastructure expansion plans, for example—can also support a higher valuation in the minds of employees. Consequently, it can be helpful to share data that you’ve collected as part of your marketing efforts. And, this is “safe” information to provide, especially for firms that aren’t comfortable sharing financial results. 

So, it’s a little counterintuitive: Employees often find intangibles like growth more convincing as a rationale for higher valuation than tangible measures like revenue and profit, if they’re even given that information. But what matters in the end is their comfort level with pursuing an ownership stake and making a stock purchase, so owners should not ignore the intangibles.

And, certainly, it’s a balancing act. You want to share positive developments, but you have to avoid looking like you’re advocating too strongly for the firm’s potential and therefore its valuation. However, if you keep people informed about both the tangible and intangible elements of your firm’s performance, you’ll gain their trust and give them the confidence they need to invest in its future and their own.