Your local assessor’s office has a record of what your house is worth. The popular automotive Blue Book tells you what your car is worth. Articles in Consumer Reports and personal finance magazines provide the pricing data you need to find the best deals on refrigerators and BBQ grills, how to compare the cost of mutual funds and even where to find the best values in college education.
So why is it that most small-business owners don’t know what their businesses are worth? The answer is simple: Most business owners don’t want to spend the time or money to obtain a professional, independent, third-party valuation.
This is a big mistake.
Every business owner should obtain a professional valuation, especially at the time he or she decides to sell the business. Valuing your business accurately is essential if you don’t want to risk leaving money on the table by valuing it too low or scaring away potential buyers by valuing it too high.
But there are other important reasons for having an up-to-date business valuation on hand. It should be conducted at least every two years. Here are the main reasons:
- A major event could happen to the owner. If the owner dies, faces health issues or becomes incapacitated, major changes in the business operations are affected. Having a current business valuation would help the family deal with the potential sale of the business.
- An opportunity to sell or merge could come unexpectedly. Often owners are faced with having to make a decision to sell quickly. An up-to-date valuation allows you to take advantage of that opportunity and will help you negotiate the transaction with potential buyers.
- A partner or family members could join the business. This situation necessitates knowing the value of your business to determine the buy-in price.
- A partner or shareholders could leave the business. You will need to know the value of your business to determine the value of the departing partners/shareholders’ membership interests/shares in order to pay them out.
- An exit strategy could be on the horizon. You may be reaching a time when you are considering retirement. Knowing the value of your business will help you construct an exit strategy, examine estate plans and minimize tax obligations. In many cases, the value of a business represents a sizable percentage of your net worth, so working on an estate plan is impossible without an accurate valuation.
- A loan could be needed for expansion of the business. Often, banks require an up-to-date business valuation as a part of the loan decision process.
- A weather disaster could interrupt the business. After a business disaster — like the storm damage that closed Colorado Mills in Lakewood in May — it is very useful for insurance purposes, particularly if you have business continuation insurance.
- A divorce could occur. If you are dealing with divorce settlement issues, you will need an independent valuation of the business to assure both parties that the value has been obtained fairly.
While all of these are compelling reasons to seek a business valuation, it’s still easy to put it off. After all, valuing a business is much more complex than thumbing through a Blue Book to value your car. I often find that business owners don’t know where to go to find valuation experts. I recommend that they look for those with certifications such as Accredited Business Valuation (ABV) and/or Certified Valuation Analysts (CVA).
Some owners turn to their accountants or their lawyers for valuation advice. In my experience, accounting firms tend to be too conservative and undervalue their clients’ businesses. Law firms, on the other hand, tend to be too optimistic and overvalue their clients’ businesses. They may fail to properly estimate qualitative factors including the general economy, industry conditions, company size, financial performance, management experience and business drivers.
Be Prepared
Keep in mind that if you sell to a larger company, you’ll probably be dealing with an acquisition team that uses sophisticated financial analyses and modeling. The company will be much more impressed with your management ability if you have a detailed valuation prepared using earnings-based valuation models. The models include comparing your company to publicly traded companies in your industry; comparing your company to previous mergers and acquisitions transactions (much like “comps” in the real estate industry); a discounted cash-flow analysis analyzing future cash-flow streams; and a leveraged buyout model that computes the value of your business based on how much acquisition debt your business can support.
On the other hand, remember that value is in the mind of the beholder. A professional valuation can tell you the price that an average buyer might pay for your business. When it comes to negotiating with an actual buyer, the valuation is just a starting point. A particular buyer might have a strong strategic reason for acquiring your company and might be willing to pay a premium over what the average buyer might offer. Another buyer might simply be looking for certain assets to augment his or her own business and might not be willing to pay for your company’s enterprise value (total value) at all.
The final excuse for not securing a business valuation is that you’re “too busy” running the business to concentrate on the valuation process.
Think about that.
Remember, you have spent years, even decades building your business. It is your life’s blood. If you don’t take care of it, you could lose much of the value you’ve built.
Gary Miller is the CEO of GEM Strategy Management, Inc., an M&A consulting firm, advising middle-market private business owners prepare to raise capital, sell their businesses or buy companies. If you have questions, he can be reached at 970-390-4441 or [email protected].
