Valuation

Do you know what your business is worth?
 
Published Wednesday, August 13, 2008 9:00 am

by Richard Gray



Most business owners will tell you that the most valuable asset they own is their business. But if pressed to tell you what their business is worth, most business owners would either not be able to provide an answer, or else their figures would be way off the mark (and they wouldn't even know it). There are three ways business owners typically address this question: some would say that their business is worth book value (book value is an accounting concept that usually will significantly underestimate the value of an ongoing business); some would quote a multiple of revenue that they heard from friends or colleagues which nearly always results in an overestimation of value; but most owners simply have no idea how much their business is actually worth and would be unable to answer.

It is common for business owners to believe that the need for a business valuation only arises before or during certain triggering events, such as when gifting ownership interests to children or grandchildren, upon death (for estate tax purposes) or divorce, or when buying or selling a business.  This viewpoint can be very short-sighted. By consulting with a valuation analyst and gaining an education regarding the factors that determine the value of your business in advance of the need for a formal valuation, you can focus on those particular value drivers that may increase your company's profitability (and value).  Communication is key to this process; specifically, communication between you and the valuation analyst. It is imperative that the analyst spend time with you and your business in order to gain an understanding of the business.  Conversely, you need to spend time with the analyst in order to gain an understanding of the valuation process specific to your business.

What is a business valuation?
Consider the following example: If you own one thousand shares of Microsoft stock, the value of that ownership interest is easy to determine; you go to the stock price listing in any daily newspaper, go online to any financial website, or call your broker and find out the price per share. Multiply that price by one thousand and you have the value of your ownership interest.

But how do you determine the value of a thousand shares in your family-owned, privately-held business? The stock price of your business cannot be located in any financial table or by calling any broker. But there are ways to utilize the information found in the public markets and apply it to a privately-owned business in order to determine its value. That's what business valuation analysts do every day.

Business valuation is a forward-looking concept. In simplified terms, generally the value of an ongoing business is dependent upon the amount of cash flow it generates today, what amount of cash flow it is expected to generate in the future, and what rate of return a buyer would require for an investment in your business. In order to determine the value of a business, these factors are analyzed in the context of economic and market conditions.

Be wary of using multiples to "estimate" value
Valuation analysts are frequently asked, "I heard that my competitor sold his business for four times earnings last year; can't I sell my business for the same multiple?" It would be highly unlikely that the multiple used for one business last year would be relevant to your business this year without consideration of certain facts and circumstances. First, it would be purely coincidental that the financial operations, conditions, and outlooks of the two businesses would be identical, leading to the development of an identical multiple. Second, economic conditions, which are a component used in the determination of that multiple and which are constantly changing, have an impact on value. For example, if the prevailing interest rates are higher now than they were last year, this would have a negative impact on the value of the business (and conversely, if interest rates are lower, the value of the business may be higher). So any multiple applied to the earnings of your business (or any other valuation method for that matter) has to be developed specifically for your business and as of a specific valuation date.

When to find out what your business is worth
The business valuation process can assist the business owner in addressing critical business and succession planning issues with family members, other owners, or key employees. It can provide for the life of the business beyond its current owners and, through proper planning, eliminate the need for costly (and possibly business-ending) litigation. Communicate with a qualified valuation analyst who can explain the valuation process as it specifically relates to your business and who will ultimately be able to answer your most pressing question: "What is my business worth?"

Richard Gray, CPA/ABV, CVA, ASA is the Director of our Business Valuation Services and is based in our Boca Raton office. He has over 20 years experience in public accounting, with a primary focus on business valuation and litigation support. Rick has been qualified as an expert witness in business valuation and tax issues. He performs valuations of preferred and common stock interests in closely-held corporations and ownership interests in family limited partnerships and limited liability companies. The valuations are completed for many different purposes, including the purchase or sale of a business interest, buy/sell agreements, estate and gift tax planning and returns, charitable contribution deductions, and divorce litigation. A number of valuation engagements relate to litigation matters including divorce and shareholder disputes.

Accredited Senior Appraiser (ASA)
Accredited in Business Valuation (ABV)
Certified Valuation Analyst (CVA)
Certified Public Accountant (CPA)


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