The Importance Of An Accurate Business Valuation When Selling Your Business

How Long Does it Take to Sell a Business?

Valuing your business accurately is essential if you don’t want to risk leaving money on the table or scaring away potential buyers. Before undertaking the appraisal, put time into sprucing up your business and its financials. Effort spent at the outside will pay dividends down the road. The value of a typical small business should be greater than the total value of its tangible assets. For a buyer, the appeal is that an ongoing

business has everything necessary for successful operation — equipment, location, and inventory if applicable, not to mention experienced employees, suppliers, business processes, and a customer list — all in place, in the right amounts. These intangible assets are frequently referred to as goodwill or going-concern value. But how do you put a price on goodwill or going-concern value? In fact, how do you determine the true market value of the hard assets used in your business? The answer is that you make a business appraiser a key player on your selling team.

Many business owners don’t want to spend the time or money to have an appraisal done. However, trying to save money on the appraisal, is likely to be to your disadvantage. Guessing at the value of your business is likely to result in either a price that’s unrealistically high and turns off many potential buyers, or a price that’s unnecessarily low and keeps you from cashing out at full value. Business appraisers generally are certified public accountants (CPAs) that have specialized training and experience in business appraisal techniques. As a profession, they have established a number of ways to quantify the value of key aspects of your business, and roll them up into an overall figure. As part of the process they will write up a valuation report, which explains in detail how they arrived at their final value. Having a valuation document prepared by an outside expert adds a great deal of credibility to your asking price, because the buyer will be able to see exactly how you arrived at your final figure.

Keep in mind that if you sell out to a larger company, you’ll probably be dealing with MBAs who are used to seeing sophisticated financial analyses. They will be much more comfortable going through with the sale (and much more impressed with your management ability) if you have a detailed appraisal prepared. 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. However, when it comes to negotiating with an actual buyer, the appraisal is just a starting point. A particular buyer may have a strong strategic reason for acquiring your company, and may 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 may not be willing to pay for your company’s going-concern value at all. It’s important that you size up the particular buyer’s reasons for acquiring your business before naming a price.

Once your appraiser has come up with an approximate value for your business, you may decide to set the listing price slightly above the top end of the price range, to allow yourself some room to negotiate and still realize the full value of the business (or at least come close to it.) Or, you may decide that you want to sell quickly, and you’d prefer to set the listing price close to the actual appraised value or even below it. You should think carefully about this decision and base it on your priorities, and your experience and sense of the current market for businesses like yours. It’s much easier to drop your asking price later than to raise it. Of course, your actual selling price will be determined during negotiations with the buyer, preferably after all the other major terms have been worked out.

Cash flow and assets are key selling points

It’s important to recognize that what you love about your business is not necessarily the same things that a buyer will love. You may appreciate the intangible benefits you get from being your own boss, from your status in the community, from knowing that you provide a good product to your customers and a good working environment to your employees. Possibly you value some of your perks even more highly than the salary you take out of the business.

Buyers focus on cash flow

Buyers tend to look at a business in a much more cut-and-dried way. The essential factors that most buyers are interested in are earnings (net income after all expenses, but before capital expenditures or debt payments) and cash flow (the inflow and outflow of cash in the business.) Buyers want to know that your business will provide a stream of funds that’s predictable, steady, and high. Some buyers prefer to look specifically at cash-flow statements, while others will focus on your income statement to examine earnings before interest and taxes (EBIT). Still, others will place the most weight on earnings before interest, taxes, and depreciation (EBITD). The point is, that your income stream is key. You need to prove the size and regularity of your positive cash flow, preferably with audited financials going back at least three years.

Assets are an important consideration

A secondary consideration for most buyers will be the verifiable assets of the business: the real estate, equipment, patents or trademarks, and even such things as inventory, customer lists, and contractual

relationships you’ve established. These items are the buyer’s “insurance” — things that can be sold or used elsewhere if the earnings stream dries up. Here’s where owning your business location and equipment, rather than leasing them, can be important. Buyers will examine your key financial ratios to see how your business compares to the industry average, to other acquisitions they may be considering, and to the criteria for purchases they have set up for themselves. A key consideration is that your business have a clean balance sheet with low debt. The buyer may have to increase the debt burden in order to make the acquisition, and won’t want total debt to be too heavy for the business to support. Furthermore, a low debt load is more evidence that your business has a strong flow of earnings. Some buyers will be interested in knowing that you have an experienced manager or team of employees in place to take over when you leave. They’ll want to know that you have groomed your successors, and that the successors will stick around. Other buyers will be looking for a business to actively manage, and will want to avoid long employment contracts with existing managers.

Buyers will demand documentation of business assets and financial health

Buyers will also prefer that you have a lot of documentation available for your business. They’ll be taking a close look at what the papers actually say during the due diligence process, as negotiations proceed. But the very existence of documentation like sales reports, production reports, employee organization charts, job descriptions, operations manuals — all that paperwork you’ve tried to minimize or avoid up to now — serves to tell your buyer a lot about your business, and also increases his or her comfort level with the professionalism of your management style.

Finally, you should have your accountant take your financials and use them to project how your future statements are likely to look for the next five years, making reasonable assumptions about future growth or decline in income, expenses, value of assets etc. In most cases, that means assuming that trends established over the past several years will continue; for example, if revenues have increased by 5 percent a year, it’s probably reasonable to assume that growth will continue at that rate.

Hopefully, you now have a better understanding of the importance of an accurate business valuation for selling your business. We also want to reiterate that these are just meant to serve as guidelines. In reality, every business is different. So let us assist you by taking out the difficult part of the whole process – finding a buyer! List with us Business 4 Sale Business 2 Buy today! The perfect platform to buy or you’re a business…

Join The Discussion

Compare listings