Do you know the current value of your business? Even if you鈥檙e not considering selling your company or otherwise transferring its ownership right now, it could happen sooner than you think.
In some cases, an ownership transfer becomes suddenly appealing when a company struggles to the extent that a sale becomes the best avenue for starting over. But more positive circumstances can drive the decision, too. For example, a small to midsize business might do so well that it receives an acquisition offer that鈥檚 too good to pass up.
Whether it鈥檚 an impending ownership transfer, or just a need to learn more about your company, it鈥檚 important to establish reasonable expectations of what a valuation provides.
Answering the right questions
Some owners mistakenly believe that the balance sheet tells how much a company is worth. But most businesses possess goodwill and other intangible assets 鈥 as well as unreported liabilities 鈥 that don鈥檛 show up on the financial statements.
In truth, cost-based valuation metrics aren鈥檛 often used in real-world transactions. Instead, the most popular methods for valuing private businesses include the discounted cash earnings, guideline company transactions and capitalization of earnings techniques. Calculating value under these methods requires the expertise of an outside valuation professional.
To better understand the valuation process, answer these basic questions:
What鈥檚 the purpose?听It could be as clear-cut as an impending sale. Or perhaps a divorce is on the horizon, and the owner must determine the value of the business interest that鈥檚 includable in the marital estate. In other cases, the valuation may be driven by tax, estate or strategic planning.
What鈥檚 the appropriate standard of value?听Generally, business valuations estimate 鈥渇air market value鈥 鈥 the price at which property would change hands in a hypothetical transaction involving informed buyers and sellers not under duress to buy or sell. But some assignments call for a different standard of value.
For instance, say you鈥檙e contemplating selling to a competitor. In this case, you might be best off determining the 鈥渟trategic value鈥 of your company 鈥 that is, the value to a particular investor, including buyer-specific synergies.
What鈥檚 the appropriate basis of value?听There鈥檚 a hierarchy of different types of value based on the degree of control and marketability an interest carries. Investors place premiums on the abilities to 1) control business decisions and 2) sell the interest on the 鈥渕arket鈥 as quickly and inexpensively as possible.
Digging deeper
Defining the appropriate basis of value in a business valuation isn鈥檛 always straightforward. Suppose a business is split equally between two partners. Even though each owner has some control, stalemates could impair decision making.
On the other hand, a 2% owner might possess some elements of control if the remaining shares are divvied up equally between two 49% owners. Definitively establishing the basis of value requires careful consideration of who owns the rest of the business 鈥 and how that allocation affects value given applicable state laws and ownership agreements.
Getting it done right
Regular valuations can be an important management tool 鈥 particularly if you plan to sell or transfer your interest anytime soon. We can explain the valuation process to you further and work with an appraiser to get the job done right.
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