Do you know the real value of your business? I, myself, did not give serious thought to the actual value of my business until I was getting ready to sell it. Prior to that point, like many small business owners, my energies had been focused on day-to-day operations. A couple of times a year I would find time to study my financial reports with an eye to understanding generally how my business was doing; but I didn’t give serious consideration to conducting a business valuation. That changed when I started thinking about selling and set about trying to appraise the value of the business myself. I was surprised at the different figures I arrived at via approaches ranging from calculating the cost of setting up such a business from scratch to using formulae involving assets and multiples of earnings; and some of the formulae were so technical that I really wasn’t even certain about how to use them. I was confused about what method to use and this was compounded by the fact that I was both financially and emotionally invested in the business. A professional valuation expert can be enormously helpful for figuring out the worth of your business both with respect to knowing what valuation method is appropriate for your type of business and also for approaching the valuation without emotional attachment.
A valuation expert will take into consideration factors such as assets, liabilities, earnings, earnings growth, cash flow, comparisons to industry data, industry risks, and barriers to entry for competition. These, however, are not the only factors that can affect the worth of your business. Your business is worth what someone is willing to pay for it. Questions that may come into play include the following: What is the business’s reputation with regard to its products and customer service? Does it have well-defined, efficient operations? Does it have detailed and accurate record-keeping? Are there staffing issues? Is the business located in a geographical area attractive to buyers? How many potential buyers are there for businesses in this industry? Is the worth of the business limited to its physical assets? Is the worth of the business tied to the owner personally? How is the sale of the business going to be marketed? Are there time constraints on the sale of the business? Business valuation is not a precise science. There is no guarantee of how long it will take to find a buyer or of what the buyer will be willing to pay. Nevertheless, it is a useful tool for understanding what goes into assessing the worth of a business and what a reasonable buyer might be willing to pay for it. If you are planning on funding your retirement (or your family’s future) with the sale of your business, then it is a good idea to be informed about the real value of your business earlier rather than later.
Something that I have come to appreciate is that understanding the worth of your business, and how that is determined, is important for more than just knowing what price tag to put on your business. It is important for understanding your overall financial picture. For many small business owners, a substantial portion of their net worth is tied up in their business. Put in this perspective, one’s business is not just a significant investment in terms of what the owner puts into it financially and emotionally. It is, for many business owners, also the most significant investment they make in terms of their overall long-term financial health. A realistic business valuation paired with an analysis of one’s other assets (real estate holdings, retirement accounts, etc.) can help one have a better understanding of how the company fits into one’s long term financial health and whether the business is on track for pulling its weight. As a business advisor, I have seen and heard stories of business owners who have decided it was time to get out, and then were shocked that a business that they had put so much of themselves into over the years was not worth nearly what they expected it to be. This can be devastating news when one’s personal financial future is tied to the worth of the business. In many cases, a business owner can avoid this unfortunate situation by understanding what is involved in business valuation, by understanding how the business fits into the owner’s larger financial picture, and taking steps to make sure that the business is worth what the owner needs it to be worth come time to sell.
The usefulness of a business valuation is not limited to the point in time when one is selling a business, even though it estimates the amount for which a company could be sold. It is a useful tool for helping a business owner understand what role the business plays in the context of his or her overall financial picture. Moreover, understanding what goes into the valuation, can be instrumental in motivating a business owner to better manage cash flow, to put more effort into earnings growth, to diversify or consolidate services, to set up clearer operations, to maintain better records, to invest in training staff, and so forth. In other words, it can give the business owner reason to take his or her thoughts off daily operations for long enough to evaluate what needs to be done in the context of the broader picture for the long-term health of the company and his or her own long-term financial health as well … or to relax, content in the knowledge that everything really is on track.
At the WU KSBDC, we offer advising and classes to help motivated business owners do what they can to support the financial health, and grow the worth, of their business. In connection with this, we also work with clients on advising about exit planning and attaining a business valuation.
Related post: So What is Your Exit Strategy?
Laurie Pieper, Ph.D.
WU KSBDC Advisor