Merger and acquisitions are off to their fastest start since 2000. Low interest rates and consolidation are driving business prices up as economic activity improves thanks to a continuing recovery in the economy. Whether you are looking to buy a business or sell your existing business, determining the value is a key part of any successful transaction. Most businessmen are faced with the need of determining what a business is worth at some point in their professional life. So you may be asking yourself, what is your business worth?
If you’re like many business owners, you’re not sure about the answer to that question – even though you easily can answer questions about your revenues, your expenses and your profits.
The surest way to know what your business is worth is to conduct have a professional business valuation that takes into account your assets, your recent history and, importantly, your marketability to prospective buyers. Determining what a business is worth is more than simply what the numbers say it should be worth. More often it's worth what other like businesses are selling for and what the buyer is willing to pay for it.
But knowing the value of your business isn’t just important when you are looking to buy or sell. Here are five important reasons why a business valuation should be performed on a regular basis.
1. It's a reality check. Most business owners are passionate about their business, but the market is not. What you think your business is worth isn't necessarily what a potential buyer or banker might agree with. Emotions can set too high a value, while others undercut themselves. Valuing a business requires gathering accurate information, including about one’s competitors and the industry as a whole. Specialized software makes it easier, but many business owners don’t have access to it. A certified valuation brings credibility to the value without the emotional elements that can be challenging to owners. If day-to-day financials are the trees, then a business valuation is the forest. It can tell you where your business is succeeding and where it’s lagging. For example, you can learn where your expenses are out of line with industry standards. Armed with that information, you can build upon your strengths and address your weaknesses.
2. It makes a partnership run more smoothly. All businesses with multiple owners should have a buy-sell agreement from the beginning that spells out what happens if one of the partners leaves, becomes disabled or dies. When the business is created, a value should be assigned to each partner's ownership percentage for the purpose of purchasing life insurance to cover each partner's obligation in the buy-sell section of the operating agreement. Annual valuations help all the partners know exactly what the business is worth and makes adjusting insurance policies easy and keeps the business transparent for all those involved. Moreover, there are many elements that affect the value for majority and minority partners. For example, a minority owner’s share is worth less than often expected because buyers are reluctant to invest in something they cannot control.
3. If your business gets involved in a lawsuit, the courts will want to know what it’s worth. The same applies in a divorce. Already having this knowledge can be a key point if these issues ever come up.
4. It helps you satisfy gift and estate tax reporting requirements. You will want to give the IRS an accurate value of the gift/estate and not rely on your own estimate, which may not satisfy an audit. A qualified business valuation has much more credibility. A valuation also helps determine an heir’s gain or loss on an inheritance of the asset, since its value steps up to fair market value at the death of the original owner. A solid business evaluation can be very helpful in estate planning long before the time of inheritance needs to take place. Making the process much easier on a business owner's family and partners.
5. It sets a starting price for when you decide to sell. As any business broker knows, getting that initial price right is the key to maximizing profits. Start too low, and you’re giving away your money. Start too high, and you run the risk of unsuccessfully trying to sell it. If you are forced to eventually lower the price, buyers might conclude your business isn’t as valuable as it might actually be.
Knowing what your business is worth is the first step in making good financial decisions for you, your family and your employees.
Richard Bell is an expert analyst on accounting strategies specific to small business, medical professionals and the trucking industry. He is founder and president of Bell & Company. Contact him at firstname.lastname@example.org.