How Salable and How Valuable Is Your Business

by

Joan M. Ridley, CEPA, CBI, CFP™

Since 93% of a business owner’s retirement income is the return on the invested net proceeds from the sale of the business, the discussion about value comes to mind immediately.  And although the economy, interest rates, and other factors play an important role, ultimately it’s the buyer that determines value.

Business valuation professionals, chiefly identified by their professional designations (including ASA, CPA-ABV, CPA-CVA, CFA) determine value from three separate analyses in their valuations: 1) Asset 2) Income and 3) Market.  However, when valuing a business to sell to an outside third party where the buyer and seller are ready, willing, and able, income will usually be the chief determinant.  What this means is that value is mostly determined by historical and projected revenues  and income of three or more years.  Because the valuation will reflect historical performance, dramatic upward or downward spikes will figure into the valuation preparer’s opinion of value.  The business owner (or management) will need to account for  the facts related to dramatic spikes, up or down, in historical performance, and, will need to support projections with a sound strategy to achieve them.

If revenues and cash flow have not trended consistently upward each year for the last three to five years, buyers will want to know why – if you’re lucky.  Most will just keep looking elsewhere at other opportunities and will not pursue your company for more information about performance.  Here are some questions in potential buyers’ minds when they see historical downward performance trends that are likely to result in reduced salability:

• Did the company lose customers
• Is there a problem with vendor relationships
• Did the company lose out to the competition
• Did the company lose a key salesperson
• Did the salesperson take your customers with him/her
• Are there management issues
• Is there a compensation issue
• Is there a morale issue
• Is the business model flawed
• Are there receivables issues
• Is there an issue with billing procedures
• Is there a problem with the financial record-keeping
• Are the products or services obsolete
• Are there major operations issues
• Is there a customer diversification issue
• Is industry growth slowing

So when we talk about value, a company can be profitable and still not be as salable as it could be if issues such as these have not been properly addressed, and, if the all of the issues have not been considered in the valuation.   And although you might be pleased with the value that the valuation preparer assigns to your business, it might not sell for that value, or it might not sell at all.   Keep in mind that 80% of businesses with revenues between $3 and $10MM do not sell. This statement is well-documented both anecdotally and by studies. 

On the other hand, could your business be salable and not have the value that you are hoping for?  Yes. For instance, it could have many of the value drivers in place, and still not have historical upward trending performance that justifies the buyer’s potential investment. 

To get a more accurate picture of what a buyer might be willing to pay we need to determine how profitable the business has been in the past three to five years and how profitable is it likely to be in the future.  In other words, how likely is it that the upward trend of historical increasing cash flow will continue into the future three to five years.   The buyer wants to know that debt service will be covered and that a profit in relation to the risk he or the purchasing entity is taking will be realized.    The buyer also will want to know what risks are inherent in your company that could threaten future performance, and, what additional investment will need to be made by the buyer to reduce those risks.    

From the standpoint of preparing your business to sell, and to sell for the best terms possible, an estimate of value based on past and future revenues and net income, and, an analysis of the current position of the numerous value drivers is recommended. View a sample of the various value drivers and see how salable your business is.  Please call us at 214-692-9192 for more information about the value and salability of your company.

 

Joan M. Ridley is a Certified Exit Planning Advisor, a Certified Business Intermediary, and a Certified Financial Planner™. She is President of Business Wealth Solutions, a business consultancy that helps business owners improve their top line, bottom line and present their financials to best showcase company performance. When you are ready, we have the conversation about what comes next and what you have to do to get there. Call 214-692-9192 and visit www.bwsllc.net

Copyright 2013 Joan M. Ridley