The transition of a business is potentially the most significant financial event for an owner. As such, knowing the value of the business is essential for an owner. Besides understanding the value, an owner must understand the factors that increase and decrease the value.
Many business owners believe they know their company’s market value. An owner’s concept of market value is not the most credible as it is based on estimates and common misconceptions. Every business owner who is serious about maximizing the value of their business should consider the following:
The Purpose of Knowing the Value
While a valuation or an appraisal is crucial to a successful sale, knowing the value of a business can be important for many other reasons. First, It is a powerful benchmarking tool that measures an owner’s objectives when exiting or transitioning. An understanding of the key elements of business value also provides the owner with insights into the operation of the business. Such insights will enable the owner to emphasize profitability and value generation.
More often than not, the most important and unique factors that add to the value of a company are beneath the surface. These facets of the business are often overlooked, ignored, or not even recognized. Valuation professionals focus on uncovering these “hidden” elements of value. In fact, these elements can assist in determining the appropriate valuation methods. Value is more about how the business is likely to perform in the future than how it has performed in the past. From the perspective of a potential acquirer, these factors likely increase the value.
The Factors that Change Value
Value is dynamic. External factors cause cycles of constant change that impact value. These may include the economy, the mergers-and-acquisitions marketplace, stock market volatility, interest rates, geopolitical considerations, industry trends, and competition. Internal conditions also have an impact on value whether independent or dependent on external factors. Changes do, and will, occur and they always tend to impact business value. Change can sometimes erode value or increase value. Such change can impact the transition plans of business owners or offer unexpected opportunities. The ability to interpret both internal and external changes will benefit those who focus on the value of their business and prepare to act.
The Inconsistency of Value
Assuming consistency when valuing a company is certain to produce inaccurate results. For example, an assumption that all businesses in a given industry should trade at similar multiples could result in an inaccurate valuation. Experience shows there is more variation in multiples among companies in the same industry than among companies in different industries.
Whether the intention of a business owner is to sell his or her company now or put in place growth strategies to enhance value, a valuation will assist in making intelligent and informed decisions. It will assist in identifying potential options and measure them against the goals of the owner and business. Lastly, it allows the owner to be proactive in determining, developing and implementing strategies to achieve successful outcomes.
Clearly, knowing the fair market value of a business places the owner in control.