Challenges When Valuing a Business for SBA Lending
Valuing a business for an SBA loan can present several unique challenges. These challenges often stem from the specific requirements of SBA loans and the nature of the business being evaluated. Here are some of the key challenges we often encounter when valuing a business for SBA lending purposes. And, how the team at Peak Business Valuation provides effective solutions.
Peak Business Valuation provides SBA business valuations for more than 90 SBA lenders across the country. To learn more about a business valuation for SBA lending, schedule a free consultation today!
Challenges when Valuing a Business for SBA Lending
1. Inconsistent or Incomplete Financial Records
Many small businesses, especially those applying for SBA loans, may not have comprehensive or standardized financial records. Inconsistent or incomplete financial records can complicate a business valuation by creating uncertainty about the company’s true financial health. Valuators rely on financial data to assess a business’s profitability, cash flow, and overall performance. When records are missing or unreliable, it can be challenging to establish trends, verify income and expenses, or determine the value of assets and liabilities.
- Solution: As certified business appraisers, the team at Peak Business Valuation may make adjustments for missing information. This can include requesting additional financial documentation, reconstructing financial statements, or normalizing earnings to account for one-time expenses or non-recurring income. As required by the SBA, we rely on filed tax returns and/or company-prepared financial statements if necessary. Making these adjustments to the Company’s financial statements gives us a better indication of the Company’s financial health. It also provides a more accurate and reliable SBA business valuation.
2. Owner Dependence
A small business can be highly dependent on its owner in several ways. This can create challenges if the owner steps away or seeks to sell the business. For example, the owner might be the primary point of contact for clients, driving most of the sales through personal relationships. In other cases, the owner might hold key operational knowledge or skills that aren’t documented or easily transferable. This may also include managing finances, overseeing production, or handling unique customer requests. Additionally, the owner may make most of the critical business decisions, leaving employees with limited autonomy. This dependence can make transitioning ownership difficult.
- Solution: Analyzing the depth of management and how transferable the business is without the current owner is critical. In an SBA business valuation, adjustments are appropriate and necessary to account for the Company’s dependence on the owner. Typically, these adjustments include a suitable replacement salary for the owner, factoring in an increase in risk due to the Company’s dependence on the owner. Sometimes, forecasting revenue and expenses for the next few years based on the removal of the Owner and the loss of their knowledge/client relationships is necessary. The team at Peak Business Valuation will cover this topic in depth as we perform your SBA business valuations.
3. Market Data Availability
Market data for small businesses is far more limited compared to the wealth of information available for publicly traded companies. Public companies are required to disclose financial information regularly, including earnings, revenue, and other key metrics. This helps analysts establish clear industry benchmarks and valuation multiples. In contrast, small businesses are typically privately held and not subject to the same reporting standards, leading to less transparency.
- Solution: At Peak Business Valuation, we have access to multiple private transaction databases to help ensure we rely on appropriate industry data. Additionally, over the last few years, our team has performed more than 4,000 business valuations for small businesses. Given our extensive experience working with small businesses, we are confident in our knowledge and ability to find quality market data. In addition, we are confident in our process of valuing a business for SBA lending.
5. Industry Volatility
When valuing a business for SBA lending, industry risk and impact are essential. Some businesses operate in highly volatile industries where market conditions can change rapidly. This volatility can introduce uncertainty into future earnings projections, which requires additional analysis and consideration in the business valuation.
- Solution: During an SBA business valuation, the team at Peak Business Valuation may factor in risk adjustments and perform sensitivity analyses to account for potential variations in earnings. In cases where the industry is especially volatile, a range of value might be provided rather than a single-point estimate.
6. SBA-Specific Guidelines
The SBA has specific guidelines for SBA business valuations, particularly around independence, objectivity, and the use of standardized valuation practices. Complying with these guidelines is essential for an accurate SBA business valuation.
- Solution: At Peak Business Valuation we are committed to staying up-to-date on SBA guidelines and ensuring that all reports adhere to the standard operating procedures. This includes providing thorough documentation and justifications for all assumptions and methods used.
7. Adjustments for Non-Operational Assets or Liabilities
Another challenging aspect of valuing a business for SBA lending is assessing expenses. Businesses may have non-operational assets or liabilities that don’t directly contribute to Company operations. Or, the Company may have incurred one-time or discretionary expenses that impact the Company’s cash flow and the overall value unless they are adjusted. Examples include excess cash, personal vehicles, personal/discretionary expenses run through the business, or owner-specific perks.
- Solution: These items need to be adjusted out of the business’s financials to provide a clearer picture of the Company’s earnings. This usually involves detailed discussions with the business owner or borrower and careful analysis of financial statements. Our financial analysis also references industry average data to uncover potential adjustments further.
8. Business Transitions and Growth Potential
SBA loans are often used for business acquisitions, and valuing a business during a transition can be tricky. Additionally, assessing growth potential is important but speculative.
- Solution: Any projections for an SBA business valuation must be grounded in reasonable assumptions based on the business’s historical performance, market trends, and current operational capacity. An expert and certified business appraiser at Peak Business Valuation always reviews the SBA business valuation report for accuracy.
9. Economic Environment
The broader economic environment can significantly impact small businesses, particularly during periods of economic uncertainty or downturns. This introduces additional risk to the valuation process.
- Solution: During an SBA business valuation, the analyst will incorporate macroeconomic factors, such as interest rates, inflation, and consumer demand. These external influences may require adjustments to discount rates or risk assessments.
Conclusion
Addressing these challenges effectively requires a combination of technical valuation expertise, industry knowledge, and familiarity with SBA lending standards. By recognizing and addressing these potential obstacles, Peak Business Valuation provides reliable SBA business valuations that both meet SBA guidelines and support your underwriting process.
We would love to help your SBA lending team with an SBA business valuation. Schedule your free consultation today to learn more about how the team at Peak Business Valuation can expedite your lending process. We love valuing a business for SBA lending and SBA financing! Click the link below to get started!
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