Brady Marlow, CFP®, AEP®, CAP®, CPWA®, CExPTM, Director, Carson Private Client Wealth Strategy
How much is my business worth? The question is fundamental to all business owners. And yet, many only begin to consider the significance when it’s time to sell. If that’s the case with your organization, you could be missing out on the benefits of a business valuation, which can provide a comprehensive understanding of your company’s financial standing and overall health.
By gaining insight into the worth of your business, you can make informed decisions and take proactive steps to enhance your business’s value as well as its long-term success. Read on to discover how business valuation can become a powerful tool in unlocking your organization’s true potential.
What Is a Business Valuation?
In a broad sense, business valuation is the process that assesses and describes the economic value of your company. There are two key ways to gauge the health of your business to arrive at a valuation:
- Income approach focuses on the cash flow you’re generating
- Asset approach assesses the business’s worth through its assets
Which one you use depends on the type of business you own. An asset value is likely more important to a construction company that owns expensive equipment, for example, than it would be for an advertising consultancy that’s dependent on the people it employs and the income they generate.
Why Business Valuation Is Important for Small Businesses
The more you know about the business, the better positioned you will be to eventually sell it. One common mistake I see entrepreneurs make is not realizing the key role they play in their business’s current success. It may surprise them to learn that a business is most valuable when the owner is the least valuable part of the business. Otherwise, the person buying it won’t continue to realize that value once you depart.
A business valuation will help you figure out your company’s worth aside from your contribution. The business’s value may be dependent on diverse income streams, your employees, or some other factor. Identifying these points of differentiation will allow you to prioritize strategies to build on those strengths and create more value over time, until you’re eventually ready to sell.
Performing a business valuation is also beneficial in that the exercise will inject financial discipline into your record-keeping. The first thing a prospective buyer will ask for is your books so they can conduct due diligence on your accounting functions. If your bookkeeping is unorganized, the business will automatically become less valuable. (As an extra bonus, you’ll reap the benefits of clean books during your annual financial reporting.)
Finally, I recommend owners conduct a business valuation to help protect their interests in case their exit doesn’t happen on their ideal timeline – whether due to death, divorce or other circumstance. A business valuation is far harder to conduct during a crisis. You’re likely to encounter a wide range of opinions and there is often a high degree of emotion involved. Being prepared by having a valuation done on a regular timetable will avoid these reactive responses.
Challenges in Small Business Valuation
I like to say that the day you start the business is the right time to start an exit. But that can be challenging for a smaller business that might not have a CFO or someone else with a high degree of financial acumen on staff.
It’s also difficult to value a company with a lack of comparables, such as one that competes in a niche market, has a unique business model or offers various income streams.
In addition, small business owners are often overwhelmed with the various hats they wear and don’t see the benefit in devoting precious time to an activity that’s not providing an immediate, tangible benefit. But as mentioned above, getting a regular business valuation will be time well invested.
How to Value Your Business
There are many general ways to value your business, but to really get the most insight, you should work with someone who has established protocols. For example, Carson has access to software that combines financial data – such as your profit and loss statement, balance sheet and tax returns – with qualitative data, including details on your customer value and concentration risk, ESG initiatives and more.
By identifying gaps, you can put steps in place to address those issues, which will expand its value and make your business more attractive to an eventual buyer.
Business Exit Planning Advisors Can Help Show the Way
For most small business owners, this is the biggest transaction they’ll ever do, so it’s imperative to do it right. However, once you get started it can quickly become overwhelming, with a compressed timeline and fast-moving pieces. In fact, if you’re contemplating an exit, I recommend talking to peers who have been through the process to see what they wish they had known or would have done differently.
Then, you can start thinking about who can help guide you through the process. Often, business owners choose one of their trusted cadre of professionals to take the lead, but their singular focus might not offer the holistic view you need. For example, your CPA’s advice will center on taxes, while your legal counsel will be attentive to warrants and representations and how you will be protected after you sell. While these are all key factors, they can’t be the sole focus of the transfer, which is where a business planning advisor can come in.
Every business transaction presents a unique mountain to climb. While your business planning exit advisor hasn’t climbed this specific mountain, they have climbed hundreds of other mountains – so they are aware of common pitfalls and issues to consider and can help you navigate them successfully. A good place to start is with someone who has a designation like a Certified Exit Planning Advisor (CEPA) or a Certified Exit Planner (CExPTM).
Yet, these credentials alone don’t define expertise. I always recommend asking a prospective advisor what percentage of their business is focused on exit planning strategy, then engaging one who spends more than half their time with business owners. If the service is just one of many they offer, they might not be as attuned to the small details as you need or be up on the latest legislation and best practices.
Don’t Overlook the Personal Financial Ramifications
Finally, make sure you understand exactly what the payment will mean to you personally. While the big number of the valuation might sound impressive, you have to dig into deal terms such as taxes, holdbacks and earn-outs to determine exactly what you’ll walk away with in your pocket – and whether it’s sufficient to fund your preferred lifestyle.
It’s common among small business owners to have only a loose grasp on what it will cost to maintain their lifestyle, either because they run many expenses through their business or because they see their profits grow each successive year. Once you sell your business, your account won’t be consistently replenished, so it’s crucial to understand any potential gaps and begin to fill them long before you sell.
Talk to an Experienced Business Valuation Professional Today
As you can see, there are many compelling reasons to seek a business valuation. By having a clear understanding of your company’s worth, you can make informed decisions regarding its trajectory and have the runway to enhance profitability and competitiveness so it can flourish.
Are you ready to talk with someone about your business’s potential and how you can help it achieve further success while preserving your legacy? Find out more by scheduling a consultation with a Carson Private Client Strategist.