It’s common that many business owners often leave substantial money on the table when they sell their businesses. The most common cause for this result is the fact the business had nothing in place to defend the asking price and or the value of their business. As a result the buyer and their advisors were able to discredit the asking price piece by piece as the seller stood by defenseless. If the business owner had an independent business appraisal report the outcome would have been successful to the seller. For that reason, the business appraisal report is a true asset to the business owner. Additionally professional business appraisal services are useful as follows:
- Helping identify the key value drivers, major strengths, and more importantly, the major weaknesses of a company allowing the owner to solve both obvious and hidden problems prior to the selling process.
- Determining a reasonable selling price. Many owners rely on general rules of thumb, casual advice from friends, or other similarly unreliable sources. Business Values determined by general multiples or rules of thumb may be too high or too low. Unless the business owner goes through the valuation process, he just will not know. If the owner’s expectation of value is too high, it will prolong the selling process until a price concession is made. If the price is too low, money is left on the table.
- Fully understanding the value of the business will assist during negotiation. In this market, one can expect buyers to be sophisticated and experienced. They will conduct a rigorous analysis of the company even if the seller has not. They will look at those factors and value drivers that the owner and his advisors should consider in evaluating the company, and they will use that information against the seller in negotiations if allowed.
Business Appraisal process can be divided into 5 steps:
- Determining the purpose of an appraisal, and ownership interest being appraised
- Obtain and review key elements of the business which includes but is not limited to: Corporate Documents, Financial Records, Key Personnel, Key Customers, Industry Trends, Comparable Sales of Similar Companies.
- Determine value indications of the business and owned non-operating assets using 3 categories of appraisal approaches: Asset, Market, and Income.
- Determine final indication of value after consideration of all information obtained, reviewed, and analyzed and making appropriate allocations for goodwill and other intangibles the business possesses.
- Prepare a written business appraisal report.
Fair market business value is defined as the price at which the business would change hands between a willing buyer and a willing seller when the former is not under any compulsion to buy and the latter is not under any compulsion to sell, both having reasonable knowledge of relevant facts, and with both seeking their maximum self-interest.
What does that really mean? The value of a privately owned business depends on a number of factors including its financial strength and profitability, the strength of the industry, competitiveness, dependency of the business on the owner and future viability of the company.
There are three common approaches used by certified business appraisers to perform business appraisal services, although there may be additional approaches used as well. The American Society of Appraisers has developed appraisal standards for the Asset Based Approach, the Market Approach and the Income Approach.
The Asset Based Value Approach for appraising a business, sometimes referred to as the Cost Approach, is asset-oriented. Each component of a business is valued separately and then summed to derive the total value of the business. The book value of each asset must first be determined – original cost minus depreciation works for some assets, cash and marketable securities are valued at face value and inventory values vary by type. The value is estimated based on the cost of duplicating or replacing the individual assets. The next step is to adjust these values to reflect their fair market value, which results in an adjusted book value. Next, deduct liabilities – short-term debt at face value, long-term debt at a discount. Last, subtracting the liabilities from the adjusted book value, results in the value of a business.
The Market Value Approach for appraising a business is based on an analysis of the purchase price of similar businesses in the market. Financial ratios are used to compare the subject company to other companies and then a set of appropriate multiples are developed to be used in the valuation. An earning period is then selected (usually the last 12 months, but may include up to 36 months) and earnings and cash flow are analyzed over these periods using the multiples. Then, a value is selected based on how the company compares with the others.
The Income Value Approach for appraising a business focuses on the earnings of the business. The value is based on an estimate of the income the purchaser could reasonably expect from the business. The computations generally determine that the worth of a business is equal to the expected future income of the business divided by the rate of return.
There are several income approach methods commonly used to value a business today. They all use some selected level of earnings and match it to the corresponding conversion factor. When performed properly, each of the methods should produce similar value. The Multiple of Discretionary Earnings approach is widely accepted and is conducted in two steps. First, the discretionary earnings likely to reoccur in the near future is determined by either averaging the last several years or using only the last year, if the most recent year better reflects the projected earnings of the company. Discretionary earnings is defined as reported pretax earnings, plus the owner’s salary, interest expense, depreciation and any personal expenses run through the business. The second step is to select a multiplier. The discretionary earnings value (used in step one) times the multiplier produces the value of the business.
In conclusion, a Business Appraisal Services expert will determine a relative weight to be assigned to each of the various methods used or they may decide that the value should be derived from a single method. One or more approaches may not be relevant to the particular situation. Typically, the rationale will be included for the selection of weighting of the method or methods used in reaching the final value.
Properly determining the value of a business is a complicated process. Consult with a professional business appraisal service expert that has technical and business experience, the ability to select the appropriate appraisal techniques, and a thorough understanding of today’s tax laws, corporate finance and market conditions. An unbiased business evaluation serves as a benchmark, minimizes ownership disputes and provides a realistic, credible and defensible value indicator for any business owner.
Business Valuations are governed by Valuation Standards Business Valuation Associations. The top two organizations are The Uniform Standards of Professional Appraisal Practice and The National Association of Certified Valuation Analysts.
American Fortune Experience and Qualifications in Business Appraisal Reports
At, American Fortune Business Appraisal Services are one of three key services we provide in addition to Business Exit Planning and Business Sale & Acquisition services. Therefore we have a lot of practical and market appraisal experience which comes from our daily involvement with Business Sale & Acquisitions and Exit Planning services. This combined expertise and experience results in a business appraisal that is more accurate, credible and defensible than a business appraisal prepared by companies that do not poses market experience and business sale (merger & acquisition) and exit planning expertise. The advisors at American Fortune Business Appraisal Services work on hundreds of projects each year. Our appraisal experts have experience in valuing businesses in a variety of different industries including manufacturing, distribution, retail, healthcare, banking and finance, engineering and high technology. This diverse background allows us to knowledgeably undertake appraisal work for virtually every possible business and purpose.