What is a business valuation for?

No matter for what reason and when you started your company, once you have spent several years “in the game”, you might be looking to move on to other exciting new opportunities, the business might have lost your interest, or maybe you just want to cash out its value and retire or live your dreams for a few years before moving on to the next business challenge.

Whatever you decide to do, it is vital that you value your business correctly so that you can enter the business transfer / sales process with a knowledge advantage over potential investors, as they certainly will try to lowball you in the hopes that you don’t realize the true value that your company creates for the marketplace.

In order to maximize the value for your business, we have outlined vital factors that define what constitutes a proper business valuation.  They are as follows…

post about what is a business valuation

Components of value

There are three elements that can be considered when assessing the total value of a business to sellers and buyers.

The first one takes what a business currently has as a book value for its assets (e.g. stock, machinery, employees etc) that allows the business to function properly. This factor is typically adjusted to market value of assets as some assets might have been overly quick depreciated, and the book value does not properly reflect the true value.

The second set of comparative values is cash flow related, consisting of Revenue, Sellers Discretionary Cash Flow and EBTIDA. Such values are typically compared to actual deals closings in the past three years.
Finally, the third component is a set of financial ratios, called Single Period Capitalization Method, and Excess Earnings Method

The proper weighting of all factors and ratios, resulting in an average, is referred to as a business’ fair market value.

While both are useful metric, another components to keep in mind when valuing a business is its intrinsic value, sometimes called Goodwill. While an ice cream business sells few units in the winter time, its intrinsic value is higher than it might appear at that point in the year, as this type of enterprise tends to sell many more units of mint chocolate chip in the blazing heat of summer, making it a good value in the long run.

Elements to consider when valuing a business

There are a number of indicators that will help buyers and sellers arrive at a number that makes sense for both parties involved. Financial analysis assesses aspects of the business ranging from the cash flow, to the cash balance it has in the bank (liquidity), to the width of its margins (overall profitability), as well as analyzing the companies’ performance relative to its competition.

The state of the economy and macro economic environment in general relative to the businesses’ market position should also be assessed, as a company selling vacations right after a financial crisis will be worth less than its present cash flow value despite sound fundamentals, while a pawn shop or dollar store with less than perfect underpinnings will see its fortunes rise in such an economic climate.

Finally, the company’s financial statements should be examined to see exactly if it does indeed generate cash flow for its owners, as accounting wizardry will often make what isn’t a profitable company in reality out to be one that appears to be viable on the surface. Some expenses are ones that do not recur and thus, can be safely omitted (such as a lawsuit settlement), while certain assets (such as excess cash that is rightfully the property of the sellers) need to be excluded from the statements to present a true picture of the liquid value of the business in question.

If you’re looking for a business valuation in New Jersey or are just looking for guidance on the topic, you can find more info online or you can contact a local business broker for more assistance.

 

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