Business owners often get caught in the bad habit of focusing on the here and now of building wealth while overlooking a vital component of business building - learning the true value of their business.
Even if you don’t plan on selling in the immediate future, obtaining an official business valuation is a crucial step in being able to adequately plan for the future.
What is a business valuation?
Through a formal process done by advisers, business owners can learn the fair market value of their company, and what a hypothetical buyer would expect to pay if they were to take it to market. This is based on an array of facts and figures which relate to competition, asset and income values, and market health.
Why get a business valuation
A proper valuation enables owners and entrepreneurs to gain a holistic overview of their work. Yes, it helps to identify value drivers and detractors that affect both health and price of a business if it were to be listed for sale, but more than that, it helps lay the groundwork for a strategic roadmap that will shape the future growth of the company.
You’ll have a clear picture of potential risks, and opportunities that might’ve otherwise slipped under your radar. These opportunities allow you to build the best value possible in the time between identification and when you do sell your business - or pass over the reins to your successor.
8 reasons to get a business valuation
While the sale of a business is a predominant reason to understand the value of your business, it is not the only reason why you would seek one out. Most business owners seek out valuations even if they have no plans of exiting.
Having a recent assessment is handy for a number of reasons - both personal and financial - that range from preparing your business to sell to retiring, or even navigating complex tax law.
Here are the top 8 purposes of a business valuation.
1) Selling your business
First and foremost, a business valuation is necessary if you plan on exiting your business. Be aware though, that you should begin this process well in advance of listing. This is beneficial for a number of reasons:
- Knowing the value of your business (and its challenges and opportunities), you will be able to take more time to increase its worth before going to market.
- With your valuation complete, you’ll be well-informed on both your business financials and its niche in the market during the due diligence phase.
- Finally, if you know your company’s resale price, you’re in a stronger position to negotiate a higher selling price. We recommend using statistics provided to you by your evaluators to strengthen your arguments and hold your ground at the negotiation table.
2) Estate planning
If you want your family business to be one of the 30% to survive into the second generation, then it’s a great idea to start mapping your succession strategy with your valuation close at hand. Armed with this knowledge, you’ll have more clarity and control over the timing of the pass over, but it’s also extremely important for tax purposes.
If you are at the helm of a sizable estate, an estate planning transaction may draw the attention of the ATO. Your first step is then to file a well-documented valuation in order to defend the value of your business to the tax authorities.
For more about creating your succession strategy, read this article.
3) Retiring
Not keeping it in the family? You’re not alone. Many business owners’ retirement fund is dependant on how much they sell their business for. It goes without saying that you should intimately know the value of one of your biggest assets in order to best prepare for your golden years. Don’t be caught off guard when the moment does come. We’ve spoken to a few owners who perceived their business to be worth more than it actually was. This could be detrimental to your long term plan. The best way to plan is to know your hand. Get your business valued early so you can be confident in planning for retirement.
4) Accessing more investors
When you reach out to potential investors - whether it be to stave off financial hardship or to facilitate growth in new areas - they’re going to want to see an up-to-date valuation report. This should include projections based on what funds you’re asking them for.
That’s because investors like to see where their money is going, how it’s going to help, and what the intended return for them will be. You’re more likely to catch their eye if you can prove your value, your ability to scale, and future wealth.
5) During mergers and acquisitions
If you’re approached by a company that’s interested in acquiring your business, you’ll need to prove to them that your business is worth a certain amount of money, how it has grown up until that point, and how it will grow in the future.
Most buyers will want to acquire or merge for as little money as possible. But when you know your business’ true value, you’ll be able to create a sound argument based on the appraised valuation numbers provided to you.
6) Defending your value
Besides needing to defend your business in the eyes of investors and acquirers, you may find yourself needing to prove the worth to your shareholders, board of advisors, and even your spouse.
Let’s look at a divorce for example, where you and your ex-spouse own a business together. Unlike savings, homes, and other assets, the value of a business is much harder to come to an agreement over. In sensitive situations such as this, having your business assessed will create transparency around an otherwise complicated situation and create an equitable division of assets.
7) Creating an ESOP
An employee stock ownership plan (ESOP) is a benefit plan which allows employees to purchase shares of a company at a pre-determined price. ESOPs provide tax advantages, capital and a certain amount of liquidity for owners who don’t want to go public. In order to set up an ESOP, you’ll need to have your business valued every year, as this is what dictates the price per share.
8) Managing your business
Regardless of whether there are any big milestones coming up on your roadmap, it’s important to stay on top of your business strategy. As mentioned earlier, when you conduct regular valuations, you can identify risks and create proactive plans for mitigating them. You can take advantage of opportunities, have fewer blind spots, and can measure performance and set incentives for yourself and your team. Because knowing what each component of your business is worth could mean the difference between the exit you wanted, and the exit you never saw coming.
Business owners should treat valuations as a foundation for good decision-making, now and down the track. While it’s not possible to predict the future, keeping a finger on the pulse of your business allows you to be as prepared as possible for the uncertainties that life throws our way.
Whether you’re preparing for your business’ long-term future or looking for effective ways to scale today, a proper business valuation will help you get there.
