Importance of a business valuation when selling your business

When most business owners decide to sell and they wish to be the one to start the process, the first and obvious place to start is with a business valuation. A business valuation gives the owner a reference point as to whether the price they hope to get for the business will be reasonable and/or achievable.

Some business owners choose the selling price for the business based on what they want in order to sell. They may have a certain amount of debt they wish to retire, money they need for retirement plus an ache that makes them think there business is worth a certain amount of money. Not a good basis for trying to convince a buyer about the asking price for the business.

Other valuation techniques include the "rumor" method. The "rumor" method is the price an owner chooses to use based on what he heard his friend sell his business. Rather than a friend, it could have been a competitor two counties over or something they read in the local paper. Once again, not a good method to use to convince a buyer on the asking price for the business.

Business valuations can be simple and straightforward or technical and complicated. If the business is 100% owned by one person, has been in the same location with roughly the same number of employees for the last three years and the business has been operated the same way, then a valuation would be fairly easy to do if all financial records such as profit and loss, tax returns and balance sheets are up to date.

The above can be complicated if the business only has one or two customers. If your business has existed for 54 years but has been supplying nuts and bolts you manufacture to General Motors and they are your only customer, how willing do you think a new buyer would be to take over the business.

Consider another example. If the business is 40% owned by a father that retired 6 months ago and now his son wishes to sell his 40% interest with the remaining 20% owned by a long term employee that is also going to retire in 12 months, how easy do you think it would be to value this business?

The bottom line is that the permutations are endless. But as we suggested at the start of this article, getting a business valuation is the right starting point. Inevitably the market will determine the final price paid. But don't forget, the price is only the start of the journey; it's the final terms of the offer that determine the value offered for the business. Price and value are not synonymous. The business may have a price of $1,000,000 but the value could be a totally different figure. You've heard the expression - Beauty is in the eye of the beholder. Value is from the same family, that is, value is in the eye of the Beholder.

Be aware there are different types of business valuations designed to meet different purposes. A business valuation that may go before a court of law is much more sophisticated and analytical than a business valuation that gives an opinion of value to the owner of a business that's thinking of selling. That is, the requirement to go before a court is that the valuation needs to be USPAP compliant. Know what you want from your business valuation and understand the final cost will vary according to the sophistication of the report.