Business Valuation Blog | Understanding Buying / Selling a Company

One of the most exciting and daunting experiences for a business owner is when they begin to consider selling their company. After years of hard work, the day arrives when they believe the best option is to cash out and move on to the next chapter.

An essential step in the process is obtaining an independent valuation to better understand the business's market value, including its underlying tangible assets and goodwill. The appraiser selected should be certified by NACVA, ASA, or another nationally recognized association. Make sure to discuss their credentials before moving forward.

If there are significant amounts of equipment and the buildings and land are owned, also engage with accredited appraisers who specialize in those areas while completing the full company valuation. These tangible values will then be transferred to the business appraisal as part of the overall review and analysis.

Taking time to go over financial documents with the appraiser is critical so they understand the adjustments to non-recurring and discretionary expenses that should be made. This will factor into the company's profitability. Two of the variables in the analysis will be gross revenue and adjusted net income (EBITDA), along with the potential for future growth, which can be determined through a reasonable forecast of revenue over the next 3-5 years.

It is usually expected of the owner to retain on-hand cash and receivables from finished projects and to settle liabilities, including outstanding debt. Hopefully, the net outcome for this is positive, so they can walk away with additional cash to supplement the overall sale price.

Buyers understand they will need to develop their own sources of cash flow, whether through their own capital, new loans, or investor equity.

Selling a business requires patience and effective communication to provide all necessary supporting documentation to appraisers and potential purchasers; therefore, one option is to engage a business broker familiar with the industry and the markets in which the company operates, who can assist with the overall process. In the end, it is important to feel confident with all the terms of the deal while carefully reviewing the documentation involved.

Sellers should consider hiring a business attorney to ensure all bases are covered and that legal issues are fair. Closing the sale should be one of the most satisfying events in a business owner’s career, so it is important to work through the process with the best support team available.

As a small business owner, it is important to stay current on the value of your business. Having an independent professional appraisal completed annually is the best way to handle this. Here is a brief summary of the process that will take place:

Business valuation is a specialized field that offers accreditation through recognized organizations. Look to engage a certified appraiser with sufficient experience to ensure an unbiased and thorough assessment. Two of the better-known associations are the American Society of Appraisers (ASA) and the National Association of Certified Valuators and Analysts (NACVA).

Once you describe your business and current situation to the appraiser, they will quote a scope-of-work fee and, if accepted, follow up with a formal engagement agreement.

It is important that you have accurate financial records available for the appraiser and that the most recent statements have been prepared. If they are lacking, have your accountant review and update your records.

The appraiser will consider and rely upon different approaches to determine a business's worth:

• Income Approach: Examines the business's earning potential and cash flow. If your company is continually meeting goals and growth expectations, this methodology will be important to measure.
• Market Approach: Compares the business to similar ones recently sold and factors in gross revenue and net income. Specific market multiples will also play a part in developing value.
• Asset-Based Approach: Focuses on the company's net assets minus liabilities. This approach may apply to companies with large capital equipment and real estate investments.

The choice of methods will depend on several factors, including the industry and the company's current operational state.

The appraiser will communicate with the business owner, gather financial data, and provide a questionnaire covering the company's history and structure. Ensure you provide full disclosure regarding revenue trends and profitability, how the market and industry affect your operations, whether there are ownership (buy/sell) agreements in place, and what discretionary adjustments should be made to the income statement and balance sheet.

In summary, providing clear, well-supported documentation to the appraiser will result in the most accurate and credible outcome. Once you have a formal, current appraisal report in hand, you are prepared for ongoing or anticipated events in your small business where value plays a role in the transaction.

When professional appraisers value businesses and tangible assets, they are educated to consider and rely on a consistent set of methodologies, regardless of the industry or type of asset being appraised. These approaches are critical to understanding how accredited appraisers become independent experts in the field of valuation. Without this set of guidelines, the industry would become a Wild West of unregulated methods, with no unbiased governance.

That said, there are several different variables within each market and industry that will influence the valuation of the subject property being appraised. The overall scope of work and available data will also dictate which methodologies will ultimately be relied on.

In business valuation, for example, multiples and risk premiums relied upon under the market and income approaches will vary depending on the specific company and industry involved.

With machinery, the available market data for new and used equipment will dictate how much weight can be placed on the cost and sales comparison approaches. The useful life and effective age of a particular asset will also affect its value.

These distinct variables will affect the conclusion of value; however, the appraiser needs to remain consistent with the universally accepted approaches they are taught to consider and rely on.

It’s perfectly acceptable to exclude certain approaches if the data is not there to support them or the situation doesn’t call for them. For example, the income approach is rarely used when appraising machinery and equipment; however, it is one of the more common methods when valuing small businesses. This is due in part to the difficulty of tying revenue and expenses directly to a business's underlying tangible assets.

The definition of value being applied will also factor into the determination of the appropriate approach. Fair Market Value-Installed is a concept distinct from Orderly or Forced Liquidation and may determine which methodology is more reliable or supportable.

In summary, every valuation will have its own distinct components that influence its direction; however, the appraiser must use the same consistent set of approaches and methodologies for every project they take on.

As accredited appraisers, we are frequently asked how experienced we are in a particular industry when potential new clients inquire about our expertise. Most appraisers are considered “generalists” and cannot afford to focus a significant amount of time on any one industry if they want to maintain steady revenue and grow their business. There are numerous industries in which companies operate, and it is important for appraisers to apply their skills within all of them to create a diverse valuation practice.

Appraisers go where the opportunities take them, regardless of the industry in which their clients operate. If a valuation expert has been working professionally for a long time, they have likely completed a certain number of appraisals in many different industries, which increases the odds they have experience in the ones they are being asked about.

It’s important for clients to understand the distinction between industry and valuation expertise. They are two very different service provider segments that will intersect at times, but will demand professionals focus their expertise on one or the other. As an appraiser, it is not difficult to become generally well-versed in the industries in which they work when conducting appraisals. Combining the market research developed for each project with direct client communications enables them to understand what they need from an industry perspective to complete an effective valuation.

The standards and methodologies learned and employed by certified and accredited appraisers apply to every industry they work in. All the educational time and effort, as well as the application of these accepted approaches, are consistent for any company being valued. The more experience a valuation expert has, the more it will reinforce the understanding that employing these methods will provide greater support and credibility to their analysis and reporting process.

It is important to understand the nuances of the industry in which you are valuing. There are databases and market sources that provide this kind of information at the appraiser's disposal, if they know where to look. This data will influence the valuation conclusions and is typically based on a considerable number of comparable companies within the same industry.

Regardless of an appraiser's level of experience in any industry, they can provide a credible, supportable valuation of your business if they hold the proper credentials that make them experts in the appraisal industry.

If you have a partner who is looking to leave or is considering bringing in another investor into your small business, you will want to negotiate a fair buyout or buy-in with those involved to avoid a dispute. As certified appraisers, we see many instances in which the process has dragged on for months with no agreement, due in large part to the fact that the parties on each side of the transaction cannot reasonably agree on price.

There’s a lot at stake when valuing ownership shares amid the exit or new entry of investors, and it is common for different perspectives on value to become a sticking point. Before you enter into your first serious conversation about value, you should engage with a professional appraiser who can provide an independent, unbiased opinion of the value of the company as well as the percentage ownership share involved. They will work closely with you to gather the data needed to understand and analyze your business's financial details, while researching the specific industry and market in which you operate. You will have an ongoing open line of communication with the valuation expert to highlight any nuances and adjustments that need to be considered with your business while providing further insight that isn’t readily apparent from the income statements and balance sheets.

One of the frequent areas of dispute in these negotiations is whether to apply discounts to minority ownership interests and, if so, the level of those discounts. This approach may be appropriate if the ownership is considered non-controlling, which typically involves a share of less than 50%. These discounts reflect the lack of control a shareholder would have over the company's operational decision-making, as well as a reduced ability to sell their shares in the market to a third party due to the non-controlling interest.

It will be important to discuss all these topics during the appraisal analysis with your valuation professional, so everyone is on the same page regarding the underlying factors that will affect the value of your company and its associated shares.

To avoid wasting time in the negotiating process and reduce the chances of a serious dispute or even a legal battle, advise the parties involved that you will be engaging with a certified appraiser to conduct an independent valuation of the business and the percentage shares involved with the buy-in or buyout. Once the report is delivered, you can share the results and begin settlement discussions from a non-contentious point, greatly increasing the odds of an amicable transaction.

Remember to do this early in the process to firmly establish the ground rules and maintain a level of control over the process. As a business owner, the end result will impact you more than anyone else involved.

Business owners should be cost-conscious with many of their annual expenses; however, there are certain areas where price and convenience should not be the defining factors. When you want to best understand the value of your business, the only path you should consider is the old school standard. Premium quality and service mean better results you can depend on.

The cheap and easy route might save you money in the short term; however, it can come back to haunt you later. Quality can be measured in several ways, so determine what is most important to you when it comes to working with your valuation service provider before deciding on whom to engage with.

In today’s AI-driven world, it might seem fast and simple to just use an online tool to plug in a few numbers that spit out a value. But these gimmicks are unreliable, informal, and unsupportable.

Think about the following things when considering appraising your company:

Customer Service from Start to Finish

Who is communicating with you most effectively and consistently when you are inquiring about purchasing the product or service? Are they making you feel like the most important client from day one, even before you commit to collaborating with them? Do they follow through with that same level of communication and delivery after you have contracted with them? If the cheaper price leads to poor customer service and late deliveries, you have made the wrong choice.

Reliability of the Product or Service

Are you receiving the best, most dependable product that you expected and are required to have to satisfy your business’s transactional needs? What are the costs to your business if you receive inferior service? Might you suffer a hit to your own company’s reputation or end up on the losing end of a business dispute due to inferior quality?

Your Own Time and Effort Costs Money

Will engaging with the cheaper vendor be more time-consuming for you or your employees? Does the less expensive provider have enough experience and professionalism to save you time and effort? These types of qualities are critical to the process, and without them, you will end up with an inferior product that costs you too much time, which translates to lost revenue.

In summary, consider all the benefits that go along with choosing quality over cost. Don’t find out the hard way that the cheaper alternatives are not all they are cracked up to be.

When valuing small businesses, the appraiser must first understand the circumstances for which the report is being prepared. Unlike machinery and equipment appraisals, where the definition of value is the key variable driving the conclusion, business appraisals will lean more on the purpose and scope of work to determine the best way forward.

For example, if the reason is for an outright sale of the company, the appraiser will need to exclude cash, receivables, and liabilities from the balance sheet since the seller will take these current assets and obligations with them as part of the closing transaction.

If the purpose is a minority share buy-out or buy-in, the business appraiser will need to consider and apply lack-of-control and marketability discounts to the percentage shares being purchased or sold. These discounts will factor heavily into the share value unless the owner or potential buyer has a 50% or greater interest in the company.

Another example is in a divorce scenario, where the company being valued is part of a contested or negotiated asset division. There may be factors pertaining to the ongoing litigation or settlement that will need to be considered before finalizing the value.

How the appraiser calculates and weights the different approaches is also a driving factor that plays into methodology. A business can be valued in different ways, using a discounted cash flow and/or multiples of gross revenue, EBITDA, net income, and discretionary earnings. How these differing conclusions are ultimately weighed will influence the overall estimate of value.

There is always a degree of subjectivity in the ultimate reasoning behind any appraisal. Opinions will differ depending on the data relied upon, the methodologies used, and the appraiser's experience. They need to make sound, common-sense decisions based on supportable data to reach conclusions about value.

As a professional appraiser, all of these critical factors must be carefully considered throughout the valuation process. If you are an accredited valuation professional, always strive to fully understand the big-picture perspective of the underlying transaction your work product will apply to. The purpose and scope of work are important components of developing your appraisal framework. The more you know about your role within the confines of the larger deal, the better your decision-making will be.

As Artificial Intelligence (AI) advances, the impact on numerous industries is becoming more apparent, creating a shift from the heavy reliance on human expertise to automated technology models. The business valuation industry is no exception. Certified appraisers, long trusted for their judgment, experience, and nuanced analysis, are beginning to face competition from AI-powered tools that can process vast amounts of financial and market data in seconds.

Valuing a business in the traditional sense requires several hours of review and analysis with financial statements, comparing industry benchmarks, and applying subjective judgment to factors like risk, growth potential, and market conditions. AI systems can now automate much of this work by leveraging machine learning models trained on thousands of past valuations. These tools can generate highly consistent, data-driven estimates at a fraction of the time and cost.

One of the biggest advantages AI brings is scalability. What once required a team of appraisers can now be handled almost instantly by software, making business valuations more accessible to small business owners who can’t afford professional services. AI also reduces potential human bias, applying standardized methodologies across all cases rather than relying on individual interpretation.

This shift does not mean human expertise will no longer be needed. It should adapt and evolve, especially with more complex cases involving unique assets, legal disputes, and intangible factors. Human insight will always play a role in independent appraisal work; however, for routine valuations, especially in lending, mergers, and financial reporting, AI models may become the norm.

It will become even more important for valuation companies to explain that the importance of working with experienced independent appraisers is more dependable and supportable than relying heavily on AI models. Regardless, the continued advancement and integration of AI in business valuation will result in an undeniable shift. Certified appraisers are no longer the sole gatekeepers of valuation. They may instead need to become more relevant as reviewers, interpreters, and advisors, working alongside AI rather than competing with it. Eventually, those who adapt to this new reality will thrive, while those who do not may find their role increasingly diminished.

Settling a business owner’s estate involves many things that need to be resolved, and with the emotional component of this process, it can become overwhelming. If the individual wholly owned the company or was a partner, you will need to place a value on their estate assets to properly include them in the settlement. In these situations, it's important to engage an experienced independent appraiser who will provide an unbiased opinion of value to facilitate the process.

When reviewing the business and its underlying assets, it is also a good idea to look ahead at how you believe the future of the company may be affected by the prior owner or partner no longer being involved. Is there an opportunity to sell the company to the other partners or employees? Would you consider taking the company forward under new management? Would you need to dissolve the business altogether?

While you’re settling the estate, discuss these topics with the appraisal professional who can provide thoughts and opinions based on their review of the financial history and outlook of the company. It’s possible that the appraisal consultant can assist not only with valuing the business for the estate settlement but also with anticipating a future sale or a change in the company's structure.

Before you decide which consultants to engage during this trying time, inquire about their ability to work with you on multiple fronts so you can accomplish more than the immediate objective and address all the concerns you may be thinking about today.

It’s difficult to manage all the tasks involved with settling an estate, especially if the individual owns many assets. The more support you have to accomplish this, the better you can handle everything in a timely and effective manner.

If you are in the middle of an estate settlement, consider reaching out to professional consultants such as accredited appraisers, who will be there the moment you need assistance.

The appraisal industry is full of acronyms that only those well-versed in the industry can easily identify. Two of the more important abbreviations that factor significantly in the overall valuation of your small business are discussed below:

EBITDA: Earnings Before Interest, Taxes, Depreciation, and Amortization

EBITDA is a measure of a company's profitability or cash flow; however, it may not fully reflect cash earnings. EBITDA considers a wide range of factors in business finances. It is considered a universally accepted appraisal measurement and is also used in accounting circles.

From an application perspective, it is used by banks and financial services companies to estimate debt servicing levels. It is also used to compare similar businesses within an industry or market and to preliminarily estimate a company’s current value using multiples of EBITDA derived from historical databases.

In a buy/sell scenario, adjusted EBITDA will also factor in discretionary and non-recurring expenses, which leads you to the following term:

SDE: Seller’s Discretionary Earnings

Seller's Discretionary Earnings (SDE) is a calculation that considers a business's net profit and adds back discretionary adjustments to show the full financial benefit to an owner or prospective buyer.

SDE is therefore a relevant income measurement calculated when a business is changing hands. Financial data associated with this calculation includes EBITDA, as well as non-recurring and discretionary expenses that won’t impact a company's future value from a new owner’s perspective.

If you're on the acquisition side, SDE provides a necessary benchmark to develop a reasonable estimate of your expected annual return on investment, as well as an understanding of realistic expectations for the business's continued growth. From the seller’s viewpoint, SDE supports an optimal level of value during sale negotiations. SDE allows both buyers and sellers to make informed decisions while preparing to invest in or exit a small business.

In summary, whether you’re conducting a formal independent valuation for a client or involved with the sale or purchase of a small business, EBITDA and SDE are two important data points that will be used measure both the current and future value of a small business.