Business Valuation Blog | Understanding Buying / Selling a Company

Though there is no specific date where we can look at say, "This is the start of business valuation," knowing the history surrounding the development of business appraisals and how this specialized branch grew out of accountancy and appraisal services is helpful to understanding how today's changing market conditions can affect the valuation of a company today. Business valuations can be a complicated topic, but valuation companies have grown out of the demand for better accountability and finer margins in business to maximize productivity. Here are a few short paragraphs on where valuation companies have come from, how they have developed into the complex but extremely accurate reporting systems we see today and where they may take us in the future.

A brief history of valuation companies

Though there is some debate as to the exact time period when the first valuation company or service emerged, it was undoubtedly in the middle of the 1800s as the Industrial Age saw the growth of immigration and larger companies began forming as technology advanced in communications, transportation and climate control, and made it easier for workers to perform more uniform tasks. As these companies were sold, accountants and actuaries were first called upon to study the financial documents of the day to determine their accuracy and the value of their projections. Starting on the east coast of the United States, the Massachusetts legislature passed a law in 1858 that required a commissioner to calculate the potential reserves of policies for all companies in the state that required licensing, to ensure that they were properly covered if needed. 

The original methodology used was the Net Level Premium Reserve Method and the combined experience of the companies, based on the 1843 British Mortality Tables and an average interest rate of 4%. Since that time, the basic methodology has not changed, only which inputs, risk factors and range of information is used to calculate the final company valuation based on their exact circumstances. Later, as the formation of the IRS required better tax accountancy and the 1920's brought about prohibition, the tax breaks and compensation paid to the major breweries and similar businesses by the U.S. Government created the right circumstances for another viewpoint to form. This revolutionary concept was that a company was actually worth far more than simply its assets minus its liabilities or only its equity, the main calculations that were used to that point. This development brought about new concepts including the value of future profit and goodwill in calculating company valuation. 

Up until the 1990s, the work of calculating business value was strongly done by accountants and actuaries, but the development of the internet and the Information Age further narrowed this specialty until business appraisers were able to strike out under their own banner. The National Association of Certified Valuators and Analysts was begun in 1990 and has organized these previously diverse valuation specialists under one united banner, which continues to this day.

As our world and markets continue to diversity, we can expect to see further specialization of business appraisal firms as time goes by. Because business valuations allow you to see exactly where your assets and liabilities are, they are vital to the continued growth of your company and will become a necessary partner for successful companies worldwide as time progresses.

There's nothing quite as nerve wracking as receiving an envelope from a law enforcement officer, court or attorney's office. What is it all about? How can you protect yourself? When you run a business, it can be even worse. Nobody likes having to deal with a lawsuit, whether it's because of a divorce, injury or other litigation. You don't want all the hard work you've put into building your business to go away, but how do you protect your business assets against a serious lawsuit that is demanding more than your business is worth as a settlement or judgment? One way to approach the problem is by proving your business' value through a company valuation. Here are some more details to consider.

What happens in litigation?

During a lawsuit, there is a period of discovery when attorneys from both sides may request documentation. This phase, referred to as discovery, is the point where you need to provide information on your company's financial history, personnel, industry and similar concerns. It is often during this part of the case that a company valuation may be requested or ordered by either side or the judge hearing the case. There may also be legal requirements to use a particular method of valuation for a particular type of lawsuit, or the judge may require a specific type of method be used to determine a company's value for the purpose of the lawsuit.

What information can the other side request?

The other side can request financial information, such as a balance sheet, income statements and cash flow statements. They may also get into business income tax returns, capital accounts, inventory records, aged accounts, accounts payable and receivable, employment and customer agreements, loan documents, employee benefit plans, lease information, asset lists and depreciation schedules. But these documents only reflect a business' financial state, not necessarily its value. A company may also have other mitigating factors such as large one-time costs or income from specific sales, research, development, insurance and similar concerns. Other areas that can affect a company's value include experience and skill of key business personnel, intangible assets such as intellectual property, the nature of the industry and the current market conditions.

How do I prove the valuation of a company in court?

The best way to prove your company's actual value is by having a proper business appraisal performed by a certified business valuation specialist. Because these specialists have been trained in recognized methods and approaches to business valuation, their appraisal reports have legal weight and can hold up in court. In some specific instances, you may want to retain a business valuation specialist who has experience as an expert witness, because they will be able to appear in court to justify a business valuation, especially if it is significantly different than what the other party is seeking in damages and penalties.

Though dealing with a lawsuit is stressful, you can protect your company through business valuations that prevent judgments that are higher than your company's value. If you need help with business appraisals for a litigation, you need to contact a certified business valuation specialist who has experience in legal cases.

When it comes to the world of commercial real estate, we often approach the valuation of a company at the request of a seller who is not sure what the property is worth or who needs a negotiating tool to bring up a low offer. But just as important to consider in the purchase of a company is valuing a business for sale when you're the buyer. How do you know the seller is asking a fair value? Is there something going on with the company if their asking price seems too good to be true or too ridiculous to consider? In this piece, we'll take a solid look at why it's vital to have a business valuation performed on a company you're considering purchasing.

Why Valuing a Business for Sale Helps Ensure a Smart Investment 

Finds Potential Problems

The first thing that can arise in business valuations is potential problems with the company that could lead to serious problems and investment risk down the road. If the current owner is reporting income but not mentioning that it's been a banner year or that income can be irregular in that industry, it's easy to assume that the income level will remain steady at the current levels well into the future. Unfortunately, when the industry goes back into a bust cycle or otherwise goes through serious changes, your investment may end up being a bad risk. A proper business valuation provides you with a stronger set of background information so that you can make a solid informed decision about whether this business is the one you want to buy or if you'd do better to wait for another opportunity to come along.

Discovers Incorrect Valuation Assumptions

Buyers and sellers often have vastly different ideas of where a business' value actually falls. The buyer sees the potential risks and drawbacks, while the seller sees years of dedication, hard work and toil that has built a successful business. Because the valuation of a company must take a neutral viewpoint, the business appraiser can find the true value of the company by both considering all the potential risks that may be in the operation as well as the goodwill that the seller has built up over the years in the community or industry.

Provides a Solid Negotiation Point

One of the most nerve-wracking decision points for many interested in purchasing a business is the sentence, "make me an offer." Suddenly, you're stuck in a careful dance, trying to determine a fair price for the business that neither offends the current owner as being too low nor leaves you paying far too much for a business of questionable value. Just remember, there's no shame in admitting that you're not sure what that would be and that you'll get back to the owner with a potential figure. Business appraisals provide a safe middle ground when it comes to negotiating a price for a business, because you know your offer or counteroffer is based on the actual value of the company.

By valuing a business for sale prior to entering negotiations, you're ensuring that you know all the aspects that could cause problems for you down the road.

When you're entering the world of business valuations, there is so much to learn! Whether you're stuck with terminology, need a better grasp of the different methodologies used and why they apply to each situation or just want a better idea of how the valuation of a company is undertaken, these fabulous business valuation resources will help you quickly understand the complexities of business appraisals so you can use these tools to the best advantage of your company:

4 Business Valuation Resources to Help You Understand the Process

1. Business Valuation Resources (http://www.businessvaluationresources.com/) provides a little of something for everyone. Whether you're a seasoned business veteran who is looking for the latest industry intelligence to determine how it will affect your business' appraised value or are just starting to learn how business valuations can help get your business off the ground and make it more successful, this website has a wide range of topics dealing with business valuation.
2. Valuation Resources (http://www.valuationresources.com/) is an excellent site to investigate if you want to find out more about how the valuation of a company in your specific industry is typically undertaken or how it has been affected by recent changes in the market or methodology used to calculate business appraisals. It also has some great resources for exploring different methodologies used in business valuation, including transaction date on similar businesses and the often misunderstood concept of multiples.
3. AICPA's Business Valuation (http://www.aicpa.org/) gives you a good glimpse at the kind of information certified business valuation specialists work through on a daily basis. As one of several accreditation organizations, the AICPA provides information on their site that both veteran and newer business appraisers work with on a daily basis, giving you some insight into how the process works and why particular approaches are taken to your business valuation appraisal.
4. Business Valuation Law (http://www.businessvaluationlaw.com/) covers the legal side of business valuation. For certain situations, there's actually law in existence about what type of approach must be used, such as in a divorce or hostile partner buyout. This site covers some of the latest changes in business valuation law and how new laws may intersect with business valuation in expected or unexpected ways.

Now that you've had an opportunity to gain a better grasp of company valuation through these business valuation resources, it's time to start applying this knowledge to your company's benefit.

When you're running a business, it can seem really difficult to determine how to build growth into your company. One of the easiest ways to do this is by valuing an industrial company to determine where it's strong and weak, what insights you can pick up and similar aspects. A often ignored option, business valuations help you figure out where to improve, where to invest and which areas you're doing great in. Here's more information on the benefits of business appraisals when you need to get your company operating efficiently again.

Valuing an Industrial Company to Create Growth

May people are under the misconception that business appraisals are only for when you're buying or selling a business. They're often surprised at the depth of information provided in a business valuation report. Do you have multiple locations in similar areas that behave completely differently? Are you trying to figure out how to improve production or profitability? Are you wondering what your business is really worth, whether you're considering selling or not? These are all excellent reasons to have a business appraisal performed.

Many business owners rely too much on their tax accounting records. But tax accounting reflects standardized tables, figures and values. The only way to know whether your business is average or not is by having a business appraisal performed.

A business appraiser who has experience in the industry may be able to offer insights into not only why the business is underperforming, but may be able to tell you how to improve operations. They can make suggestions about how to draw a different crowd to that location to make up the difference.

Some business owners make the mistake of basing their business value on what similar businesses have sold for. While this is in fact one way to value a company, business owners often don't understand how the multiples work and apply them to the wrong numbers leading to an inaccurate assessment. They can be very far off using rules of thumbs or multiples heard at the country club. Differences in income or overhead can also make a big difference. 

Speaking of income and overhead, a good business valuation specialist can tell you where your company excels, where it measures up and where it needs improvement. Maybe instead of taking a risk with that expansion, you really need to upgrade to more efficient equipment. It could be that your company provides phenomenal features in your products, but the market perception is that they don't last long. Any of these reasons can affect your bottom line.

By keeping these benefits in mind, you'll be able to very quickly use the valuation of a company to determine a smart course of action. If you need help valuing an industrial company, a certified business valuation specialist is the best way to go, as they use standardized methodologies in their reports.

When it comes to determining the value of a company, many people, business owners included, consider only what the balance sheet says or what their local competitor sold for recently. But is that a valid way to determine what a business is truly worth? Not by a long shot. Here's our look at how professional business appraisers calculate the valuation of a company:

Behind Assets and Liabilities: How Professionals Determine Company Value

When a professional appraiser needs to determine the value of a company, the balance sheet approach is one of the last approaches used. Why? Because most businesses are far more than simply the sum of their assets minus the total of their liabilities. There are many factors, such as goodwill and reputation, position within the market and many other aspects that can affect the outcome of business appraisals. Here are two of the most commonly-used approaches to business valuations:

Income-Focused Valuation Methods

When a business is being bought or sold, the person who is selling the business is losing future income. For this reason, many businesses are appraised using an income-focused methodology that takes that income into account when determining the final value for the business. Two different methods are used to calculate the appraised value, specifically based on whether the company's income has remained steady or has been irregular in the past:

• The discounted earnings or discounted cash flow method is used when income has been irregular or periods of growth are irregular, and is used to determine the current value of future income.
• The capitalization of earnings method projects the steady growth of the past into the future to determine the current value of that income.

Market-Focused Valuation Methods

The market-focused approach takes into consideration what similar companies have sold for in the market, but customizes the sale figure to the business being appraised. The company used for the baseline may be a similar publicly-traded company or have similar transactions, earnings or revenues to the company being appraised. Common methods used include:

• The guideline public company method, which uses the price paid for minority shareholders in a similar public company in the industry and adjusts it to the company being appraised.
• The guideline company transactions method, which compares the sale price of companies that are of similar industries, size, location and products or services offered and makes adjustments to account for the differences between the sample company and the business being appraised.
• The multiple of discretionary earning method, which adjusts the financial statements from a small company by dividing the sample company's transaction value by its discretionary earnings, which is then used as a multiple for the company being appraised.
• The gross revenue multiple method, which is similar to the discretionary earning method in that it takes the transaction value but divides it by the sample company's gross revenue to develop a multiple for use in the company being appraised. This can be a poor choice if the sample company and the company being appraised are not similar in terms of profitability.

As you can see, there is much more involved in determining the value of a company than simple bookkeeping or real estate values can provide. The best way to ensure your company is receiving a quality business appraisal is by working with a certified business valuation specialist.

When you need valuation services performed to determine the valuation of a company, have you ever thought about what goes into building a valuation service firm? Are there minimum qualifications, certifications or licenses that are required? What groups oversee business valuation specialists to ensure they're doing their job properly? In this particle, we'll take a look at what it takes to provide valuation services to businesses:

Education

Because business valuation appraisers specialize in appraising businesses, they apply a variety of business valuation approaches to analyze a company's worth. This requires both knowledge and intelligence in determining which type of appraisal to use in which situation and what practices are considered acceptable in the process. For that reason, business appraisers usually have a degree in addition to experience, training and certification. As business appraisal has come out of the accounting industry, many appraisers have experience or a degree in accountancy or business and likely have experience in business transactions. Some business valuation specialists focus on a particular industry or a specific type of business appraisal, allowing them to serve as an expert witness in legal cases to better explain the valuation methodology used in a variety of cases.

Certifications

There are a number of accrediting agencies throughout the United States that offer certification through exam and experience to help ensure qualified business appraisals can be performed by its members. Here are a few of the agencies that are recognized and the certification they provide to their qualified members:

• The National Association of Certified Valuators and Analysts (NACVA) oversees their Certified Valuation Analyst (CVA) program since 1991 and their Accredited Valuation Analyst (AVA) program since 1999.
• One of the most widely known organizations, the American Society of Appraisers (ASA) oversees their Accredited Senior Appraiser (ASA) certification program since 1981.
• The American Institute of Certified Public Accountants (AICPA) has provided the Accredited in Business Valuation (ABV) certification since 1997.
• The Institute of Business Appraisers (IBA) has the oldest certification program in existence. Started in 1978, they administer and maintain the Certified Business Appraiser (CBA) business valuation certificate.

Legal requirements

One of the regular questions we are asked by clients is whether there are legal requirements for becoming a a business appraiser or to run a company valuation service. The Small Business Administration requires certification by one of the previously-listed accreditation agencies, including maintaining an active membership with at least one of the accreditation agencies and re-accrediting their certifications when needed. But beyond requirements, it is vital that a business appraiser receive additional training, have educational opportunities available and can build their experience through their work. Beyond that, some situations, including litigation and divorce, require using a qualified and certified business appraiser who has the knowledge and experience to use the proper methodology for each situation.

Benefits of working with qualified valuation services

When you use a qualified business valuation specialist, you know that your payment is going to provide a quality valuation report that will stand up in legal, financial and insurance circles. That means that whatever your purpose is in obtaining business valuations, you won't need to worry about the validity and that a valuation provided by an independent appraiser will stand up to scrutiny.

Construction is and has always been a boom/bust business. Either business is so great that you can't keep enough people hired or so poor that you're barely keeping the lights on. How can you ensure your construction company will make it through the hard times and get the best out of the good times? A quality business valuation performed by a certified business appraiser provides you with amazing insights into where and how your company is profitable and how to plan for coasting through the rough patches. Here's how:

Valuing a construction company to navigate industry slumps

Many business owners consider the valuation of a company using serious business appraisal methods to be something for Wall Street. But how do you think the big companies got there? The owners, executives and managers paid close attention to what was going on in the business and made good decisions. Much like the stock market, construction has a lot of ups and downs, and to take advantage of market conditions, you need to know what shape your business is in first.

If the market is going into a slump and there's a competitor considering selling out, is it a good time to buy? It could be, even if the market is going into a decline, if both your business and the other business are on solid financial footing. The best tool to use to make a smart decision, especially if you don't have a solid background in business yourself, is having business valuations performed by an experienced business appraiser. But why wouldn't you use the asking price as a point for negotiations? Surely the owner wouldn't be asking too much for the business, right? Not necessarily. An asking price is just that. It's an opening point for negotiations and represents what the owner hopes will come from the sale of the business. A business appraiser takes many more considerations into account when valuing a business.

What about the new machinery you're considering buying during an upswing? A business appraiser's recommendation might be to get an equipment appraisal to give you a better idea of what your assets are actually worth rather than a random estimate. This can help qualify you for better financing and lower interest rates, which allows you to put even more into your business. Basing your assets only on what a balance sheet says after tax time can leave you under- or over-estimating the value of your assets. Why? A tax accountant takes the value of your assets and depreciates them over a certain amount of time. The  2-ton box truck you use may be completely depreciated in five to seven years, showing a zero value in your accounting system. But what if it dies after three years and you lose money because it wasn't completely depreciated? What if it lasts 12 years and still has value after being completely depreciated? A formalequipment appraisl will take these factors into account.

Having a business valuation performed on your construction company helps you navigate the rough times and take advantage of the good times. It allows you to take your business further while protecting your investment against unnecessary risk. Are you ready to improve your construction company and your chances at real success? If you're not currently working with a certified business appraiser with experience in construction, you're leaving yourself open to risk.

When your business is thriving, it's easy to get caught up in the rapid pace of a successful business. But we've all seen situations where a very successful business suddenly failed because the managers and executives didn't know valuing a growing business was important to stave off problems that would show up down the road. How does the valuation of a company help your growing business remain successful? Here's a quick look at how business appraisals can be used to develop dynamic insights that assist comprehensive business planning.

Changing Values: How Valuing a Growing Business Helps Monitor Growth

A company valuation provides insight into your business' growth through a few different mechanisms. These mechanisms look at your business' internal values, comparisons to similar businesses and across the industry as a whole. Here's what the appraiser is looking at:

The Business Itself

Your business is unique in its own way. It has different practices than other businesses. You have specialized knowledge for getting the job done. A good business appraiser is aware of that and will  look at your entire business. Because a professional appraiser only works on valuing businesses, they can tell you where you may not have enough cash in the business, too much of your assets tied up in equipment or whether the investment you're making is a great deal or a terrible risk because of the cash flow situation.

Comparison to Other Businesses

How does your seafood restaurant compare to others in the market? Because business valuation specialists spend their time valuing businesses, they can quickly see factors that you're not taking into account. How does your revenue and earnings stack up against similar companies?  

Statistical Comparisons

A good part of this process is using ratios to compare your business growth to that of other businesses, both locally and across the country. They can be used to determine ROI on both assets and equity. They can also be used to calculate safety and liquidity, a current ratio, a quick ratio, debt to equity and sales versus working capital, along with others.

Industry-Wide Comparison

There's also a focus on the industry as a whole. Even if you're still selling oil pipeline, the oil industry may be going into a serious slump. That means you could be facing a cash flow and market crisis shortly. A good business appraiser will look at the industry as a whole and your part within it to help you project where your business will be going in the future. 

As you can see, valuing a growing business gives you great insights into what you need to do to continue that growth curve. But don't use just any appraiser, make sure you're working with a certified business appraiser who has the experience to calculate a comprehensive business valuations for your business. Don't have one to work with who is familiar with your industry and experienced in the type of business appraisals you need done?

Imagine that the day has finally come to sell the family farm. Do you know how much your farm might be worth to young farmers looking to buy a working farm? If you set the value of your farm too high, no one will buy. If you set the value too low, you leave money on the table. Learn business valuation methods that work for farms to ensure you set a fair asking price when selling your farm. 

What Method to Use for Valuating a Farm? 

There are many ways that you can take the value of a farm prior to a sale. Here are a few methods that are commonly used when evaluating farm values: 

• Net worth - Many farmers are used to taking the net worth of their farm every year. Yet a net worth gain only measures an influx of cash, and does not account for the value of the land. Net worth can be used to demonstrate the farm's return on equity, and show how productive the farm is compared to others like it. However, net worth alone is not very useful when taking the valuation of a company prior to a sale. 
• Discounted earnings method - Another method that's commonly used for farm valuations is the discounted earnings method. In this method, an appraiser will calculate the value of expected future earnings in today's dollar. This method is often used with businesses that, like farms, may have inconsistent earnings from year to year. If your farm has a lot of anticipated cash flow, it could be seen as a hot commodity on the market. 
• Market value - It may be useful to directly compare your farm to that of others near you for sale, by taking a market approach to company valuation. In a market value approach, you might find several farms that offer the same products, are roughly the same size, and are in comparable locations.
• Asset approach - In some cases, it might make sense to use an asset based approach to tally the total value of assets on the farm. Farms tend to have a lot of expensive machinery and heavy equipment, such as tractors or combines. Anyone who buys the farm assumes possession of these valuable assets, so it makes sense to include their monetary value in the farm's worth. It can make sense to value your assets if you want to see them separately from the farm; say, at a machinery auction. An equipment appraisal may also be suggested.

Since the valuation you set for your farm has an immediate impact on how much you stand to reap in a sale, it's in your best interest to have the farm professionally appraised. You may want to do this a few years before you plan to sell the farm, so that you have time before the sale to make improvements that increase the farm's value. 

An appraiser who has experience with the farming industry can examine your farm, determine the appropriate method or combination of methods to use, and complete the appraisal for you. Then all you need to do is advertise the farm for sale.